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LAGUNA BEACH SEPTEMBER 2. 2009 VOL II
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News & Views
Debt Buyers & Sellers Resource
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Editor's Message
Thanks for all the great feedback, everyone. We were happy to hear from so many of you and even more delighted to see that the door has been opened to communication among us. Since we have relatively few email addresses, we hope that you will forward this on to other graduates that you may be in touch with. There is much to be gleaned from our collective experiences.
In this edition we continue our focus on raising money. It is important to emphasize, however, that the Debt Buying and Collection Industry inherently carries with it some notable burdens to acknowledge and respect. We have featured several articles, from experts in peripheral fields, which highlight some issues that we were not aware of until recently. We hope this information is valuable to you.
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DEBT BUYERS FEELING THE PINCH
"Debt buyers are struggling a little more in the current economic environment than their collection agency counterparts, according to the latest insideARM confidence survey." (See Full Article)
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Private Money-Introduction
Gary M. Baker - Crescent Bay Financial LLC
The Raising Private Money and the SEC article below, was written by Ken Hollowell who has 27 years experience in helping people raise money legally and in full compliance with the SEC. I have spoken to Ken on several occasions and he offers far more than just a PPM (Private Place Memorandum). Ken will coach you on raising the money, legally advertising for investors, and generally helping every step of the way for a 6 month period to help get your business funded.
Raising capital is the life blood of our business. As we have seen, the banks will make personal loans or loans on businesses that have been operating for 2 or more years and that are not on their restricted list. But only using personal assets to grow your business has some drawbacks. First is the limitation of capital, second is the separation of personal and business assets, and third is risk management. If you are interested in growing your business beyond what you can or will personally invest, you will need investors.
There are many restrictions on raising private money. Using friends and family resources may get you some distance in your money raising efforts, but beyond those who actually know you, there are problems in
legally raising money. That applies to both debt and equity finance if you are using private financing. The way to comply with the SEC regulations is to file for an exemption. By providing the necessary disclosures and subscription documents, you can raise up to $1 million under the Reg 504 rule and up to $5 million under the Reg 506 rule.
Why do you need so much money? This business opportunity may have a short window. By having access to funds early, opportunities can be captured that just may not exist in 2 years. Yes you will give up a piece of the profits. But the real upside is that if your investors understand the business and do invest, that additional capital can be used for bigger loan packages and maybe at lower costs. By having bigger portfolios, you may also get better breaks on the collection costs, can earn more management fees and higher profits. Probably the most important reason to having a legal structure in place for your investors is to protect you in the event that you lose their money. This also protects your personal assets.
Ken has so much more knowledge on this topic. We have looked a variety of firms who specialize in this type of work, but Ken is the only one that we found that will work with you through the entire process of getting funded. Other providers that we talked to were attorneys who charged less for helping to file the papers to make you legal, but did not offer help with investors. If you want to "big" and raise other peoples money legally, please read on.
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Raising Private Money and the SEC
by Ken Hollowell -
With the current state of our economy, business owners are unable to keep or maintain their current lines of credit or establish satisfactory banking relations that enables borrowing power therefore other alternative methods of funding have become necessary. One of the "Best Kept Secrets for Funding" is the Regulation D series allowed by the Securities & Exchange Commission (SEC). This method is not new but has been available since 1933 however most business owners are unfamiliar with this procedure.
If you are considering funding a new business or have an existing business that requires additional funding or further development you might be a good candidate for a Reg D, Private Placement Offering (PPM).
The SEC prohibits a privately held company whether the business structure is a corporation or an LLC from offering equity for sale unless you qualify for an exemption (Which also includes debt equity). The Reg D series of offerings provides such an exemption to business owners.
Are You Raising Funds For Your Business Legally?
Every day I am speaking with individuals who intend to raise money with their existing corporation orLimited Liability Company (LLC) who are completely convinced they can raise any amount of money they want using a business plan throughprivate sources. If you are one of these people, I strongly recommend that you research and read this information immediately.
There are many web sites and self proclaimed "GURUS" that are leading people to believe that YOU can LEGALLY raise money from private individuals (or "angel") investors without having to comply with or "worry about" SEC regulations.
Those web sites and "GURUS" are wrong. And following their advice puts you in jeopardy of losing your business, house and bank account as well as possible fines and sanctions from the SEC and other serious legal consequences. There are specific rules that must be followed. If a company is either a corporation or LLC and intend to use their STOCK or UNITS to fund their company, documents are required that exempts the company from violating the SEC laws and regulations. The Regulation D 504 is recommended, due to the fact that no filings or reviews are required. It is a cost effective method to raise up to $1 million for your business. If your requirements exceeds $1 million, then most likely a Reg D 506 will be required that has more restrictions and requirements associated with it but again, is very effective. This is nontraditional funding and does not require financials, credit reports or other burdensome disclosure. The private investor is simple purchasing
your privately held stock or a unit position in exchange for his/her money. Each investor takes a minority position in the company. You never loose control of management or majority position in your company. Each investor will want to know how they benefit from their investment whether through declared dividends or an established percentage of the profits from the company. Once the Private Placement Memorandum is prepared, one of my associates who is a host for a radio investment talk show will send out a newsletter explaining your offering to 12,000 private investors.
The Benefits of a Structured Offering
No doubt you have heard people who have attempted to raise money for their startup companies state many nightmares they encountered in dealing with investors. The general consensus among individuals wanting funding from investors is "they beat you up" and "they want more from me than I am willing to give".
Those are common statements from individuals unprepared to discuss with investors their opportunity and deal. The biggest mistake a person makes is when they approach a potential investor with only a business plan. A business plan is important and has its place among the tools of the business owner but to use the business plan solely for the raising of money is usually disastrous. Business plan should never be used solely for raising funds because they are not designed for such use.
Business plans provide basic and general information about the company and concept of the businesses. Investors appreciate business plans but it does not provide the structure for the raising of money. Neither does the business plan address the need for multiple investors. Merely stating the amount required or needed does not provide the structure for the raising of the money.
The business plan and this weakness is probably the one reason why so many companies fall short in their attempts to raise capital from investors. Raising capital effectively and properly from investors requires very specific documentation that far surpasses what a business plan provides.
I know of private investors when approached by a business owner with an investment proposition and provides the prospective investor with a business plan or executive summary to review and do not have the proper investment memorandum required by the Securities & Exchange Commission (SEC) a "red flag" is raised immediately. A knowledgeable private investor is aware that a company that is in violation of security laws could be shut down and the officers and directors could be fined and/or prosecuted that could result in the collapse of the company and loss of all investment dollars. Nearly every state has "Blue Sky" laws in place that could allow the prosecution of the principle officers and directors who have not complied with either the federal or individual state laws. That sophisticated investor will simply say, "I don't think this is what I'm looking for."
Public companies don't raise capital from investors by putting a business plan in front of potential investors. The same holds true for private companies seeking capital from investors. Don't expect an investor to invest unless you have presented them with a securities offering such as a REG D 504 or 506 Private Placement Memorandum. Business plans serve a purpose (especially for start-up companies) - but they should not be relied upon as investment documents.
How to Properly Raise Capital for your Business
There are certain fundamentals that you must have in place in order to raise any amount of capital from investors properly (whether it be one investor or one hundred):
First, you must have proper transaction structure in place before you interact with investors. The overwhelming majority of companies that are just using a business plan to raise capital (whether for $50,000 or $1,000,000) typically have very little transaction structure beyond "we're selling 20% of the company for $1,000,000". This is wholly inadequate.
How many shares or units are being sold? Preferred return or common ownership? What is the share/unit price? What is the total authorized share/unit pool and how will it affect future dilution of the investment? What is the exit strategy? How is the investor return modeled? Are the securities convertible?
Not addressing this information places the responsibility for creating proper transaction structure on the investor - which is very unprofessional and reflects poorly on the subject company. To raise private capital successfully you need to go well beyond simply stating to investors an aggregate amount of capital needed and providing information on the business. Do not expect investors to have any interest in your opportunity without providing them concise terms and conditions regarding their capital investment in your company. If you were an investor - would you not want the same information and structure provided for your investment?
Second, proper documentation for raising capital from investors is of critical importance. A business plan is not even the bare minimum needed for raising private funding - of any amount. The specific documents needed for raising private capital are:
Private Placement Memorandum: The Private Placement Memorandum, or "PPM", is the document that discloses all pertinent information to the investors about the company, proposed company operations, the transaction structure (whether you are selling equity ownership or raising debt financing from the investors), the terms of the investment (share price, note amounts, maturity dates, etc.), risks the investors may face, etc. Do not confuse the detailed corporate disclosures, SEC disclosures, and transaction structure in a PPM with the general information a business plan provides - they are not the same.
Subscription Agreement: Business plans do not even provide the documentation necessary to allow the investor to actually invest. Don't expect investors to provide you funding based on a handshake. Would you invest funds into a company without signing a document, that sets forth the terms and conditions of the investment? The Subscription Agreement sets forth these terms and conditions - this is the document the investor signs and returns to you with their investment check. You will have a very hard time raising debt or equity capital without this basic document.
Third, in order to sell securities to investors you must follow the rules and regulations that govern these sales as set forth by the Securities and Exchange Commission and State securities regulators. The SEC has specific rules concerning how a private company solicits capital from investors - even if very few investors are involved. The Regulation D Offering program is the exemption program designed by the SEC for private business. It is the most widely used program the SEC offers and provides the proper exemption needed to raise capital from investors. Not raising capital properly can provide investors with a "right of rescission" in the future - meaning they can get their investment back regardless of the circumstances. Don't rely on your business plan to perform a function it was not designed to accomplish. Structure a Regulation D securities offering for your transaction and begin raising capital the right way.
How does the Private Investor Think?
Private investors are everywhere ready to invest in a project that captures their attention and imagination. Most private investors are looking at many different opportunities at any one time therefore your project needs to "jump" out and grab the investor; otherwise it will be passed over.
Most private investors consider investing in start-up projects like gambling in Las Vegas -- A private investor keeps placing bets in hopes that one of the bets will hit big enough to more than pay for all of the other losses that virtually every private investor is bound to take. Private investors spend a great deal of time on due diligence and hedge their bets by funding several different startup businesses at any given time. They do not just slap down money for every idea that comes across their desk. However, despite their best efforts, most of these bets fail. However, when one of their funded companies hits it big, it really hits it big! A private investor wants "home runs", not "base hits".
What you can definitely count on
Your deal won't be funded overnight. Without question, a private investor will want to do a fair amount of research before forking over their hard earned cash to finance your dream. Expect the funding process to take a few weeks if not months.
Here is where one of the benefits of a Private Placement Memorandum comes into place. The private investor knows if he does not act soon, the offering will be sold out or he might be able to purchase the amount of shares of stock he would want.
The best way to expedite this entire experience is to focus on refining and growing your business to make it much more attractive to potential private investors. Remember there are thousands of entrepreneurs out there looking for funding at any given moment and your idea had better stick out above the rest.
Another benefit of the Private Placement Memorandum is the private investor usually accepts the offer in the Memorandum as it is written. When you use a business plan or executive summary to attempt to raise your funds the private investors will always want a portion of ownership in your company (equity) in exchange for the capital that is usually beyond your comfort zone. Some "Angel" investors have asked for interest on their money, a pay back date, managerial controls, plus equity. That would be very difficult for most small business startups to swallow.
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SIGNIFICANT SOURCES
Here are several newsletters that pertain to the debt buying industry. They are all free and will come to you via e-mail. The first is Inside Arm, which is a great source of industry data and news. It is developed by one of the leading industry sources and is delivered to you each morning. Debt Connection is issued several times a week and the Collection Industry News comes out twice a week.
Register InsideARM
Register Debt Connection
Register Collection Industry News
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The E&O Insurance
by Jill Benshoof
Gary came across several articles written by attorneys that he found very enlightening, dealing with lawsuits against Debt Buyers and Collection Agencies. After an inquiry by reader John Lim, about where to obtain E&O Insurance, and a response from someone else that it was unnecessary unless you plan to start a Collection Agency, it is clear to us that Debt Buyers and Collectors both should carry E&O insurance. In lawsuits against Collectors, Debt Buyers have also been found subject to the FDCPA, and the odds are that an attorney will include the Debt Seller in the case, as well.
Attorneys that represent Debt Buyers generally find these cases are "fraught with problems[1]". Without supporting documents proving that the debt was incurred, 99% of the time the case will be dismissed. Secondly if there has been a FDCPA violation, the defendant can quickly become the plaintiff. In addition, the legal costs can run thousands of dollars, and even if there has been no error on the part of the collector, it is often more cost effective to settle the case. And when judgments favorable to the Collector are rendered, the chances of collecting are minimal.
The FCRA (Fair Credit Reporting Act) puts an additional burden on the Debt Buyer. Consumer disputes must be flagged at the Credit Bureau or the Buyer can get into trouble. In addition, if an investigation is requested by the consumer, lack of proof of the validity of the debt can result in the Buyer paying the Consumer's attorney's fees.
One article credited a well prepared Collection Agency with avoiding litigation by recording a conversation with a debtor who filed suit claiming that they were threatened with a wage garnishment. The Agency was able to prove that the charge was false and the precautionary act save them a lawsuit and may very well have offset the cost of the recording system.
In conversations last week with another debt seller, the importance of E&O Insurance was reiterated. When the Collector violates the FDCPA, which is easy to do, and the consumer obtains an attorney, the Collector and the owner of the debt will both be sued.
[1]Gary Nitzkin-Michigan Collection Law Blog - 6/19/09
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Common FDCPA Violations
While Acquiring Location Information, Debt Collectors May Not:
- unless you ask the collector, state for whom he or she works;
- Inform others, including family, friends, neighbors, and coworkers that you owe a consumer debt;
- Not communicate by post card;
- Not use any language or symbols on envelopes or any mail parcels that indicate that the communication is from a debt collector or the contents of the mail parcel relates to the collection of debt;
- Communicate with the consumer debtor or anyone else once the debt collector knows the debtor is represented by an attorney.
While Communicating Directly With Consumer Debtors, Collectors May Not:
- Contact you at any unusual time or place: Inconvenient times are considered to be between the hours of 9:01 p.m. to 7:59 a.m.;
- Contact you if the debt collector knows that you are represented by an attorney or can ascertain the name, address, or telephone number of your attorney;
- Contact you at your place of employment.
- Harassment and Abuse Occurs When debt collectors Do The Following:
- Uses or threatens the use of fiscal violence or other means to harm one's person, reputation, or property;
- Uses language that is intended to abuse the hearer of such person;
- Calls consumer debtors repeatedly with the intent to annoy, abuse, and harass;
- Not divulge their identity and collection agency.
False and Misleading Violations Occur When Collectors:
- Represent falsely that they are a police officer, government official, or affiliated with the United State government;
- Falsely represent that they are an attorney or that their communication is from an attorney;
- Threaten that non-payment will result in arrest or imprisonment;
- Threaten that nonpayment will result in loss of property or loss of wages;
- Threaten to take action that the collector cannot legally take;
- State that the consumer committed a crime;
- Threaten to communicate information that is false or should be known to be false;
- Use false, misleading, or deceptive information in an attempt to collect a debt.
- Use any business name other than its "true" business name.
Unfair Practices Occur When A Debt Collector Does One Of The Following:
- Collects an amount (interest fees or any expense other than the original purchasing agreement) that is not authorized by the original agreement or by law;
- Communicates with a consumer by postcard;
- Deposits or threatens to deposit postdated checks prior to the date on said check.
When validating debts, debt collectors must, within five days of the initial communication with the debt collector:
- Disclose the amount of the debt;
- Disclose the name of the original creditor;
- Have a statement in the communication that states: "Unless the consumer, within thirty days after receipt of the notice, disputes the validity of the debt, or any portion thereof, the debt will be assumed to be valid by the debt collector;
- Have a statement that states: "If the Consumer notifies the debt collector in writing within the thirty-day period that the debt, or any portion thereof, is disputed, the debt collector will obtain verification of the debt or a copy of a judgment will be mailed to the consumer by the debt collector;"
- Have a statement that states: "Upon the consumer's written request within the thirty-day period, the debt collector will provide the name and address of the original creditor, if different from the current creditor;
- Not contact you if you have disputes or requested verification of your debt.
Source: National Consumer Law Center, Fair Debt Collection (5th ed. 2004)
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NO. CAROLINA TARGETS DEBT BUYERS
"North Carolina recently enacted a piece of legislation that could prove to be a game changer for accounts receivable management companies in the state, especially debt buyers." Link to article from Inside Arm.
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Are You Talking to the Right Investors?
By Ken Hollowell
In my 27 years of assisting businessmen in raising funds for both startup and small business operations, I have found that most people become extremely frustrated in attempting to raise money because they make two major mistakes.
The first mistake is using the wrong document to talk about money. Most people rely on a business plan, which usually leads to disaster and failure. A business plan has its place but not as a tool to raise money alone.
The other mistake is not talking to the right investor. There are three distinct types of investors. The first is an Angel Investor that I refer to as a Demon Investor.
The Angel Investor is usually looking for an opportunity to take control of a naive individual and situation. The Angel Investor often times does not provide the necessary funding but will provide a limited amount of money for the project for both interest and equity. The equity can be upwards to 80% with interest being accumulated at 10% to 18%. You can see why I refer to the Angel Investor as a Demon Investor.
The Venture Capitalists is the wrong person to speak to if the project and funding is small. Most Venture Capitalists are institutional financing related. They are usually looking for $20 million deal and up. They will be nice to you and offer to look at your project, business plan and PPM but seldom do they invest in small projects.
The next investor is the Private Investor. There are 2 types of Private Investors, Accredited and Non-Accredited Private Investor. For purposes of a REG D 504 Private Placement Memorandum, the Non-Accredited Private Investor is who you want to speak with.
This Private Investor is usually looking at multiple offering and business opportunities daily. It is not uncommon for this investor to have small amounts of money in 10, 15, 20 or even 30 separate deals. The investment ranges from $10,000 upwards to $50,000. Seldom does this investor fund projects with $100,000 or more. What this investor is looking for is a "Home Run". This investor knows that over 3/4 of his deals will not yield money back. But that one that makes it more than enough makes up for the loses.
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