The single greatest threat to any asset-based lender is fraudulent activity that
results in a bad debt or a near miss.
There is a high degree of trust in asset-based lending where the client manages
the security on behalf of the lender. The
client has first-mover advantage and
could potentially expose the lender to
significant losses through manipulation
of the underlying collateral.
Fraud is most often recognised as the
client obtaining cash against collateral
that is fabricated, or by manipulating
the “good” collateral to extend the cash
cycle. This can include:
w Raising “fresh air” or false invoices,
i.e.; invoices for goods or services that
have never been provided.
w Pre-invoicing, i.e., raising invoices for
a genuine order in advance of goods
or services being provided. Clients can
intercept payments from debtors for
genuine transactions and divert the
funds into their own bank account.
Clients can also manipulate their report-
ing of the collateral. Examples of this
w Withholding issuing credit notes for
faulty or returned goods. This allows
the client access to inflated facili-
ties that will expose the lender if, or
when, they have to collect what they
believe are genuine invoices.
w It can also happen when clients re-
age invoices. This involves moving
invoice dates back, i.e., they become
younger and remains in the funding
cycle for longer.
w Collusion with debtors, where both
parties (client and debtor) agree that
a debt is genuine and collectable, also
Why Does Fraud Happen?
Fraud is an ever-present danger, but
there are certain events or cycles that
encourage clients to commit fraud
against lenders. Examples of these typically include:
1) The loss of a major customer. This can
have a catastrophic impact on a busi-
ness and clients seek to salvage the
business by fabricating sales in the
hope of salvaging the business.
2) As businesses emerge from a period
of sustained downturn, they struggle
to match cash flow with their growth.
This can result in clients manipulating facilities to maintain consistent
3) Clients can have distinct trading
seasons that cause cashflow spikes.
In situations where the cash flow of
the business is out of sync with the
trading cycle, clients may manipulate
facilities to maintain consistent cash-flow.
4) Family-owned businesses can have
a greater tendency towards the
manipulation of facilities in times of
cash pressure. They frequently have
significant cash and emotional investment in the business and often more
than one generation of the family rely
on the business for their income.
There is a human element to fraudulent
activities. Many people wish to maintain
an inflated lifestyle, or the size of the
business exceeds their capabilities and
they panic when the cash flow of the
business becomes stressed. The majority
of fraudsters live with a misguided belief
that they will not get caught or that
the fraud will unwind before the lender
discovers what has happened.
Protecting Against Fraud
Before taking on new business, the
lender will undertake pre-lend reviews
or surveys. These are on-site assessments of the prospect that confirms the
quality of the security, and the adequacy
of the prospect’s systems and processes
(accounting information, order processing, etc.). The pre-lend review or survey
analyses the prospect’s financial health
and identifies anything that would prevent the lender recovering money from
debtors in the event of client failure. The
assessment covers the quality of debtors and lenders often ask themselves if
it passes the “tin of beans test” – it’s just
a tin of beans, what could possibly go
wrong with a tin of beans?
Once a prospect becomes a client, the
lender has a number of ways of prevent-