credits

Asset-light companies reshape private credit as lenders embrace intellectual property collateral, despite valuation challenges, legal risks, and AI-driven obsolescence concerns.

Asset-light companies are changing the world of private credit.

Unlike businesses that can rely on a heaping basket of assets like inventory, equipment, and real estate as collateral for private direct lending, these companies tend to use some of the most illiquid and difficult-to-value intellectual property (IP) as collateral.

“Capital is increasingly being formed around asset-based finance [ABF] strategies, but it’s still relatively early innings of where ABF will grow to within private credit markets,” says Brian Armstrong, managing director, US Direct Lending at Benefit Street Partners. “We believe ABF has the potential to be one of the fastest-growing asset classes over the next five years.”

Private-credit assets under management are expected to exceed $2 trillion this year, according to Moody’s 2026 Global Private Credit Outlook, published in January, which predicts they will approach $4 trillion by 2030. “Corporate lending still makes up most of the private credit lending, but momentum is shifting towards ABF,” the authors wrote. “While more difficult to track, ABF has the potential to eclipse the size of more traditional corporate lending.”

Pledging IP for collateral is not new; specialty retailer J. Crew used a mix of IP and other assets as security for more than $540 million payment-in-kind notes about a decade ago. The difficulty in using IP as collateral has been obtaining a fair valuation of assets such as data sets, proprietary software platforms, and patent and trademark portfolios.

Approaches to doing so include discounted cash flow analyses of the asset, benchmarking against comparable transactions, and estimating the asset’s replacement or reproduction costs. Often, businesses rely on an independent third-party valuation firm such as Alvarez & Marsal, Holihan Lokey, or Kroll.

One of the greatest concerns of ABF lenders, however, is the transfer of IP out of the basket of pledged assets.

“In many deals, covenants permit the borrowers to certify in their reasonable commercial discretion what the value of a given asset is,” says Jake Mincemoyer, partner and global co-head of Debt Finance at law firm A&O Shearman. “That’s what has gotten lenders very concerned, given a handful of transactions where borrowers have taken advantage of that and taken a crown-jewel asset out of the collateral package and levered it up elsewhere. So, it’s really been how do we make sure that if we’ve lent against it, we keep it?”

A prime example is the aftermath of J. Crew’s 2017 transfer of pledged IP to a new, unrestricted subsidiary, which was excluded from the parent company’s restrictive covenants and debt limitations and enabled it to raise further capital by pledging the same IP. What has become known as the “J. Crew Maneuver” has led to the inclusion of a “J. Crew Blocker” provision in debt covenants that prevents borrowers from transferring material assets into unrestricted subsidiaries.

That safeguard has not stopped borrowers from executing a variation on the theme, however. In February, Xerox moved IP assets pledged to existing debt to a joint venture in which it owns a 49% stake and raised an additional $450 million in funding. That minority stake prevents the joint venture from being considered a subsidiary under its debt documents, according to Ropes & Gray’s Distressed Debt Legal Insight, published in March.

“Borrowers have found more creative ways to operate within their credit documents, which has driven lenders to be more careful and thoughtful around tightening any unintended flexibility,” Benefit Street’s Armstrong says.

Transatlantic Divide

As in real estate, the ease of obtaining ABF while pledging IP as collateral depends on location. North America is approximately five years ahead of Europe due to EU law regarding governance of intellectual property and its use as collateral.

For example, under the European Parliament and Council’s Directive/24/EC, the original software developer, whether an employee or a consultant, owns the copyright to their code, unless their contract states otherwise. But proving the provenance of software code can be difficult, especially if it contains open-sourced content and third-party APIs.

“The market is not fully prepared yet to take on the whole financing of software, given the uncertainties around ownership,” says Steffen Schellschmidt, Munich-based partner and private credit specialist at the law firm Clifford Chance. “You have to do a comprehensive and costly due diligence on this.”

This has led most European private lenders to focus more on registered IP like patents and trademarks, whose ownership is easier to determine.

Secondly, and unlike in the US, EU law does not permit the inclusion of software IP in a floating charge, Schellschmidt notes: “So, once security is perfected under European law, assets can still be transferred, but their value is diminished as they remain subject to the existing pledge.” That creates a funding gap for businesses that fall between early-stage startups and large, successful companies in pharmaceuticals and other knowledge-based industries.

“That is why we don’t have a Silicon Valley,” Schellschmidt contends.

The EU is working to eliminate the funding gap. As part of its Strategic Plan 2030, the European Intellectual Property Office (EUIPO) and the European Commission brought together policymakers, IP offices, financial institutions, business leaders, and subject-matter experts in an IP-Backed Finance Steering Group and Technical Working Group on IP Valuation at the end of last year.

The Technical Working Group is mandated to develop an IP Finance Roadmap to “help businesses across Europe, especially startups, scaleups, and SMEs, access finance based on the value of their intellectual property.” The Steering Group will then review the roadmap and shape the EU’s strategic approach to IP valuation and financing, according to EUIPO statements.

AI Speeds IP Obsolescence

AI is affecting ABF, especially at businesses that plan to pledge enterprise software as collateral.

“Whether an asset is tangible or intangible, it will decay over time. Nothing holds all its value forever,” says Mark McMahon, managing director and global practice leader at Alvarez & Marsal Valuation Services. “If it’s a mine, it’s called depletion. If it’s a hard asset, it depreciates. If it’s software or another form of IP, it’s obsolescence.”

Computer code-writing AI engines, such as Anthropic’s Claude Sonnet and Microsoft’s GitHub Copilot, are only shortening the window to obsolescence for existing software stacks and lowering the value of software as collateral as market competition heats up due to lowered barriers to entry.

“The risk associated with a long-term software revenue stream might not necessarily be today what you estimated it to be even half a year ago,” McMahon notes.

However, AI should not be considered the death knell for software’s value as collateral, A&O Shearman’s Mincemoyer says.

“The same way that people figured out how to come up with all kinds of very creative and useful software programs that then they could package as SaaS businesses and really be constructive in the economy, I have to think that AI tools are going to allow even greater advancements and even greater new businesses and new tools as people are using them,” he says. “Does that mean the question is, Will the three or four people running the most powerful AI tools take over everything? There’s a risk of that. Do I think that actually will happen? Probably not.”

That said, the increased speed of software development should lead to more active management of collateral. As Benefit Street’s Armstrong advises: “If your IP collateral could conceivably be directly impacted by AI, you should certainly more frequently review and revalue that collateral to ensure your loan continues to be covered by the value.”

Despite these trends, ABF lenders’ appetite to accept various types of IP as collateral is growing. “Over the last five to 10 years, I have seen a large increase in financing being done where lenders are comfortable lending on nontangible assets,”  Mincemoyer says.