Posted on October 16, 2023 by Brett
Considerations for equipment leasing and finance, small-business lending, banking, credit card, fintech and merchant cash advance companies
All commercial lenders and lessors carry a certain percentage of non-performing accounts on the books, and those numbers are rising again. In the equipment finance industry, ELFA’s monthly index for August showed charge-offs – leases and loans that had defaulted and reached the write-off stage – were at 0.34% compared with 0.17% a year earlier. In commercial banking, executives are also concerned about climbing charge-offs, American Banker reports. We know that mounting charge-offs are becoming, or soon will become, a consideration for many other finance companies.
How do you manage non-performing loans and leases (NPLs) in commercial finance? It depends on their size and vintage, among other factors. One strategy that is part of the NPL tool kit for many lenders and lessors is commercial debt selling, where a company sells all or a portion of a its NPLs to established debt buyers serving their industries. It’s a widely accepted finance practice that we pioneered on the commercial side 25 years ago.
Curious about how commercial debt selling works? The kinds of debt that can be sold? Optimal timing? I’ve answered your frequently asked questions in this blog.
Why do lenders and lessors sell commercial debt?
Once they’ve made repeated attempts to collect on non-performing accounts, many commercial lenders and lessors litigate some of the accounts and sell off others. Selling off debt makes good business sense because it offers at least three key advantages.
No. 1: the seller can earn immediate cash at closing. Improving cash flow is a goal in any economy but especially so in an uncertain marketplace. Finance companies in growth mode can also use that cash to support more revenue-generating areas of the business. Plus, finance businesses in a forward-flow relationship with their debt buyer can count on a definite return at closing versus risking diminished returns in the future.
No. 2: it frees up internal staff to concentrate their efforts on earlier past-dues, which have higher recovery rates. Strategies that enable staff to focus on earlier past-dues will increase recoveries plus reduce the overall collections cycle.
No. 3: it’s a strategy for managing rising defaults. As defaults climb, internal staff often struggle to handle the expanded volume. Selling off commercial debt that has matured is a way to manage the growing workload.
What kinds of commercial debt can be sold?
Generally speaking, commercial debt sales usually involve pools of non-performing commercial accounts. They can be any size and, in TBF’s case, we buy those that are up to four years old from the date of the last payment.
The accounts may include loans, equipment leases, lines of credit, commercial credit cards or merchant cash advance. They may have personal guarantees or no personal guarantees, be secured or unsecured, pre-agency or post-agency, or pre-litigation and/or reduced to judgment.
How do lenders and lessors determine which accounts to sell?
Some companies decide to sell all or most of their non-performing accounts at charge-off. Others determine which pools of assets to sell based on their vintage, geography, balance or size.
What is the best time to sell a non-performing loan or lease?
Again, each seller decides timing based on its own criteria. We recommend that the best time to sell commercial debt is at charge-off for most lenders and lessors. This is the write-off stage, when the account has been thoroughly worked internally and the balance has been written down to zero.
How does the selling process work?
Companies can sell their commercial debt on a transactional basis or establish an ongoing, forward-flow relationship with a buyer.
For the first transaction, the seller typically contacts the potential buyer or broker and provides basic information on the accounts being sold. The buyer and/or broker should sign a non-disclosure agreement (NDA) before accepting the seller’s information.
The buyer then reviews the accounts and then offers a price. If accepted, the seller signs a purchase agreement, and the buyer wires payment.
Once the seller and buyer have established an ongoing relationship, regular transactions are typically handled online, within hours. In such forward-flow relationships, a seller may choose to send the buyer a list of accounts at regular intervals, perhaps monthly, for pricing.
How does the buyer determine pricing?
In general, pricing should be based on decades of historical data. It should be competitive, reflecting the assets’ fair market value and the buyer’s goal of establishing an ongoing relationship with you.
Within those parameters, you, as the seller, are looking for the best deal, of course. But we recommend shying away from unusually high offers. Why? A few buyers have been known to overpromise and then fail to deliver payment when the seller is counting on it. Deal with buyers who have a good reputation in your industry and have the cash on hand to close the deal.
What happens to accounts after they are sold?
A reputable buyer serving your industry will work professionally and diplomatically to collect what it can of the debts, over time. The buyer will use its own company name – not the lender’s or lessor’s – when contacting debtors, and will try to make it as positive an experience as possible. If a debtor’s finances improve in the future, you want the debtor to consider applying for credit with your company again.
Reputable buyers also keep the accounts once purchased; they don’t re-sell them. That way, a seller can buy back a single account if it was somehow mistakenly sold.
I enjoy informing finance professionals about their opportunity to sell commercial debt because they are often surprised by the ease and value of doing so. If you are a commercial lender or lessor, contact me directly for more information or for a free, no-obligation valuation of the accounts you are considering selling.
Brett Boehm is CEO for TBF Financial.
He can be reached at firstname.lastname@example.org, phone 847-267-0660 or via LinkedIn.