Asset Backed Financing Options for Angel Liquidity

A few weeks ago I provided a comparison of different debt options for startups.  This generated a conversation about debt options for angels and angel groups and whether there were cost-effective ways to tap extra liquidity when needed.  There certainly are a broad range of debt offerings emerging as non-bank financial service providers all look for substantial yields.

One interesting method is the asset backed financing offered by Merrill Lynch/ BOA and Morgan Stanley, among others. Broker/dealers have always had margin accounts where investors could borrow funds to buy stocks or bonds. Using one’s existing exchange listed shares as collateral for startup financing is new, however. (This refers to investors’ stocks, not those of the entrepreneurs.)

There are two main types of asset-backed financing that might suit angels. The first is the more well-known “customized credit strategy,” which the afore-mentioned financial institutions structure for wealthy clients.  This strategy uses complex collateral such as real estate and hedge fund positions as backing for a credit line. These are more commonly used to purchase fixed assets such as real-estate, but can be used to finance startups.

The second type offers more scope for the angel community.  This asset-backed financing is basically a multi-year revolving line of credit backed by a collateral position of securities.  The type of security determines the percentage of credit.  At Merrill Lynch, for example, you can get a credit line up to 50% of the value of a blue-chip equity position; 60% of mutual funds; 80% of fixed income securities; 90% of treasury funds; and about 93% of money market funds.  (When the value of the collateral fluctuates by more than 20%, a collateral call is made.)  Especially in comparison to other credit lines, the interest rates are low.  If the money is not used to purchase other publicly traded stock, this can be in the range of LIBOR + 200bps.  Acceptable use would include investing in preferred shares or convertible debt.  It would not include Private Equity investments since these are considered “offered to the public”.

This revolving credit line could be valuable when an angel wants to increase his or her investing in private equity deals and find it’s hard to utilize savings that are locked in 401Ks and IRAs.

It seems inevitable that startups require more funds than initially planned for, sometimes meaning investors need greater liquidity to make more investments.  If investors wanted to tap liquidity without selling assets and incurring capital gains, they could consider these options.