Perhaps the necessity for making a thorough check before investing any money and the immense difficulty of making this thorough check to avoid ill debt collection can best be illustrated by three situations. Originally I had intended to entitle this chapter "Crooks I have Known' but I thought such a title a little harsh and I retitled it "Three Examples of Somewhat Doubtful Credits;" but in order to fit the highly interesting stories into what is meant to be a primer on investment I finally decided to use the academic title "Judging Credits and Making Collec­tions."

In one of the Middle Atlantic states there was a dealership in mobile homes run by three men whom we will call Smith, Brown and Jones. They sold most of the mobile homes on the time payment plan as the majority of dealers do. The prospective buyer put up a down payment and signed a conditional sales con­tract for the balance, including interest. The dealership then sent the conditional sales contract to a nearby bank. The bank checked the credit of the prospective purchaser by reviewing the credit report attached to the contract by the dealer. The dealer had previously secured such a report from the local credit agency in order to determine whether he wanted to sell the coach in the first place because mobile home or trailer coach paper is recourse; that is, if the purchaser does not pay, the dealer must pay off the entire balance to the bank.

If the credit of the purchaser was satisfactory to the bank it sent a check to the dealer for approximately the rest of the purchase price of the coach and forwarded a payment book to the purchaser so that he knew how much to pay monthly to the bank.

Everything went along well for some time until the bank thought that perhaps something was wrong. What the bank found out was that the three dealers had sold $38,000 worth of nonexistent trailers to nonexistent customers. The bank's clue came from the serial numbers of the trailers "sold" reported by the dealer with each sale. The serial numbers given did not agree with the serial numbers generally used by the manufacturer of the particular trailers. The customers, of course, were not making the monthly payments. The dealer was mailing in these payments in the form of cash or money orders—in the name of the fictitious customers. How long he would have funds to do this was problematical but naturally debt collection was the issue here.

Now what should the bank do? Immediately the vice president in charge of time sales finance called up the broker who had originally brought in the dealer to the bank. At the same time it called in both state and federal law enforcement agencies. Everyone converged on the three dealers. The conversation opened with a sharp blast by the bank vice president to the broker who brought him the dealer and presumably vouched for his soundness. "You've cost me my job," he said. "The bank is out $38,000."

The broker whom we shall call Kelly realized that what the vice president said was true. He also realized that unless he cured the situation the bank would probably buy no more mobile home paper, and whether it did or didn't it would certainly never buy from one of his dealers. He hit on a bold plan. He, the broker, agreed to pay the bank $38,000 if the bank consented not to prosecute the dealer and if the state and federal law enforcement agencies agreed to drop the matter. Everyone concurred, particularly the banker whose bank and whose job were suddenly secure again. Naturally the banker would never finance the dealer again, which is hardly a satisfactory end as far as the debt collection is concerned but it could not be avoided.

But the bank vice president realized that some bank had to finance the dealer for two reasons: (1) the dealer had to sell in order that he should have an outlet for sales of repossessed trailers resulting from purchasers who defaulted. Any dealer has these. The dealer must pay off as they default, if the bank is not to be in the mobile home business. Consequently he would have to have some bank to finance his sales; and (2) the broker wanted his $38,000 for his debt collection, which he advanced.

The bank vice president and the broker devised an ingenious plan. In the first place, they would not tell any credit agency about the embezzlement. In the second place, the three dealers would split up, and each of the three men would say that he had been honest but the other two were dishonest, and that was why they split up. He could not stand dishonesty.

The first thing a bank, which is considering financing a dealer does, is contact the last bank that financed him in order to find out why that bank stopped.

This was where I came into the picture. I knew neither the dealer nor the broker. But I had just brought one of the largest banks in the country into the mobile home financing business. I wrote all of the insurance on this bank's financed mobile homes.

At one of the conventions of the mobile home industry in Cleveland, Kelly, the broker, approached me. In fact he took me out to a fine steak dinner. When I was feeling well satisfied, he told me that he had a good, high volume dealer that he would like my bank to finance. The name of the dealer was Smith.

The idea of a good, high volume dealer pleased me a great deal. High volume —lots of insurance! Naturally I had to make my credit checks. The credit report on Smith turned out well. Naturally it did. The credit agency was never told of the embezzlement. Kelly said that in this case I could contact the vice president of the bank, which had formerly financed the dealer. I did not have to go to the retail finance manager or anyone lower in rank. I could go right to the vice president in charge of the department.

I did. I called him on the phone and found out from him personally that Smith was worth his weight in gold, that he had never done anything remotely dishonest and that the amount of business he did would greatly add to my income.

My large bank was delighted with such a fine, big dealer. It even asked him to come to visit them. He made the very best impression—one of sincerity and integrity.

So the financing of this dealer started. As the credits of the old bank went sour, the dealer took back the coaches and resold them. The old bank was in good shape. With my bank as a source of credit the dealer prospered and Kelly, the broker, got back his $38,000.

But it is difficult for a leopard to change its spots, and the dealer did not change his. In order to pay off the $38,000 he sold like mad—to anyone—regard­less of his ability to meet debt collection. And he was not lacking in ingenuity, this dealer. From somewhere he got blank credit report forms of the credit agency. These he filled in on his own typewriter, and a confirmed felon could be made to look like a combination of J. Edgar Hoover and J. Pierpont Morgan with this system.

Events caught up with him, however, and his unsound selling policy resulted in vast numbers of poor credits and repossessions. In order to pay these off he went to the customers who were good credits and announced that he was collect­ing this month and that they did not need to send the payments in to the bank. In this way he made quite a haul and was enabled to pay off several threatening creditors.

It was not long before the bank found out what was happening. The question was what to do: lock up the dealer as a felon, which he was? But then who would operate the business and resell the trailers, which were becoming delinquent in ever-greater numbers?

The bank chose the course that probably most banks and finance companies choose. They make the choice between prosecuting a criminal and getting back their money, and they consider the return of their money to be their primary aim. The dealer was allowed to remain in business, but with close supervision, and gradually something was retrieved from the wreck. The bank took a big loss, but not as big as it would have taken had the dealer been put in jail.

And what about the vice president of the bank which formerly financed the dealer and who falsified the information on the dealer? He's still vice president. And what about Kelly, the broker? He's still in business too, only the last I heard of him he was doing business with many banks, not just a few. I told one of the banks about what he did, but it went merrily on doing business with him. Good luck to them!

The second example of a "doubtful credit" strikes nearer home since it in­volved my own money. A very prominent individual, the former chairman of the Board of Directors of a large corporation and a political light in his state, pur­chased a group of paintings and gave notes in payment which were to come due at intervals up to two years. The sum total of the notes was in the neighborhood of $150,000.

A New York picture dealer from whom I had purchased paintings called the notes to my attention. He had sold some of the paintings to the industrialist. Some of the notes he held himself and some were held by a lawyer who was ac­tive in the art industry. Both the dealer and the lawyer wanted to get cash and were willing to sell the notes at a discount. The dealer assured me that the industrialist had purchased paintings for many years on credit and paid off the notes as his dividends and other compensation came in. The discount offered was great enough to make the actual interest rate well above 20% per year.

I got the bank to get a credit report on the industrialist. I expected the report would be favorable toward him and it was. It stated that all of the people in his town spoke highly of him and that he always paid his bills promptly.

Since a great deal of money was involved, I paid the industrialist a visit. He lived as a southern gentleman in a fine and obviously valuable home with a great deal of land and the estate was well supplied with livestock.

As a result of my credit checks I purchased $20,000 worth of the notes. I secured the endorsement of the lawyer on two of them, which meant that if the industrialist did not pay, the lawyer would have to. As far as the other two notes went, those sold me by the art dealer, I felt that they would come due so soon as to make unnecessary his endorsement. How wrong I was!

The due date on the notes came and went, and no payment - this was a bad sign as far as debt collection is concerned. I then called the lawyer who endorsed the notes and gave formal notification within 24 hours of default, as the law requires. He was terribly sorry, but he was sure the debtor would pay shortly. I consequently thought it advisable to get a lawyer in the debtor's state immediately. This proved to be no easy job. Several apparently reputable lawyers in the debtor's town were located from consulting the Martin-dale-Hubbell Law Directory, a directory available in many libraries and in the offices of many law firms. This volume gives a good deal of detail on lawyers in each city and town in the United States, together with an estimate of the com­petence of each.

The lawyers selected were called on the phone one by one. A real obstacle was run into here. The first lawyer called said, "No. The debtor is a lawyer too. I don't want to sue him/'

The next one called said, "No. He's a friend of mine. I can't make an enemy of him."

Finally one was found who said without much hesitation, "Yes, I'll take the case."

Shortly thereafter I received a check less the collection fee of 10%. My check amounted to $9,000.

This was only the beginning, however. It was necessary to get a court judg­ment against the debtor for the remaining $10,000. I thought that perhaps if I visited him personally he might agree to pay so much per month until the debt was paid. I was entirely wrong. He ushered my wife and myself into his study and started to reprimand me for coming to his town with the possible result that the townspeople might think he was a bad credit risk.

Finally he stated flatly that he could not meet the debt collection and that he would do everything possible to block any court judgment against him. I then told him that in that event I would have to attach his paintings. At that point he looked at me and stated, "You do that and I'll blow your brains out!"

Since it seemed an appropriate time to leave, my wife and I bid him goodbye and returned to our city. We turned the matter over to our lawyers with instruc­tions to secure a judgment. Then we left on an extended vacation, which lasted for nine weeks. When we returned we found that exactly nothing had been done to secure the judgment. After some prodding of our lawyer, however, the judg­ment was secured, but we were still a long way from getting our money back. The debtor agreed to pay so much per month and I accepted. The payments went on for several months and then abruptly stopped. I wrote no fewer than eight letters to my lawyer and called him on the phone twice, but with not even a reply.

Then I took the next appropriate step. I asked a friend, a lawyer, in my own city to find out from the American Bar Association who the Grievance Officer of the Bar Association in my lawyer's state was and I wrote the officer setting forth the facts and asking for his help.

He never replied either, but within two weeks I was paid in full, and the matter is closed. What happened to my lawyer and why the Bar Association Grievance Officer did not reply one can only conjecture.

By this time I had learned the necessity for protecting oneself in every way possible and to deal only with prospective borrowers of impeccable reputation.

This is the next important experience I had, armed with all this information I had secured from two doubtful credits:

For many years after I entered the mobile home insurance and finance busi­ness I had been called regularly and visited regularly by the salesman for one of the mobile home manufacturers. He periodically sought financing for one or another of his dealers. The business always worked out well, and I eventually learned to know the salesman fairly well. I had known him six years when one day he called on the long distance phone, as he often did. He had an interesting proposition.

He told me that he was buying mobile homes manufactured to his specifica­tions from a manufacturer located in Oklahoma City. He stated that because he purchased in quantity he got a price per coach of about $200 under the manu­facturer's usual price to the dealer. He stated that of course I knew he had his customers among the dealers and he could sell to them easily, provided his coach was good. He stated that while the dealers purchased the coaches when they were delivered to their lots, he had to give the manufacturer the assurance that he, and we will call him Thompson, could purchase the coaches when completed. This all sounded reasonable, and the term of finance was a short one. No coach was ever ordered by Thompson from the manufacturer unless Thompson had a customer for it. When the manufacturer completed it Thomp­son had to pay for it and then tow it with his truck to the dealer's lot where he was paid off. If he did not get paid he did not leave the coach. He took it back again.

The reason he wanted me to finance him, Thompson told me, was because of the high service charge levied by the bank on this short term finance from the time the coach was completed by the manufacturer to the time the dealer took delivery of it at his sales lot. Thompson said that it took a day or two days to deliver, and the bank charged him either 1% or 2% of the invoice price. The charge was not so much the trouble as the fact that the bank would allow him at most two days to deliver, and sometimes in bad weather and where distances were long, he needed a week or even 10 days. Would I let him have the money for as long as 10 days?

This seemed like a good deal—2% for money which was out 10 days, and I looked favorably on the deal when Thompson told me that his bank in Nebraska, where his principal dealer was located, would handle the money as a revolving fund for me and that the president of the bank would call me and tell me just how this would be done. Thompson wanted $10,000 from me to start the fund.

The next day the bank president did call me. He told me that Thompson was a good businessman and a good risk, but that to insure the safety of my funds, the following precautions would be taken:

When the mobile home was completed by the manufacturer a certificate of origin would be issued. This was the equivalent of a title to the mobile home.

Thompson would take this certificate to the bank and would deposit it there in order to secure the amount of money represented by the manufacturer's price to Thompson.

As soon as Thompson's truck delivered the trailer to the dealer, Thompson would collect the price of the coach.

He would take this check to the bank and redeem the certificate of origin. He would obviously keep his $200 profit, but the amount advanced by the bank on the certificate would be returned to my account. Thus my account would always add up to $10,000 in cash and certificates of origin.

The bank president told me that he would watch to see that the certificates were never over ten days old and that my fund was always revolved.

The plan worked well. In fact the bank automatically deducted my service charge from Thompson's checking account in the bank and mailed me a bank check every ten days. Thompson was not even trusted to make this payment.

The plan went smoothly, and eventually a fund of $28,000 was put at Thomp­son's disposal—$10,000 in Nebraska and another $18,000 in a bank in Oklahoma City whose president agreed to administer the fund in the same way.

Suddenly the banks sent no more service charges: I quickly found out that all that both banks held were certificates of origin and $12.00 in cash. I rushed an auditor to Oklahoma City. He reported that Thompson had unfortunately delivered the mobile homes to the dealers without collecting, since the dealers had promised to pay in a few days. The banks did not bother to inform me that the certificates of origin were not rotating and that some of them were months old.

Thompson stated to my auditor that he could work things out with the deal­ers, but that they were very touchy and we should not try to collect directly from them; that he would have to do it tactfully and skillfully.

Upon the return of the auditor I engaged the Western Union floor plan checking organization to find out where the mobile homes were. The report came back from the dealers: "We have never received any of these coaches!"

So out to Oklahoma City we went again, but this time Thompson's attitude was different. He implied that our service charge was too high, that it violated state laws, but in order to show us that he was of good will he would forego this defense if we would not accuse him of embezzlement. He pointed out that since he was now in the farm machinery business which bid fair to being a great success, he would sign a note for us on this new business—at the legal maximum of 10% per year—and he and his wife would sign the note personally. In addition, he agreed to incorporate his business and assign us all the stock until the debt collection was met in full. He did sign, but when it came time for his wife to sign, we found that she had left town unexpectedly and it was not known when she would return.

For a few months we collected interest. Then once again everything ceased. We turned the matter over to an Oklahoma City law firm which "studied" the matter for a few months at the end of which period they announced that Thompson's farm machinery business had closed up and that Thompson and his wife had disappeared and no one knew where they had gone, not even Thompson's bank or lawyer.

The next step was to get a Skip Agent on the track of Thompson. We called B. C. Snow of New Braunfels, Texas on the phone and told him to get busy. He did. In one week he located the Thompsons in Fort Worth, Texas.

Out we went to Fort Worth and through the local credit association found one of the best credit lawyers in the city. We instructed him to get a judgment as rapidly as possible on both of the Thompsons.

This was easier said than done. It was found out that Thompson worked out of the state and came home very rarely, so that it took months before the sheriff could serve him with a summons.

Still our troubles were not over. When the sheriff came to serve Mrs. Thompson her doctor stated to him that she was too ill to be served with a summons. So we desisted.

Finally she became well enough to state to the court that the notes were invalid in view of the fact that her signature on the notes was obtained improperly.

Why did these credits lead to such ill debt collection?

In the case of the mobile home wholesaler we got credit reports, and for this purpose we use the Retail Credit Service, local retail credit associations, Dun and Bradstreet and Stone's Mercantile Agency. But if no one reports bad credit experience to these organizations they have no way of knowing about it. The same difficulty was experienced in the case of the painting purchaser and of the dealer who obtained credit forms and filled in the blanks himself. It is unusual for a dealer to go this far, and no one suspected such an activity on his part.

It is a must to check with the prospective borrower's bank. In the case of the mobile home dealer, the bank official was not interested in telling the truth. It was in the interest of neither him nor his bank. The local bank in the town of the painting purchaser thought him to be a good risk. He probably was—for his groceries and clothing. How the mobile home wholesaler ever got the two bank presidents not only to vouch for him but to call me on the phone long distance in order to recommend him I will never know.

It is always easy to look back and see our mistakes, but in every case the competitors, or the suppliers of these three bad credits, should have been checked. Later on, in the town in which the mobile home dealer was located, we learned from another dealer that "our dealer" had burned one of his trailers in order to collect the insurance. We did not believe this at the time. Now we are inclined to believe anything derogatory about him.

In the case of the painting purchaser, an art dealer warned us about him in a very subtle way. I was too dull to pick this up or believe it.

As regards the mobile home wholesaler, a competitor told me to watch him, and that maybe he was somewhat lacking in soundness.

Where there is smoke there may be fire, and this principle should never, never be forgotten in the field of credits. No one wants to come right out and say, "Don't do business with him. He's a crook." The person who makes such a state­ment lays himself wide open to a slander suit, and no one wants such a suit. The best he can do is to warn one softly if he is kindly disposed. Otherwise he will say nothing.

If there is a suspicion of a doubtful credit—just a suspicion and no more—it is better to leave the prospective borrower strictly alone. A borrower must be like Caesar's wife: above suspicion.

In the case of the mobile home dealer, the bank held collateral—title to the coaches—and it worked out of them with a minimum of loss. In the instance of the $38,000 worth of fictitious coaches sold to fictitious customers, there was no collateral and there were no retail buyers to collect from at all.

As to the painting purchaser, there was no collateral. He could have put up his other paintings or his home or something else, but he would not do this. This refusal should have waved a red flag.

With the mobile home wholesaler I thought I had collateral in the certificates of origin, but I found out that in at least one of the states the purchaser of the coach can title it without first having in his possession such a certificate, and that if he has such a title it takes precedence over the certificates of origin as evidence of ownership of the coach. I therefore could not take the coach away from him even if I could find it. Besides, he had paid his good money for the coach. Who should lose out—should he or should I?

In every case of a credit application a financial statement should be secured, and if possible this should be certified by a reliable public accounting firm. In the mobile home industry the banks frequently do not demand such a certified statement. The credits have been too good to necessitate such insistence, and competition among banks for this business has resulted in a laxity of banking standards; but a few failures of dealers will quickly remedy this situation.

You cannot rely on banks to watch your funds, and you cannot rely on lawyers to collect for you. The Dun and Bradstreet organization has a claim service that collects difficult credits. One of the arguments for using this service is that all of the lawyers used by Dun and Bradstreet are bonded. This means that if the lawyer collects for you and then pockets the money instead of remitting to you, the bonding firm has to make good. If there were no danger of such embezzle­ment of your funds by the lawyers it is doubtful whether Dun and Bradstreet would put out the money to secure the bond.

It must be remembered, too, that pressure can be put on a lawyer to keep him from acting on your behalf. This can take the form of social pressure in a small town, or business pressure, either positive or negative. By positive is meant the offer of business to the lawyer if he will go easy on the suit. By nega­tive is meant the threat of the loss of a good account if the lawyer is too tough in his action. The same pressure can be put on bankers, and both lawyers and bankers are human and have human frailties. While both lawyers and bankers have professional standards, there are certainly individuals in both professions who do not measure up to the standards. In credits, you, yourself, have to watch them, and no one watches with the same intensity as the person who is risking his funds.

In summary these are the things, which should be checked before any credit is granted:

I.   Financial statement

1. Is it certified, preferably by a reputable and larger public accounting firm?



2. Does the company show a profit for three or preferably five years?



3. How large is the net worth (proprietorship or partnership interest or capital stock and surplus, if a corporation) in relation to total debts, including the proposed loan? Finance companies and building and loan associations have been discussed in the chapters on these organizations. A rough rule is that debts should not be over twice net worth.



4. How much cash and short term receivables are there in relation to total debt? A rough satisfactory ratio is 2 to 1—the cash on hand or available within a year in the normal course of business, to debts payable now or which will come due within a year.



5. Are there contingent liabilities? Has the business or the proprietor endorsed notes or will he have to make good if the purchasers of his mobile homes or his boats or whatever he sells do not pay? If the contingent liability is great in relation to his net worth he could easily fail even in a mild business slump.

II. Does the borrower have a good credit reputation? Check the following:

1. Dun and Bradstreet



2. Stone's Mercantile Agency



3. Retail Credit Reports or other local agency



4. Banks with which the prospective borrower does business



5. Suppliers of the prospective borrower



6. Competitors of the prospective borrower

III. Is the borrower in a generally profitable industry?

A railroad is not a naturally profitable business in the year 1962. A space age contractor with the Department of Defense is. A pre-cut or shell home sales lot was a good business in the year 1958. It is less good now because there is enormous competition, which came in recently.

IV. What is the loan or investment to be used for?

1. Is the loan to be used to produce business and therefore income or is it going to be used to meet overdue bills? The first is desirable, the latter not.



2. Is the loan or investment self-liquidating as, for instance, to buy mobile home conditional sales contracts or short term mortgages, or is it to be used to erect a building? The last is not so self-liquidating as the former two.



3. Is there any speculative element in the loan, as, for instance, to purchase land for a resort development? While such a purpose is legitimate enough, the loan involves risk and should therefore carry a very high speculative return.

V. Can you get your money out of the investment on reasonably short notice?

A stock or bond in a listed company can be sold almost immediately and the market price is almost always known. A first mortgage on city property can often be sold; but a third mortgage on a resort home is more of a problem and possibly cannot be disposed of at all.

VI. Are there guarantees or other security?

1. Do you have collateral? If so, is it worth anything and can it be converted to cash conveniently and quickly?
2. Are there endorsers and are they reputable and of substantial worth?
   

VII. How are business conditions and will they affect the borrower?

If the borrower is in the used car or even the new car business, a recession    may affect his business health considerably. A finance company is less subject to the effects of the business cycle.

VIII. Is the insurance coverage adequate?

In the case of the mobile home wholesaler, if the financed coaches were wrecked in transit the lender might take the loss and it is not unreasonable to think that wreck losses will be sustained from time to time. Insurance must be secured and the policy held by the lender. In the same way auto­mobiles that are financed must be covered by comprehensive and theft insurance to protect the lender.

There is one rule to follow in the event of a default provided the debtor does not immediately come forth with a good reason for the default, such as loss of job, sickness or death in the family, all of which are attenuating circumstances and may call for postponement of payments; and that rule is to put on all possible pressure to collect.

The first thing to do is to write a letter, not over ten days past the due date of payment. It should be courteous but strong. Five days later, if no payment is made and no explanation given, a very strong letter must be written. In another five days if nothing is heard, the strongest possible letter demanding payment must be written. Thereafter a telegram should be sent, and then a registered letter, return receipt requested.

At the end of 30 days, demand should be made to pay off the entire principal sum, and such provision should be made in the original contract—that upon 30 days' default the entire sum must be paid off.

If there is a collection agency in your city make sure of the cost of collecting. It may be as much as one third of the entire sum. I would not recommend using it if more is taken of the debt than one third, and it is preferable to use an agency that charges only 10%, especially where larger sums are involved.

If there is no satisfactory collection agency, and you may find the reputation of them by checking with local bankers and with the local Chamber of Com­merce, then hire a lawyer. You should pay 10% of the recovery. This was the arrangement in the case of the defaulted painting buyer. Court costs may be added, but these generally do not come to much. But be sure your lawyer understands the importance of a defaulted credit and that he must act within a week. Too many law firms are not accustomed to handling defaults and study the matter for weeks while the debtor becomes more and more delinquent or skips town, as in the case of the mobile home wholesaler.

One banker gave me the following opinion on delinquent debtors: If he is two days late and you ask for payment he realizes that he was wrong and pays up. If you wait two weeks he feels he has some grounds for the delay in payment, and if you wait a month before taking action he feels he no longer owes you anything.
It comes to mind that the scenario writers for the television and radio shows who tell the sad story of the poor borrower who was scalped and persecuted by the "loan sharks" never lent any money themselves and then tried to get it back. When you have money and anyone finds it out, his sole purpose in life seems to be to try to get you to put it into some worthy venture. No time of day or night is inappropriate for his call or visit, and no long distance call is too expen­sive. Each time he talks with you he offers more in the way of interest, more bonuses, more collateral, more everything—until he has your money. Then the scene suddenly changes. He may even resent the fact that you have the thought, even vaguely in mind, about repayment.

After several such sobering experiences, one turns again to the thought that perhaps it is better, after all, for one to put his savings in a government insured bank or savings and loan association.

A number of similar sad debt collection stories have led the banks to follow a policy which is described as lending umbrellas out while the sun is shining, but as soon as one cloud appears in the sky calling them all in immediately.