Sometimes, if something illegal becomes popular enough, it becomes legal. Alcohol was illegal during prohibition. One could argue its prevalence led to making it legal again. Uber (paid ridesharing without a taxi license) was also illegal until it became so popular that cities eventually had to make it legal. Marijuana seems to be headed that way. Maybe that’s what Greensill was going for here, but they never got there.
Greensill Capital was a leader in supply chain finance. They would factor accounts receivable, paying the company at a discount and collecting the full amount from the customer. Greensill then repackaged these receivables into notes, some of which were insured by credit insurers. Then it would sell the notes, often to Credit Suisse. Factoring receivables is extremely common in certain industries. There’s nothing special or illegal here, yet.
At some point, Greensill’s lending took a left turn. One of Greensill’s clients, Bluestone, digs up metallurgical coal which is used to make steel. Bluestone wanted to get paid faster so it reached an agreement with Greensill for up to $785 million in receivables financing. (A separate smaller agreement brought the total to $850 million.)
If Bluestone had $15 million in new receivables, Greensill would buy it for say $14.9 million and eventually collect the $15 million from the customer. Greensill did some of that, but it also created a new form called Future Receivables or prospective receivables. In traditional factoring, you can only buy receivables that exist. Greensill was looking to lend on receivables that didn’t yet exist, sometimes from customers that weren’t yet customers. As Matt Levine described it:
“Greensill basically gave Bluestone a payday loan for a job Bluestone hadn’t yet applied for. “
This started as lending ahead of receivables, something like “How much do you think Customer A will buy next quarter? $10 million, we’ll lend on that now.” This is lending against an estimated future receivable for an actual customer. It then moved into lending on non-receivables from non-customers. Essentially Greensill would say, “Is Company X a customer? No? Well if they were a customer, how much would they spend? $20 million, great, we’ll loan $20 million based on that.” The not-yet-a-customer was called an Account Debtor.
If you take out a loan, someone expects it to be paid back. With factoring, the customer pays back a loan by paying their bill. The receivable is collateral, a claim against future cash. But if you make up a receivable for someone who isn’t a customer, there’s no cash to pay the loan. It’s just an unsecured loan. As a result, Bluestone had to keep rolling over these loans and paying interest.
At some point, Greensill needed to pay on those Credit Suisse notes and went to Bluestone for more cash. Bluestone argued that this was really long-term financing and they had a reasonable expectation that they could continue to roll over their loans without paying additional cash. Bluestone had no idea Greeensill was selling notes.
The fraud here really goes against Credit Suisse. They thought they were buying short-term loans secured by receivables from a large, operating, entity. In reality, Greensill sold them long-term unsecured loans with no plan for payback except hope for future payment. Hope is not a strategy.
Bluestone isn’t off the hook here either. They allege that both they and Greensill knew that this was long-term financing, yet Bluestone carried it on its books as short-term receivables. After the mess came out, Grant Thorton was hired to get to the bottom of it. Again, Matt Levine makes this real:
I do not envy Grant Thornton. Their job right now is pretty much going around to companies, presenting them with invoices, and getting laughed out of the room: “That’s not our invoice, we’ve never even heard of Liberty Commodities or Greensill, get outta here.” And then they go back to Greensill with their findings and get laughed out of the room again: “Of course it’s not their invoice, they were just a potential customer, how could you be so naive?” And then Grant Thornton has to tentatively ask, “Well, okay, but then who is going to pay this invoice?” And then there is a long awkward silence.
Credit Suisse could be on the hook for as much as $10 billion.
There are messy side stories here including conflicts of interest between Greensill and steel companies, Greensill’s connections to the British government, and the fact that the majority owner of Bluestone is Jim Justice. At the time of this story, Justice was the governor of West Virginia. But frauds are often messy. We’re all for new financial products and creative financing options, but not if they are deceptive.