An Inconvenient Essential--Part Two

In our last post we identified the invoice verification process as a potential source of “friction” in TRE operations; potentially a threat to both its speed of growth and even to its scale.

We discussed the steps taken by TRE to mitigate the friction and concluded that there appears to be a reasonable balance between: a) the risks posed by forgoing certain typical verification requirements, and b) the risk-mitigation elements in the TRE process.

But the issue cannot be left there. The fact that there are procedural protections that mitigate the apparent risk does not address the question raised by the fact that TRE, itself, verifies the receivables proposed for sale.

Given TRE’s rapid growth goal and the potential for the verification process to impede that growth, there is a potential conflict of interest that has to be acknowledged.

According to the materials available on the TRE website, it was initially expected that the verification process would be outsourced. The idea that a reputable third-party would be handling the verification process was expected, I assume, to give Buyers comfort that there was no potential conflict.

In fact, however, the process in place does not include an independent verification agent.

I do not know what caused the change in direction so my comments here have to be understood as no more than my own speculation.

If I were going to identify a list of candidates for the job of verification agent I would probably start with the big accounting firms: well-known, respected and knowledgeable; the names you find on public companies’ audit reports. They also employ hordes of relatively inexpensive, entry-level professionals.

The second group that I’d reach out to would be the credit rating firms with high name recognition i.e. D&B, Experian, Equifax, etc. These firms also employ large numbers of relatively inexpensive information gatherers.

From the perspective of an accounts payable person in a Debtor’s office it would probably not seem unusual to get a request to verify information from either a well known accounting firm or from a credit reporting agency.

From there, though, I begin to scratch my head. I’m not sure what other type of firm would have the capacity, the name-recognition, the staff resources and a willingness to consider the job, at a pricing level that would make sense.

If a well-established accounting firm or credit reporting agency were to consider the assignment, what would be the likely outcome? My guess is that they would quickly get tied-up in problems of definition, procedure, authority, work product and potential liability.

What level of authority must the individual providing verification possess? How is that authority ascertained? What reason can the verification agent give for wanting the information? After all, the Debtor isn’t told the invoice has been sold. What is the minimum evidence of acceptable confirmation? What specific assertions are required? How does the verification agent assure TRE that it has actually obtained the information if it is obtained only orally? Would it be feasible to obtain any written verification and, if so, at what cost in terms of transaction speed? What level of liability, if any, would the verification agent assume for the accuracy of its information? If no liability is assumed, what is the quality-control leverage?

You get the point!

The IDEA of an independent verification agent is unquestionably an appropriate one. The difficulties in implementing the idea are just as obvious.

The question now becomes: given that there IS an apparent potential for conflict, how real is the likely risk to a buyer?

In order for TRE to grow as it wants to grow, it needs more than anything else to establish credibility early. Better to lose potential business through excessive caution than to subject Buyers to losses through lax underwriting.

There is also meaningful value to TRE, I suspect, in doing the job itself (at least for a time), since the experience it gains will help it better fashion an effective relationship with a third-party should it attempt that in the future.

My own view is that, while the potential for conflict is obvious, the current risk is minimal. The stakes for TRE are too high at this point to jeopardize its long term goal by taking shortcuts this early in its development.

However, as the exchange ages a bit and the time approaches to actually meet the growth goals on which its establishment and financing were based, the level of risk could well rise.

As one who wishes success to the TRE enterprise, I hope that its management plans to ultimately establish the independent verification process that was apparently contemplated in its initial conception of the exchange.