Alternative lending has become a popular topic over the past decade, with discussions mainly focusing on how technology has caused its evolution.
Less attention has been drawn to the ‘alternative’ collateral that some of the lenders have been lending against, which differentiates their services from those of traditional lenders.
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Vintage cars, diamond rings and artwork are among the luxury assets that asset-rich but cash-poor entrepreneurs have been securing loans against.
The public has mainly associated luxury asset loans with consumer finance, but SMEs have been increasingly using this avenue for finance. Lenders in the market have been offering cash-constrained businesses loans of up to £2m (2.7m).
Process and regulation
Traditional loans typically request the client to put up assets such as houses or cars for credit. They also involve personal credit scores.
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By GlobalDataOn the other hand, luxury asset loans are executed by tapping into the value of assets which are expensive and highly desired, but not necessities. Lenders hire internal or external appraisers, allocated according to their expertise, to evaluate assets borrowers aim to use as collateral.
The valuers produce reports which include the open market value and trade value; the amount lent is dependant on the trade value.
Interest rates are allocated on a risk-reward basis. They can vary from lender to lender, but also depending on the asset, the value of the loan and its duration. For example, refinancing a luxury car would involve the cost of inspection, which is likely to increase the rate of interest.
Luxury asset lender HNW Lending told Leasing Life that borrower rates averaged 12% p.a in January and similar lender Borro’s interest rates vary from 2.99% to 6.99% per month.
After agreeing the loan duration and rate of interest, the asset is held by the lender until the borrower repays the loan and reclaims it. If the borrower is unable to repay the loan, the asset is liquidated to settle accounts.
The Financial Conduct Authority (FCA) isn’t greatly involved in this segment of the market, as the majority of the contracts are exempted from the Consumer Credit Act.
Exemptions occur when a borrower is a high net worth (HNW) individual and borrows more than £60,260.
For someone to be classified as a HNW individual under the definitions of the Act, the person has to own half a million pounds of assets outside his/her main residence and/or have more than £150,000 annual net income after tax.
In order for the contract to be exempted from regulation, borrowers have to sign a declaration that they are a HNW individual. In addition an accountant has to sign and confirm that the client is a HNW.
As the majority of people owning luxury assets meet the criteria to be classified as HNW, most of the contracts do not fall under FCA regulations.
However, the companies themselves are regulated by the financial regulatory body.
Miami property developer Martin Margulies secured an $80m (71.3) loan with his collection of 59 artworks in 2012. Pieces by Jackson Pollock, Mark Rothko and other famous artists were used as collateral to obtain a construction loan for his 24-storey condominium project called Bellini Williams Island in Florida.
Art is hard to value and authenticate, thus few mainstream banks are prepared to lend against it. They are also reluctant to give loans against some other major assets such as precious metals, jewellery and fine wine.
These lenders give an opportunity to entrepreneurs to get finance for their businesses by using unusual items as collateral, for example Borro has lent against an Olympic gold medal.
However, lenders do have some preferences and conditions when looking into assets to finance.
Renaissance Asset Finance founder, Hugh Sigrist said: "We prefer harder assets which have a recognised value It is also just as important that they are easily disposable over bespoke assets and specialist machinery. The more common the asset, the easiest to fund because we know we can effectively sell it quicker if we have to."
Sigrist notes that the least desirable assets are fixtures, for example machinery which is fixed to a building or a factory, especially when the property does not belong to the company. Permissions from the landlord would need to be requested and this complicates the process.
Borro has lent £70m to SME owners since launch, more than half of its entire loan book, with the average loan to SMEs at £29,000. To date Borro has offered 15,000 loans to SME owners.
These figures show that a substantial number of SMEs are taking this finance route.
According to the lenders the small business clients come from a range of industries, with no particular business sector requiring their service more than others.
Alternative lenders claim there are many reasons why SMEs choose to seek finance through them instead of banks, beyond the acceptance of ‘unusual’ assets as collateral.
They cite flexibility, speed and better understanding of the assets as the main comparative advantages over traditional lending methods.
Sigrist says: "The speed of service and understanding the asset being funded is very important and it’s quite a specialism. When a traditional bank looks at a loan facility, it will have all sorts of preset policy parameters on writing their loans. The security would not be like a key part of the actual transaction, whereas with us it would be and would make up the majority of our security.
"If you understand the security and you are comfortable with lending money against it, then it’s not so difficult to lend. The main difference is flexibility and hands-on lending, rather than a central policy approach."
Short-term loans
Lenders found that SME owners use their services mainly when they seek cash immediately for short-term issue; the most popular are: paying for new stock, paying staff wages, customers not paying on time, buying machinery, and capital purchase. The companies providing luxury asset loans claim that the period before cash enters into the client’s account is less than that needed when a bank grants a loan. Apart from the speed of transaction, the process is faster because of the lack of credit checks.
According to Claire Barrington-Jones, group sales director at Borro, the lack of these checks makes luxury asset loans more attractive as many SME owners don’t have an ideal credit history.
"We don’t need any information on someone’s financial background; we don’t need to see previous accounts or perform any sort of credit check making us a very attractive choice for those with a more lumpy cash flow," said Barrington-Jones.
Luxury asset lenders also believe that the close communication with entrepreneurs, which sometimes involves visiting the client’s business, is highly appreciated and differentiates them from banks.
Another reason why luxury asset lending has become popular among SMEs is that high street banks have been reluctant to lend to them, since the financial crisis.
Despite the Funding for Lending scheme and Chancellor of the Exchequer George Osborne’s support, higher lending to small businesses was not triggered. On the contrary, larger businesses consistently have a wider pool of funds to choose from.
"I think the market is growing in the UK," says Ben Shaw, director of HNW Lending. "People are beginning to realise they can use more unusual assets to raise money. I think there’s going to be real growth." With hundreds of thousands of millionaire households and 10,000 ultra-high net worth individuals – anyone with assets of £20m or more – the UK seems to be an ideal market for luxury asset-based lenders.
Despite this, the number of firms offering such loans is still low, though it has increased over the past year, with new companies entering the market, some backed by external investment. For example, Renaissance Asset Finance got funding from the Bank of London and The Middle East.
It’s hard to define the share of luxury asset lending in the overall marketplace lending, but Shaw believes the UK is a leader in this as well as alternative lending. He says: "The UK is a great place to raise money; it is very innovative when you look at the type of new lending platforms. I think we and the US are ahead of anybody else. That’s why the whole of Europe and the Middle East comes here to raise money. Because we are very innovative here in London; we offer unusual solutions."
According to the lenders, even if UK economic growth slows down, the market for luxury asset loans won’t be affected. Different parts of the lenders’ portfolio are popular during different economic conditions. For examples products like refinance and sales and leaseback are more successful during economic slumps.
Shaw says: "When the economy is booming, companies are growing and they need finance to help grow their business. In the downturn you have companies that need to borrow because sales are slow, they do not want to lay off staff, and they need to borrow a little bit of money. You find that banks and other lenders don’t tend to lend as much when there’s a downturn, therefore specialist lenders will not see our trade dropping."
Another reason causing this sort of lending to be unaffected by a change in financial conditions, is that the clients are high net worth individuals.
"Typical Borro clients are not in difficulty; they are opportunistic people usually using us for a transaction that is going to make them money," said Barrington-Jones.
Default rates
There are no statistics specifically on the UK market for luxury loans, therefore it’s difficult to record the default rate for this segment of the industry.
According to the lenders the default rates are low, despite the high number of SMEs and specifically start-ups which are granted loans. Borro saw around 8% of its clients have opted not to pay back the loan. Low default rates were confirmed by the other companies of the market Leasing Life has contacted.
These alternative lenders not only have to compete with banks, peer-to-peer lenders and crowdfunding platforms. As the assets are very niche, auction houses and wine dealers are providing loans against their assets of interest.
Sotherby’s has created a financial services division, offering loans against the value of someone’s collection. Wine-backed loans have also increased in popularity, with London-based Bordeaux Cellars having already offered millions against bottles of wine.
As more high net worth individuals become aware of the ability to acquire luxury assets, the competition may increase as large organisations and banks could enter the market.
Goldman Sachs has already granted a loan backed by wine in June 2003, when it accepted nearly 15,000 bottles of fine wine as loan collateral from a former executive. n
