However, since the company's business position and strategy form the basis for the lending decision, lenders try to ensure that the borrower does not significantly change its business fundamentals. For example, a credit agreement may prohibit a company from selling most of its assets, from acquiring a company in an unrelated business, or from dramatically changing its capital structure. The most basic element of credit structure is the maturity schedule of the debt. You should be confident that one or more sources of repayment will be available by the time the loan comes due. When a company provides collateral for a loan it promises that any value from the sale of that asset will go first to repay that particular loan.
Businesses often pledge accounts receivable, inventory, and fixed assets for loans.
While collateral can increase a lender's recovery in case of default or bankruptcy of the borrower, this is not always an easy process. A bank must generally go to court to foreclose on the assets. Thus, while collateral is good to have and generally increases the credit quality of a loan, it is not a substitute for good credit analysis. If you think a company is going to default, don't make the loan, even if they offer you a lot of collateral. Non-investment grade companies, however, often provide collateral to their lenders in order to improve the credit quality of their loans and reduce the interest rate.