Movable Assets-Based Financing: Cases and Policy Implications

The Korean government’s plan is regarded as a key task to improve the collateral laws and regulations on movable assets. In May 2019, the government adopted a plan to promote the use of movable assets as collateral by strengthening the rights of creditors and enhancing the infrastructure to evaluate, control, and dispose of movable assets. However, if creditors should establish a security right for each category of movable assets, such practice creates not only inconveniences but also complications in terms of identifying security rights for various assets, controlling the secured assets, and disposing of the collateral in case of default. Particularly, assets such as machinery, inventory, and intellectual property needed for a manufacturing process may create a synergistic value when brought together. This value can be better reflected in asset-based lending when these different categories of movable assets can be secured under a single security right.

In the US where asset-based lending is widely used, establishing and perfecting multiple categories of movable assets in a single security right is a general practice. The Uniform Commercial Code does not impose restrictions on setting a security interest on multiple assets without a specific description as long as creditors and debtors agree. Accordingly, revolving lines of credit is broadly used, where the borrowing base fluctuates with the changing value of secured movable assets, including machinery, inventory, and receivables.^[1]

Typically, creditors and debtors complete a security agreement that reasonably identifies collateral―without the need to specifically pin down assets―and files a financing statement that states that a security interest is set up for “all assets now owned or hereafter acquired” to perfect the security interest.

Meanwhile, Calomiris et al. (2017)^[2] empirically show that collateral laws that strengthen the creditor’s ability to use movable assets as collateral contribute to promoting the use of asset-based lending against movable assets and increasing the collateral values of movable assets. They constructed a movable collateral law index (MC Law Index) and conducted an empirical study with cross-country data on 12 countries, including Hong Kong, China and Singapore. The MC Law Index is based on seven features of collateral laws, such as whether businesses may grant a non-possessory security right in a single category or in all movable assets without a specific description of the collateral, and whether parties may  agree in a movable collateral agreement that the creditor can enforce its security right out of court. A high score on the MC Law Index means a strong ability of creditors to use movable assets as collateral.

These features could be regarded as not only strengthening the rights of creditors but also expanding the discretion of creditors and debtors so that the two parties can design security agreements that reflect their particular circumstances and the characteristics of the collateral. They show that the share of lending against movable assets as well as the loan-to-value ratios for movable assets, relative to those for immovable, is higher in countries with higher MC Law Index scores.

^[1] P. Clarke. 2017, Asset-Based Lending: The Complete Guide to Originating, Evaluating and Managing Asset-Based Loans, Leasing and Factoring.

^[2] C. Calomiris et al. How Collateral Laws Shape Lending and Sectoral Activity. Journal of Financial Economics 123, 163-188, 2017.

The series of policies to promote asset-based lending against movable assets since last year―including the plan to allow the use of security rights on multiple categories of movable assets―are meaningful in terms of strengthening the rights of creditors and expanding the discretion in using movable assets as collateral. However, to realize the full potential of the policies, more effort is needed to reform related laws and regulations, enhance administrative infrastructure to register and search for security rights on movable assets, and build the market infrastructure to evaluate, control, and dispose of movable assets.

In the long run, it is necessary to examine rigorously whether to maintain the current collateral laws under which movable assets are treated similarly as immovable assets, or to reform these laws so that security rights on movable assets are under a separate legal framework in the fashion of the US Uniform Commercial Code or the UNCITRAL Model Law on Secured Transactions. Either way, the laws and infrastructure regarding the use of movable assets as collateral need to fully consider that movable assets are more varied in type, volatile in values, and portable than immovable assets.

Lastly, there is a need for close monitoring of the pattern of lending against movable assets to mitigate potential inconveniences for creditors and debtors and to ensure that the use of movable assets as collateral enhances the conditions and accessibility of debtors as well as avoid concerns on consumer protection.

C. Calomiris et al. 2017. How Collateral Laws Shape Lending and Sectoral Activity. Journal of Financial Economics No. 123, pp. 163–188.

Korea Institute of Finance website  https://www.kif.re.kr/kif2/eng/main/

P. Clarke. 2017, Asset-Based Lending: The Complete Guide to Originating, Evaluating and Managing Asset-Based Loans, Leasing and Factoring.