Recent fraud allegations, bankruptcies place emphasis on controls

The bankruptcy filings of First Brands and Tricolor revealed major flaws in asset-backed finance, highlighting the need for better controls after alleged loan manipulation and duplicate pledging hit equipment finance as well as auto finance. 

Automotive and commercial vehicle parts OEM First Brands Group filed for Chapter 11 bankruptcy in the Southern District of Texas to stabilize operations and pursue a value-maximizing transaction, supported by $1.1 billion in debtor-in-possession financing from an ad hoc group of lenders to maintain operations, according to the company’s Sept. 29 filing. 

The First Brands fallout, including more than $1.5 billion in anticipated losses, has prompted institutional investors to reexamine best practices and move away from paper-based or scanned asset pledges, Matt Babcock, digital lending product strategist at Wolters Kluwer, told Equipment Finance News. The move highlights the need for e-contracting and tighter digital controls to prevent system fragmentation and strengthen asset verification.  

“As it bleeds into the other sectors, we expect to see e-contracting adoption to increase even more, as these warehouse lines, purchasers of assets and institutional investors might be re-catering their best practices to an approach that can provide a full audit trail and all those benefits.” 

First Brands, Tricolor bankruptcy impact 

The bankruptcies of Tricolor and First Brands exposed distinct failures, as Tricolor allegedly pledged the same assets multiple times, while First Brands allegedly manipulated loan data. Both highlight the need for modern asset verification, Stu Wall, chief executive of asset-backed finance software provider Setpoint, told EFN. 

“At a very high level, there are a lot of antiquated processes in asset-backed finance. … We think that creates a lot of risk,” he said. “Basically, when the tide washes out, like it has in subprime auto, you see those issues, but these issues are kind of more prevalent than just these two examples.” 

While Tricolor, which filed for Chapter 7 bankruptcy protection on Sept. 7, did not originate equipment finance loans, the lessons learned carry over to the equipment finance space. In addition, Tricolor’s lending relationships included a $100 million credit facility from Fifth Third Bank, warehouse financing from JPMorgan Chase, securitization support from Barclays and roughly $30 million in exposure from Origin Bank, each of which engages in equipment financing, according to public filings and industry reports. 

Onset Financial, Jefferies face First Brands exposure 

Part of First Brand’s off-balance-sheet debt includes a $1.9 billion equipment financing arrangement, led by Onset Financial, dedicated to purchasing and leasing inventory and equipment to First Brands, according to the bankruptcy filing. 

The company’s alleged fraud shocked Onset Financial, a company spokesperson told EFN. 

“We will continue to vigorously assert our claims and defend our position in this bankruptcy and by any other means that may be necessary as we learn more,” the spokesperson said. “Onset’s business remains strong, and we have confidence in the bankruptcy process; our day-to-day operations continue uninterrupted.” 

Meanwhile, Jefferies Financial Group, which holds indirect exposure of about $45 million through receivables and loans tied to First Brands, expects any related losses or legal costs to be easily absorbed, CEO Rich Handler and President Brian Friedman said in an Oct. 12 letter to investors. 

“We believe there has been an impact on our equity market value and credit perception that is meaningfully overdone, and we expect this to correct soon as the facts and range of outcomes are better understood,” the letter stated. “In addition, except for one $300 million loan in 2023 that we underwrote, each financing of First Brands arranged by Jefferies in the last 10 years was on a best-efforts — not underwritten — basis.” 

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