Sunday, November 15, 2009

Caveat Emptor # 2

In our post of June 20: “Blanket Security vs a Security Blanket” we discussed the fact that a Buyer of invoices on The Receivables Exchange obtains, via TRE, a lien on the receivables purchased and on any excess cash that might be available in the Seller’s lock-box account.

This is in contrast to the blanket lien on all of a Seller’s receivables that is often acquired as security by a factor or invoice purchaser; or, short of that, to the lien on all receivables due from one or more named Account Debtors.

The actual collateral providing security to a TRE Buyer is minimal relative to the industry norm.

The TRE Seller does provide an unconditional guaranty to repurchase a receivable sold on the Exchange if payment is not made to the Buyer by a date certain, which provides additional security to the Buyer. But that security is only as good as the Seller’s ability to perform.

So the importance of an accurate assessment of the Seller’s financial capacity actually increases in the context of a TRE transaction; because the specific collateral provided is more narrowly defined.

We’ve noted that the Exchange requires certain financial information to be provided by the Seller and that the TRE trading platform makes access to that information convenient. The Exchange itself, however, takes no responsibility for the accuracy or adequacy of the information provided and makes it clear that Buyers are responsible for their own due diligence and decisions.

As I’ve said before---that's fair enough, as long as we know the rules.

Those who have been in the business of buying receivables for any period of time will probably have had experience with transactions “gone bad”. Most would agree that more can be learned from one bad deal than from dozens of deals with which there have been no problems.

One of the things that I’ve learned is the importance of knowing whether I’ve really got a good, clear lien on an asset, and who else might pop up to make a claim on assets if things go bad for the debtor.

Not long ago an auction was posted on TRE by a first-time Seller. Besides financial statements, TRE makes available on its Seller Profile pages, a record of a UCC lien search. This tells us what claims have been recorded against the assets of the company and so has direct bearing on the strength of a Buyer’s collateral position.

In the case of this Seller, the prior UCC filings ran to 78 pages!

Now that, in itself, doesn’t mean that the position of the Buyer in the specific receivable being posted for sale is jeopardized.

It DOES mean, however, that the Buyer CANNOT know that its position is NOT jeopardized without devoting some significant time and attention to analyzing the prior filings. This is especially true because, in this case, there was no separate release of lien or subordination document provided for Buyer review.

A Buyer might have thought: “well let’s see if the financials are really strong and maybe I can take a chance making a bid even before I have the time to analyze the UCC filings”.

In this case it happened that the Seller’s most recent financials were noted as “internally prepared for use by management”. OK, that’s not really unusual, especially for interim accounting periods.

But in this case it happens that there is a single, large, intangible asset on the balance sheet that is roughly double the size of the company’s net worth. So, without that intangible asset, the net worth of the company would be negative rather than positive.

What’s my point?

I am NOT saying that this Seller shouldn’t be selling receivables on TRE.

I am NOT saying that TRE has failed in any way to provide what it has committed to provide to Buyers.

I AM saying, however, that TRE has made it clear that it is the BUYER’S responsibility to analyze the potential transaction and determine whether it has enough information to bid.

TRE has said “Caveat Emptor!”

I am willing to bet that in the period of time between the posting of the first auction by this new Seller and the time the first bid was recorded, no Buyer would have had time to analyze the 78 pages of UCC filings provided and determine whether or not the collateral provided was likely impaired by prior claims.

I am relatively sure that TRE will do all it can at this point in its life to try to work out any problems that arise with transactions on its platform.

But when TRE says, as it clearly does, that the Buyers and not TRE are responsible; it just makes sense to believe them.

The Buyer's first recourse is to the Seller, no matter who the Account Debtor might be and no matter what TRE might be willing to do to help out at this point.

So, indeed, let the Buyer beware!

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