A Prompt Delay

It’s all getting farcical and paradoxical. Hence the title of this post. An online report in the International Herald Tribune dated 8 April 2008, said that the International Monetary Fund (“IMF”) warned that sub-prime losses could reach US$1 Trillion broken down as follows: US mortgage losses, securities tied to commercial real estate, loans to consumers and companies.

Since the total losses and asset write-downs reported by banks and other flakes are in the region of US$232 Billion, the forecast of US$1 Trillion suggests the worse is still to come.

“There was a collective failure to appreciate the extent of leverage taken on by a wide range of institutions - banks, monoline insurers, government-sponsored entities, hedge funds - and the associated risks of a disorderly unwinding.”

Interesting choice of words. A “collective failure to appreciate……”??? Garbage. It was a conscious act of cumulative greed, going back 7 years.

As one commentator put it, this wasn’t a problem on Main Street, it was manufactured by Wall Street.

Personally, SAW prefers the following quote taken from Byron King’s article, “The Flipping Industry” published online in The Daily Reckoning dated 8 April 2008:

“It is apparent that much of the old way of doing business - particularly in the realm of lending money - was rotten to the core. In my view, it begins with the dollar itself. The dollar has been steadily deteriorating in value for decades, so inflationary expectations are part of the worldwide consciousness. That is, just because of the long-term decline in the value of the dollar, most people expect most things to go up in price most of the time.

So is it any wonder that people developed a "speculation expectation"? This fed into an entitlement mentality, as well, that tainted every rung of the credit ladder. A lot of people wanted to buy and flip, whether it was houses or stocks or commodities. So other people lent to people to enable buying and flipping. Flipping became a dominant, if not defining, element of the financial "industry," of sorts.

But what an industry! For example, in the past five years, many people just plain lied through their teeth on everything from credit card applications to mortgage applications to the lending documents for multibillion-dollar takeovers. It was pure and brazen fraud in many instances, verging on burglary in plain sight. The next level up the food chain - the brokers and loan officers - often just looked the other way and rubber-stamped the papers. "Hey, not my problem."

This kind of bad buck-passing went all the way to the top of some firms, many with familiar names. There in the ethereal reaches of the nice office buildings in Irvine, Calif., and Fort Lauderdale, Fla. - let alone Wall Street - the chief executives knew, or should have known, how risky the portfolios were becoming……”

There’s no lack of wishful thinking in the IMF report either suggesting that banks improve disclosure and take write-downs "as soon as reasonable estimates of their size can be established."

Yeah right. In case nobody noticed, the banks are taking their own sweet time to disclose the size of their losses, apparently operating on the assumption that a periodic drip feeding of their loss disclosures would be easier for their shareholders to stomach – and in the meantime, sugaring the pill by begging from Sovereign Wealth Funds and, if they’re in the US, sucking from the Federal Reserve’s discount window in exchange for tendering worthless securities on a “no-questions-asked” basis.

Oh yeah, the new IMF boss who took office in November 2007 admitted that the organization,

“was not as vocal as it could have been about the risks that a subprime collapse posed for the global financial system.”

Maybe that’s all he should have said.

© 2008 Sanjeev Aaron Williams All Rights Reserved

Double Or Nothing

So it’s now official. Swiss bank UBS, Europe’s biggest investment bank, felt it needed to become truly famous and announced not only a 2^nd consecutive quarterly loss, but further sub-prime related write-downs of US$19 Billion – basically doubling its losses. It catapulted itself to the top of the loser’s league with total losses of US$37 Billion. See the earlier post, And The Winner is…2, dated 3 April 2008.

In addition, it is raising 15 Billion Swiss Francs by issuing new shares to Sovereign Wealth Funds from Singapore and the Middle East who had earlier thrown money at it.

Now here’s an interesting spin: the SCMP Business News, published in Hong Kong on 2 April 2008 quoted a fund manager at Mizuho Asset Management who said:

“The fact that the latest [news] from UBS is a combination of capital increase and write-down should be welcomed to some extent because it’s a reflection that they are speeding up their write-offs.”

Alternatively, it could be viewed as a sober realization that their mammoth write-offs had truly eroded their capital base and they had to act fast. So fast, that they are setting up a new business to handle their US property assets that are now worthless. That’s a pretty clear indication that a huge level of Receivables cash flow had just plummeted from the Current Assets column of their Balance Sheet to the Bad Debt column.

This blog has repeatedly warned SMEs that poor or inefficient management of Receivables cash flow would have a similar result. Unlike UBS, whose Chairman is not seeking re-appointment (and will leave suitably compensated of course), a CEO of an SME doesn’t always have that luxurious option. A Director’s failure to monitor the risks inherent in the company’s cash flow is a breach of fiduciary duty both to the company and to its shareholders. With shareholders of well known investment banks and Wall Street titans getting burned left, right and centre, it can be expected that shareholders of SMEs (often family members) and venture capitalists, will sit up and take notice of exactly how their business is performing – particularly in this time or rollercoaster uncertainty.

With banks reportedly reluctant to lend to SMEs, Directors of SMEs can expect to be asked hard questions by their shareholders about the company’s positive cash flow and the risk models in place to protect and guarantee that cash flow, the company's working capital and the Returns On Investment.

If the SME's Receivables are badly screwed up through reckless inefficiency and the Directors (to quote the UBS Chairman) promise that the next chapter will be one of "discipline and determination", don't expect them to last very long.

© 2008 Sanjeev Aaron Williams All Rights Reserved

Stating The Obvious

“If you’re a smaller player, you need more capital to do business in tough times. They now need to show that they can keep churning profits in this environment”

David Hendler, CreditSights analyst, quoted in the Business News, South China Morning Post, 2 April 2008.

He might as well have been talking about SMEs. He was actually talking about Lehman Brothers having raised US$4Billion from a special offering of 4 million shares. The proceeds are slated to increase its capital base and provide greater financial flexibility.

Sounds familiar doesn’t it? Some of the best known names on Wall Street are scrambling to raise working capital and giving up equity to outside shareholders, despite the bravado.

Whilst this blog is not exclusively about Factoring, the pain on Wall Street is a nice contrast to Factoring, the potential benefits of which can be found by going to the Labels column on the Right Hand Side of this blog.

© 2008 Sanjeev Aaron Williams All Rights Reserved

And The Winner Is...Part 2

It just keeps getting better. Here, courtesy of the BBC’s online report dated 1 April 2008, is the updated list of the sub-prime losers. All figures are in US Dollars. See the up and coming post entitled Double Or Nothing for what SAW has to say about UBS.

• UBS: $37.4bn

• Merrill Lynch: $22bn

• Citigroup: $21.1bn

• HSBC: $17.2bn

• Morgan Stanley: $9.4bn

• Deutsche Bank: $7.1bn

• Bank of America: $5.3bn

• Bear Stearns: $3.2bn

• JP Morgan Chase: $3.2bn

• BayernLB $3.2bn

• Barclays: $2.6bn

• IKB: $2.6bn

• Royal Bank of Scotland: $2.6bn

• Credit Suisse:$2bn

© 2008 Sanjeev Aaron Williams All Rights Reserved

Directors & Home Equity Loans

Directors of SMEs, particularly those in start-up mode, are always looking for cash sources. It’s common for them to take a personal home equity loan and siphon the funds into their business. The assumption is that the business will make enough cash to service the home equity loan.

The reality is the home equity loan is usually a second mortgage and the business is saddled with paying that off – plus all the other overheads related to the business. In the US, particularly between 2002 and the end of 2006, rapidly rising home values and lowering interest rates, made home equity loans particularly attractive. Cash appeared to be right there, in the walls of the house.

People borrowed massively. The sillier ones for consumer items, the desperate ones to pay their other bills including their first mortgage, the greedy ones to speculate in property and the occasionally smarter ones, for business investment.

An online report of the New York Times dated 27 March 2008, put the figure of currently outstanding home equity loans in the US at US$1.1 Trillion. Falling interest rates and the Fed’s “nuclear option” of massive injections of “apparent liquidity” (yes, the words are deliberately in quotations because the liquidity is just recently printed money issued in exchange for less-than-stellar mortgage debt) have done nothing to ease the mistrust that exists amongst commercial lenders. Further, falling home prices, rising debt delinquencies and negative equity have only increased the mistrust between commercial lenders and consumer borrowers.

In a financial world awash with US Dollars from emergency measures (recently described as “Dollar Pollution”), there seems to be a huge shortage of US Dollars owed by the consumer borrowers to their lenders in the field of home equity loans.

So worried are lenders who made home equity loans, that they are actively obstructing the borrower from selling the house or refinancing it, unless there is some prospect of them being paid. As the New York Times article pointed out, when the going was good, they really didn’t mind what the borrower did. Using the home as an ATM was widespread.

Should the property have negative equity when sold (i.e. its value is less than the outstanding mortgage(s)), holders of the first mortgage have a priority lien to be paid in full first. That leaves nothing for the home equity lenders – particularly in areas of California, Arizona, Nevada and Florida where home prices are said to have fallen significantly.

If the same lender holds the first mortgage and home equity loan, they might be more willing to allow the borrower to sell or refinance. Where there are different lenders, home equity lenders are obstructing the sale and demanding at least partial recovery from the first mortgage holders.

For a director of an SME whose business cash flow is compromised by a souring US economy, refinancing the home equity loan may be difficult in the face of obstructive tactics by second mortgagees. Further, a delinquent home equity loan is noted on the borrower’s credit record. That will compromise the director’s ability to raise personal financing in future.

If the director files for personal bankruptcy, their ability to manage the company into which they poured equity in the form of cash and sweat is finished. Effectively, the director loses his home and his company. In other words, his cash flow.

It’s a zero-sum game: the worst kind of business equation.

© 2008 Sanjeev Aaron Williams All Rights Reserved