The Low-Risk Assertion

I’ve written in these posts about risk; about the assessment of it, the protection from it and the appropriate compensation for it; probably more than about any other topic.

It has been asserted that accounts receivable purchasing constitutes a low-risk asset class.

Let me share a little bit of a current story with you.

I settled a case of payment default in my traditional invoice purchase business last week. I have now recovered the funds originally advanced as well as a portion of my costs of litigation and collection and a portion of the modest post-judgment interest allowed in the state where the dispute occurred.

In the scheme of these things, that’s a “win”. But the financial result doesn’t capture the story.

I had done 76 transactions with this client over the course of nearly two years and so I had a degree of confidence in the process.

I had a first lien position via UCC filing on ALL of their receivables. I also had personal guarantees from two principals.

Then the default occurred. I’m not going to talk about either the identities of the parties or the details of the default; the PROCESS is the point of this story.

Following the default, the client and I met to discuss options and we agreed on a plan for payments to be made over the course of some months to clear up the problem. Given the transaction history, I thought then that it made sense to do that and I’d probably do it again today. And several payments WERE subsequently made; but not in the amounts or on the schedule agreed.

Then the payments stopped.

When it became clear that the co-operation of the client had ended I sued the client and both of the individual guarantors.

Ultimately I obtained judgments against all three parties. Meanwhile, however, the client corporation had merged with another entity, muddying the waters substantially on that claim. The two principals of the original client had parted ways. One had declared personal bankruptcy and the other had gone to work for another company in a different industry.

It takes only a few words to relate that outcome. Consider, though, that the definition of “ultimately” is two years of work and aggravation and the word “meanwhile” is its synonym.

From the time of default to the time of final settlement this issue will have consumed nearly four years, and hundreds of hours of my time and attention that could have been put to more productive use.

A lawyer who doesn’t specialize in collections work might be impressed with the idea that I was in the “right”; that I had a “solid claim”. But a lawyer whose job is to actually find and extract cash from uncooperative or desperate debtors will know better than to minimize the difficulty of actually getting paid even on an apparently clear claim.

In the end I will have gotten a portion of my money from a receivable that I had not actually purchased; a portion will have come from property seized on my behalf by the sheriff under court order; a portion will have come in the form of small monthly payments in lieu of a wage garnishment; and a portion will have been paid by one guarantor in exchange for an assignment of my rights against the other guarantor and the original client corporation.

If I had not had the personal guarantees, this outcome would not have been possible. If my UCC filing had encumbered only the receivable actually purchased, or if there had been a UCC filing senior to mine, I would have been out of luck.

This client had been in business for many years and was well-known in its industry. I had done dozens of transactions with the client before the default. But when the situation started to go bad it went very bad very quickly. And then it was a long, painful, expensive and maddening process to recover what I was owed.

My guess is that anyone who has been buying receivables for any length of time will have had similar experiences. And will know that the idea that this is a “low-risk” business reflects wishful thinking. It’s only low-risk until it’s not.

There HAS to be a risk premium built into the pricing of receivables purchases. That premium needs to accurately reflect the security of the buyer’s position and as each layer of potential security is stripped away; the price that the deal should command needs to be adjusted.

I began this year’s posts talking about the unusual nature of the TRE Buyer community and the impact of that on the auction process.

Those Buyers who are in the “short-term-parking” business will probably not have had the experience of having to pay a sheriffs department’s mileage costs to serve a writ of execution on a bank to try to seize a debtor’s funds. Or of having to wait a specified time period before the writ can be presented; allowing, of course, the funds in the account to be moved. Or of having to sit and watch as the myriad schemes of the professional judgment debtor are played out at his expense.

But those experiences do make a difference as one reaches to hit the “submit bid” button!