KEY POINTS:
Capital + Merchant Finance sold off millions of dollars of what were probably its best loans in a desperate bid to maintain liquidity amid the debenture market downturn which ultimately forced it into receivership this week.
Capital + Merchant, which owes about $190 million to 7000 retail debenture holders, was the 12th finance company to fail over the past 18 months. Like many before it, it foundered on liquidity problems.
Essentially, it did not have sufficient cash coming in to meet obligations to creditors, partly as a result of debenture reinvestment and new money flows plummeting after the failure of Rod Petricevic's Bridgecorp in July.
However, the company had "been on the radar" for some time before that as having problems, said analyst John Kidd of investment bank McDouall Stuart. "Some of the signs in the last year or so were pointing in a direction that was not looking good."
Those signs included the lack of liquidity evident in the firm's financial metrics, a costly funding arrangement with Australian company Fortress which ranked ahead of debenture holders, and the company's securitisation programme.
Securitisation means loans are parcelled up into securities which are onsold to investors.
Capital + Merchant had a $30 million securitisation programme and at September 30 it had sold $21.9 million of loans through that facility.
"Clearly it's in debenture holders' interests to ensure that the loans that are packaged in that parcel are representative of the loan book so there's no cherry picking that takes place," said Kidd.
Kidd did not know which loans Capital + Merchant had sold via the facility, but an executive at a top 10 finance company told the Business Herald yesterday: "You only securitise your best loans, they're the only ones you can push through a conduit, that's the way it works."
Capital + Merchant's debenture holders will probably have to wait for several days at least before the company's receivers are able to give an indication of likely returns.
The company offered two types of debentures, a standard first ranking debenture and a "capital secured" debenture used to offer mortgage finance with the mortgage facilities insured through policies underwritten by Lloyd's of London.
Again, receivers said it was too early to tell whether that facility would be effective in covering investorlosses.
Capital + Merchant was placed in receivership by Fortress after it breached the terms of their loan agreement. Its attempt to stave off receivership with court action failed.
Cash flow woes
* Failed Capital + Merchant Finance sold off many of its best loans over the past year in a doomed attempt to maintain liquidity.
* That probably left its remaining loan book in worse shape.
* The sale of loans through a "securitisation programme" to maintain liquidity was one of a number of warning signs identified by analysts.
