The challenges of today’s lending environment, along with the rise of delinquencies, are leading to burgeoning debt sales discussions across the industry. Here’s what to consider when deciding to sell debt.
Debt Sales in Collections Make a Comeback
After 2008, regulatory scrutiny on debt sales practices led organizations to shift away from selling debt. Now, debt sales are making a comeback. More of our clients are considering debt sales as they look for contingencies to prepare for the long-anticipated macroeconomic changes.
In today’s environment, the industry has begun discussing debt sales again as a strategy to manage what many consider will be an onslaught of delinquencies. Fortunately, there is enough regulatory guidance available that it’s possible to construct the most conservative debt sale strategy (i.e., remove any accounts that could potentially present compliance risk) to sell your debt and minimize losses. A seller can now return to this space with confidence that regulatory risk can be minimized with the proper strategy.
What Should Collections Leaders Consider When Selling Debt?
Orchestrating a debt sale takes up-front planning and careful consideration. But it is a worthwhile endeavor and due to the guidance available, we know it can safely be done. We advise our clients to think about business impacts, identify where to find appropriate buyers and plan for ongoing management.
Determine if a Debt Sale is Right for Your Business
When considering a sale, we advise issuers to invest time understanding the benefits, costs and risks of selling their debt. It takes looking at all three to determine if a sale is right for you and every issuer looks at these elements in different ways. It is not one size fits all. You have to use all three because analyzing only one of these elements can lead to the wrong decision or a decision that could be difficult to justify down the road. Below are some example activities that highlight benefits, costs and risks to help determine if a debt sale is a viable strategy:
- Identify your receivables that are prime candidates for debt sales: credit cards, auto deficiencies, personal loans, small business with personal loan guarantees. Avoid small dollar medical and student loan debt as well as high APR debt sales.
- Consider your diversification collection strategy, and how you will balance sales, outsourcing and insourcing.
- Calculate the potential revenue gained and the expenses incurred as the starting point to selling your debt.
- Determine the cost to service the sale (costs include media requests, buy-backs, litigation support)
- Project what the cost of vendor management will be to monitor the sale and track the terms (vendor management requires its own set of controls and resources).
- Identify attributes of information received from the post sales performance to help refine future collection strategies.
- Take special consideration of your brand and how it could be affected by a selected buyer.
Build a Business Plan to Document Financial Benefits and Risks
Once you’ve reviewed and assessed the many considerations to selling debt, your next steps are to build a sound business plan and strategy based on your findings. We recommend building a defined business plan that evaluates financial benefits and risks.
The business plan demonstrates that you are evaluating what is best for your business and identifying any potential risks early in the process. For instance, a sale may yield an immediate 10% of increased profits but also has escalated reputation and vendor management risk. A business plan highlights these items and outlines what controls you’ll establish (internally and with your selected vendor) to manage risk.
To have confidence in your plan, it often takes a third party to assist with the business planning, ensuring that your historic debt sales strategies do not unduly influence your current activities. After your business plan is complete, it is time to begin the search for a buyer.
How to Find and Select the Right Buyer
Identifying a buyer can be daunting. If you are performing a debt sale for the first time – or the first time in a long time – you may want to consider brokers/consultants to help you through the process. Both parties can identify who might be a good fit for your debt and your company. Plus, they’ll help throughout the bid process. Some brokers/consultants may have deep relationships with respectable buyers and will conduct the bid process directly. According to Bob Deter of Crown Asset Management, selecting the right partner is critical to your success:
“Sellers should seek someone experienced, with a proven track record of building long lasting relationships and who will protect their brand. Someone who knows the collection arena and who will be flexible with changing environments. Someone who welcomes them into their shop and fairly evaluates their portfolios to develop win-win partnerships.”
Treat Debt Sales Activities as You Would a Procurement Process
Whether you use a third party or go directly to debt buyers it is imperative to treat the process as a procurement. Use the due diligence framework of a portfolio migration as a starting point for evaluating a future debt buyer. Here are some specific areas on which to assess potential buyers that will ensure a thorough evaluation:
- IT Security
- PII Handling
- Vendor Management Practices
- File Transfers
- Contractual Terms
- Regulatory Adherence and Controls (e.g., FDCPA, TCPA, UDAAP)
- Dispute / Complaint handling
- Sub-contractor Management
- Reporting Suite for all the above
Document Governance Expectations Early to Create Awareness
Outline your governance requirements during the bid process. And don’t forget a good buyer will want to perform their own due diligence inclusive of the bid file, sample documents and portfolio background. Our experience shows that potential buyers are now more engaged in post-sale oversight discussions. Buyers will investigate and query issuers when governance requirements are identified up front. Throughout these discussions it is imperative for the seller to regularly review business plan assumptions. If new information changes the business plan, update your plan and re-evaluate it to ensure you consider the new information in the placement and sale of the debt.
How to Ensure that Accounts Go to a Safe Home
The final stage of the bid process is to narrow your decision to one or two buyers. Select these finalists based on the contractual terms and the absence of issues from the due diligence process. It’s wise to evaluate the differences of each buyer against a consistent set of parameters from your due diligence/business plan (e.g., how accounts are serviced, reporting and controls).
Selecting a finalist can be a difficult task as it considers much more than price. Your business plan risk preferences are more heavily weighted parameters, which can inform your decision. In a recent bid process, an issuer ultimately chose a lower priced bid because the buyer’s work standards were more closely aligned with the issuer’s brand.
Detailed Due Diligence Assessment
Before the final decision, we recommend one last detailed due diligence assessment. Ideally this is an onsite review but can be conducted through document review and virtual side-by-sides. The review allows the seller to “experience” how the buyer works. As the seller, you should see the working environment, agent presence (in-office, hybrid or remote) and how the buyer documents procedure adherence. The due diligence assessment covers multiple elements to investigate, including:
- Compliance and Audit
- Sub-contractor Oversight
- Strategies and Work Practices
- Buyer’s Financial Stability
After the second assessment is complete, review any areas identified with risk or gaps. If there are findings from your finalists which exceed your risk tolerance you can: (1) ask the buyer to remediate identified risks prior to the sale, (2) establish controls to manage/remediate risks with the buyer shortly after the sale, or (3) disqualify the buyer.
We recognize that much effort has been put into the selection process at this point (see comments on risk remediation). So, the second assessment serves as an example of how you have exhibited the proper oversight in your selection. Always leverage what you documented at the beginning of the debt sale process and what is important to your organization. This way, the appeal of “getting it done” does not override the identification and management of risk.
The Debt Sale is Complete – Now What?
Sellers can still be very vulnerable to risk exposure after the sale. Ongoing monitoring that adheres to contractual terms ensures protection for all parties. Monitoring also serves as evidence to the regulator that you are executing the right oversight. It helps to include in your contract the types and frequency of audits you’ll require. Consequently, you can conduct audits, manage to requirements, remediate further risk post sale, and execute the “consequence” of poor performance. As a result, you can demonstrate to internal and external entities that a debt sale program is in place. And, if performance or contract terms are broken all parties know the resulting actions.
A Debt Sale Strategy Can Work if Done Right
A debt sale option may or may not be right for you and a business plan depends on many factors. A comprehensive debt sale strategy executed correctly provides an additional tool for your debt recovery whether you sell the debt or not.
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