Monthly Archives: February 2016

Creditors Are the Devil in Disguise

Finance & credit card companies are the best marketers in this world. They make us feel that we need to have and use their credit card to have some self-worth in our society. Americans rely and use credit cards everyday and is getting deeper and deeper in debt. I am going to try and convince you why you should stop using credit, even if you pay it off in full each and every month.

There was a study conducted regarding pain when paying with credit card, debit card, and cash. When someone bought something with cash, they would tend to spend less because cash in hand is apparent and all you have is all that you can spend. When someone used a debit card, there was still pain but much less than cash. You don’t see actual cash being exchanged so it’s not as bad, but you do know that your bank account has a certain amount in there and you are hoping that you did not spend more than what you have. Credit cards, on the other hand, has no pain whatsoever. Buy now and pay later. You don’t have to worry about anything and deal with it later. It’s very convenient but also leads you to bad habits in spending money. Additionally, with credit cards you will tend to spend more by 30% on average compared to cash.

I used to have the mindset that I use credit cards to build reward points (it’s FREE MONEY). I would use my cards for everything and then get a rebate check per year for 50-150. When you use your cards more often, you will ultimately spend more. That’s the simple fact. I probably spend thousands more per year just because of using the card. Getting a rebate of 50-150 bucks is not worth it to me any longer.

Just use cash or debit cards. You may think you need credit, but trust me on this. You don’t. It’s time to take back control of your spending and let’s stick it to where it hurts to the credit companies. Creditors & finance companies are nothing more than just legal loan sharks.

Safeguards of Creditors

INTRODUCTION:

This essay seeks to find out that in present day loan transactions what measures can ensure the repayments; and how effective they are. The essay looks at the customary way of protection: the security _ by way of mortgage and charge; the nontraditional and smart ways that have evolved with the passage of time: quasi-security _ retention of title, hire purchase and sale and lease back arrangements; and other safeguards like contractual covenants etc. Each of these measures of protection, except the covenants, has been discussed in proportion of their importance, particularly, for those who effectively fund companies. Thus the main focus remains on the banks.

CREDITORS’ PROTECTION:

Banks, individual or syndicates, are the entities that effectively fund companies and their operations. They receive deposits on one hand and advance these deposits as loans on the other; and thus make profits. However this process is very delicate, as if enough loans are not granted, little profit would be earned; and if too much loans are granted, ready cash may not suffice to satisfy the demands of the depositors. They have to keep a balance and focus equally on liquidity as well as profitability (1). In such a situation, they cannot afford to lose huge amounts of money advanced as loans. As long as a business, funded by the banks, continues working smoothly, every one associated with that business is benefited in one way or the other. But when it is unable to work anymore or defaults in discharging its liabilities, it goes bankrupt. In the event of bankruptcy these liabilities are paid out of the proceeds of sale of its assets.Creditors’ claims normally are more in value than the assets of the bankrupt. In such a situation a creditor needs to be in an advantageous position to realize his claims ahead of others. This, typically, can be done by being a secured creditor: who holds some security and is paid off ahead of the other creditors who don’t hold any securities. Banks, usually, while granting loans, obtain security and personal guarantee in addition to the other precautions to safeguard themselves in the event of such unfortunate happenings. Following are the ways to safeguard the position of the lending banks:

SECURITY (Collateral):

Security is an asset which a lender holds for money he has lent. “Under the Insolvency Act 1986 (the Act), security is defined by section 248 as ‘any mortgage, charge, lien or other security’. This definition is taken to mean that the rights the creditor have are proprietary in character. The proprietary interest in the debtor’s assets allows the creditor to realize the secured assets to discharge the debtor’s obligation to the creditor” (2). Generally, securities include stocks, shares, debentures, bonds, instruments creating or acknowledging indebtedness, warrants and options (3). More typical term for a security against a debt is ‘collateral’. The document granting collateral or any other charge is called ‘debenture’. “Under the terms of a debenture, the secured creditor will usually have the power, upon default by the company, either to enter into possession of the assets and sell them to pay off the secured debt or to appoint a receiver with the power to manage and sell the company’s business as a going concern to raise the money”(4).That is why the collateral is granted as a routine for obtaining loans throughout the world; and it is the most common feature of commerce in every country (5). However, for financially strong companies, particularly the public corporations, secured loan is not usually an attractive option (6). That is why “large unsecured overdrafts are quite common for established companies” (7). But in most of the cases security is a common feature, as the secured credit is the “principal means of financing’ for ongoing ventures as well as expansion purposes (8). Security or Collateral, documented as debenture, is secured, usually, by way of mortgage or charge. Both these terms are sometimes used interchangeably, as every mortgage implies a charge, though every charge is not necessarily a mortgage.

MORTGAGE:

It is ‘an interest in property created as a form of security for a loan or payment of a debt and terminated on payment of the loan or debt’ (9). Mortgage is the most typical form of loan security. Through a mortgage, the title of the secured property is transferred in the name of the creditor (mortgagee), which is transferred back to the debtor (mortgager) when the loan is paid off. The most common fixed charge securities created by companies are legal mortgages over land (10). In the event of default in payment by the debtor, the creditor is entitled to realize his money by sale of the mortgaged property. Thus, a mortgage ensures the repayment of loan of the creditor at the end of the mortgaged period or in the event of bankruptcy.

CHARGE:

A charge is also ‘an interest in company property created in favour of a creditor (e.g. as a debenture holder) to secure the amount owing’ (11). It is different from mortgage in the sense that it does not require transfer of title like a mortgage. ‘It merely gives the chargee the right to have the charged assets realized in order to pay off the debt’ (12). As a result, a charge is a security that gives rise to the priority of the holder over unsecured creditors. A charge can either be a fixed charge or a floating charge. Every charge is a result of contract between the parties. A fixed charged is associated with specific assets and limits the debtor’s free dealing with such assets. These can be intangible assets, like shares in other companies (13). It, being a fixed security, is enforced prior to all other classes of creditors (14).On the other hand, a floating charge floats over all the assets of the debtor. It usually is suitable in case of those assets the value of which fluctuates, like stocks, cash, shares, book debts etc. It allows the debtor to use the charged assets freely until the event of default or bankruptcy. The floating charge is desirable sometimes because the specific assets lose their value through market fluctuation or depreciation. In that case collateral may not continue to be of sufficient value equivalent to the amount of loan. That is why in certain cases floating charge is preferred by the creditors. However, in case of bankruptcy, not only the fixed charge holders, but the preferential creditors get priority over the floating charge holders in the order of payment (15). Thus, a floating charge, though necessary in certain situations, does not make its holder a secured creditor in the true sense. But certainly his position is better than that of the unsecured creditors.

The Customary Safeguard:

‘Secured creditors are, as a matter of policy, immune from the loss.’ (16) While in liquidation the creditors could get only a small percentage of their claims, (17) 75 per cent creditors could get nothing, and only 2 per cent could recover their full amount; (18) banks’ rate of recovery remained as high as 77 per cent as compared to the 27 per cent of the preferential creditors.(19) In globalized financial system, many companies’ assets and creditors are spread over more than one jurisdiction.’European Union, too, is to have an internal financial market “with open access to banks’ and financial institutions’ operation in member countries” (20). On the other hand, “The fragility of the financial system, built as it is on confidence, can mean that there is a real possibility of systemic risk spreading throughout the system.” (21) In such a situation, banks, like every creditor, get the best security (22) _ though, the security is merely a contingency measure, otherwise primarily, banks loan against feasibility and cash flow (23). Still in case of any unfortunate event like default or insolvency of the debtor, it is only the security that can be the best safeguard for a creditor. Collaterals by way of mortgage or charge are the most reliable and customary safeguards available to the creditors. But there are certain other measures that can be taken by the creditors to ensure secure repayment of their loans.

QUASI SECURITIES:

Credit is granted on four major grounds: by getting a security, without any security (an unsecured loan), by having guarantee of a third party or by making use of a sale as a security arrangement. (24) These security-by-sales arrangements provide a reasonable level of security to the person who advances money, but in most cases he is not a typical creditor. These transactions, not being typical loans, cannot be described to be made on the basis of security; instead they are said to be made for quasi securities. Hereunder are the most common types of quasi-security:

RETENTION OF TITLE:

In case, a bank finances a company to purchase some machinery, raw material or any other item, it may require retaining of the title of such items with itself unless the full amount loaned for the purchase is paid off. ‘Retention of title clause’ in an agreement, normally, defends such items from any claims by other secured or preferential creditors (25), in case of insolvency of the debtor, as long as this item is recognizable (26). However if such an item is processed and loses its identity before the insolvency proceedings start, then the title cannot be retained (27). In that case, the title holder will have to be among other unsecured creditors. This type of security is typical for trade creditors.However, a bank can benefit from this method in certain cases; although banks, in case of other creditors, have expressed disapproval of retention of title. (28) ‘Surveys suggest that majority of suppliers employ such clauses in their conditions of sales’ (29). But they can only bear a fruit if the user of these clauses are not affected by the complex, time-consuming and expensive legal proceedings involving a number of other secured and unsecured creditors. Critics usually do not find the retention of title clause as useful as it seems on the face of it: ‘the device fails, at the end of long and legally uncertain day, to deliver real protection to the quasi-secured creditor.’ (30) It, however, remains equally effective in liquidation, administrative receivership, administration and voluntary arrangement, in the event of insolvency of the debtor. (31)

HIRE PURCHASE:

This is another mode of securitization that is a sale arrangement of the face of it but in fact operates as a security device. It is a method of buying goods in which the buyer advances a small amount as deposit to the seller and takes the possession of the goods (and not the title), as a bailee. The balance price is paid in periodical installments over a longer period of time. When the price is fully paid off, the ownership is transferred to the buyer. During this period from taking possession till getting ownership, if the buyer defaults in payments, the seller can exercise his right to take the goods back being the real owner. This is something like ‘retention of title’. This method is generally used by the small and medium businesses and the trade creditors. But it can be used by the banks to advance loan in cash while converting it into kind _ by purchasing the required equipment or land etc for the debtor _ and retaining the title until the debt is paid off. However, a property purchased mainly for credit purposes, _ which originally meant for some different use by the original owner _ sometimes, may not be one easily disposable. In such a case, the creditor may have to sell it at a lower price to save expense of resources on looking after it. Still it is a better option to safeguard the interests of the creditor. That is why there has been a rise in number in this type of arrangements in recent years (32).

SALE AND LEASE BACK:

This is another way for a person or company to secure money by sale of an asset to a bank or lender. But the sale agreement includes the condition that the same asset would be leased back to the seller for certain period of time on agreed terms and condition. Thus the seller secures required amount without losing the right to use that asset, whereas the buyer gets the ownership in lieu of the amount paid; and thus gets secured. This type of agreement despite not being a security offers more than sufficient security; and falls under the category of quasi security. This is said to be a lower-cost method by the creditors to achieve priority in insolvent regimes (33).This can reasonably safeguard the position of the creditors. Quasi Securities are quite an interest phenomenon. They are not securities in the true sense of the word; however they provide security to a creditor at the level of an original security. All of these arrangements _ of apparent sale for the purpose of security _ are well-liked by the lenders (buyers) and the debtors (sellers). But certain critics look at them from a different angle. To them, these seem to be tools of the so-called secured creditors and the debtors to grab the assets of companies leaving nothing for other classes of creditors in case of bankruptcy. Thus, this phenomenon looks like another aspect of ‘bankruptcy Darwinism’ (34). And if these types of arrangements continue, some critics predict more losses for the other classes of creditors: ‘If, however, the debtor looks to quasi security and shifts its asset patterns so as rely more heavily on the use of assets that are leased or subject to hire purchase agreements, retention of title or other sale-based security devices, the protection offered to the secured creditor will be diminished. Fewer assets will enter the insolvent estate in the scenario involving heavy reliance on quasi-security and the holder of, say, a floating charge, will have a call on a slimmer body of assets.’ (35) Anyway, quasi securities are good safeguards for the creditors.Continued as SAFEGUARDS OF CREDITORS – II

Finance, Credit, Investments – Economical Categories

Scientific works in the theories of finances and credit, according to the specification of the research object, are characterized to be many-sided and many-leveled.

The definition of totality of the economical relations formed in the process of formation, distribution and usage of finances, as money sources is widely spread. For example, in “the general theory of finances” there are two definitions of finances:

1) “…Finances reflect economical relations, formation of the funds of money sources, in the process of distribution and redistribution of national receipts according to the distribution and usage”. This definition is given relatively to the conditions of Capitalism, when cash-commodity relations gain universal character;

2) “Finances represent the formation of centralized ad decentralized money sources, economical relations relatively with the distribution and usage, which serve for fulfillment of the state functions and obligations and also provision of the conditions of the widened further production”. This definition is brought without showing the environment of its action. We share partly such explanation of finances and think expedient to make some specification.

First, finances overcome the bounds of distribution and redistribution service of the national income, though it is a basic foundation of finances. Also, formation and usage of the depreciation fund which is the part of financial domain, belongs not to the distribution and redistribution of the national income (of newly formed value during a year), but to the distribution of already developed value.

This latest first appears to be a part of value of main industrial funds, later it is moved to the cost price of a ready product (that is to the value too) and after its realization, and it is set the depression fund. Its source is taken into account before hand as a depression kind in the consistence of the ready products cost price.

Second, main goal of finances is much wider then “fulfillment of the state functions and obligations and provision of conditions for the widened further production”. Finances exist on the state level and also on the manufactures and branches’ level too, and in such conditions, when the most part of the manufactures are not state.

V. M. Rodionova has a different position about this subject: “real formation of the financial resources begins on the stage of distribution, when the value is realized and concrete economical forms of the realized value are separated from the consistence of the profit”. V. M. Rodionova makes an accent of finances, as distributing relations, when D. S. Moliakov underlines industrial foundation of finances. Though both of them give quite substantiate discussion of finances, as a system of formation, distribution and usage of the funds of money sources, that comes out of the following definition of the finances: “financial cash relations, which forms in the process of distribution and redistribution of the partial value of the national wealth and total social product, is related with the subjects of the economy and formation and usage of the state cash incomes and savings in the widened further production, in the material stimulation of the workers for satisfaction of the society social and other requests”.

In the manuals of the political economy we meet with the following definitions of finances:
“Finances of the socialistic state represent economical (cash) relations, with the help of which, in the way of planned distribution of the incomes and savings the funds of money sources of the state and socialistic manufactures are formed for guaranteeing the growth of the production, rising the material and cultural level of the people and for satisfying other general society requests”.
“The system of creation and usage of necessary funds of cash resources for guarantying socialistic widened further production represent exactly the finances of the socialistic society. And the totality of economical relations arisen between state, manufactures and organizations, branches, regions and separate citizen according to the movement of cash funds make financial relations”.
As we’ve seen, definitions of finances made by financiers and political economists do not differ greatly.
In every discussed position there are:

1) expression of essence and phenomenon in the definition of finances;

2) the definition of finances, as the system of the creation and usage of funds of cash sources on the level of phenomenon.

3) Distribution of finances as social product and the value of national income, definition of the distributions planned character, main goals of the economy and economical relations, for servicing of which it is used.

If refuse the preposition “socialistic” in the definition of finances, we may say, that it still keeps actuality. We meet with such traditional definitions of finances, without an adjective “socialistic”, in the modern economical literature. We may give such an elucidation: “finances represent cash resources of production and usage, also cash relations appeared in the process of distributing values of formed economical product and national wealth for formation and further production of the cash incomes and savings of the economical subjects and state, rewarding of the workers and satisfaction of the social requests”. in this elucidation of finances like D. S. Moliakov and V. M. Rodionov’s definitions, following the traditional inheritance, we meet with the widening of the financial foundation. They concern “distribution and redistribution of the value of created economical product, also the partial distribution of the value of national wealth”. This latest is very actual, relatively to the process of privatization and the transition to privacy and is periodically used in practice in different countries, for example, Great Britain and France.

“Finances – are cash sources, financial resources, their creation and movement, distribution and redistribution, usage, also economical relations, which are conditioned by intercalculations between the economical subjects, movement of cash sources, money circulation and usage”.
“Finances are the system of economical relations, which are connected with firm creation, distribution and usage of financial resources”.

We meet with absolutely innovational definitions of finances in Z. Body and R. Merton’s basis manuals. “Finance – it is the science about how the people lead spending `the deficit cash resources and incomes in the definite period of time. The financial decisions are characterized by the expenses and incomes which are 1) separated in time, and 2) as a rule, it is impossible to take them into account beforehand neither by those who get decisions nor any other person” . “Financial theory consists of numbers of the conceptions… which learns systematically the subjects of distribution of the cash resources relatively to the time factor; it also considers quantitative models, with the help of which the estimation, putting into practice and realization of the alternative variants of every financial decisions take place” .

These basic conceptions and quantitative models are used at every level of getting financial decisions, but in the latest definition of finances, we meet with the following doctrine of the financial foundation: main function of the finances is in the satisfaction of the people’s requests; the subjects of economical activities of any kind (firms, also state organs of every level) are directed towards fulfilling this basic function.

For the goals of our monograph, it is important to compare well-known definitions about finances, credit and investment, to decide how and how much it is possible to integrate the finances, investments and credit into the one total part.

Some researcher thing that credit is the consisting part of finances, if it is discussed from the position of essence and category. The other, more numerous group proves, that an economical category of credit exists parallel to the economical category of finances, by which it underlines impossibility of the credit’s existence in the consistence of finances.

N. K. Kuchukova underlined the independence of the category of credit and notes that it is only its “characteristic feature the turned movement of the value, which is not related with transmission of the loan opportunities together with the owners’ rights”.

N. D. Barkovski replies that functioning of money created an economical basis for apportioning finances and credit as an independent category and gave rise to the credit and financial relations. He noticed the Gnoseological roots of science in money and credit, as the science about finances has business with the research of such economical relations, which lean upon cash flow and credit.
Let’s discuss the most spread definitions of credit. in the modern publications credit appeared to be “luckier”, then finances. For example, we meet with the following definition of credit in the finance-economical dictionary: “credit is the loan in the form of cash and commodity with the conditions of returning, usually, by paying percent. Credit represents a form of movement of the loan capital and expresses economical relations between the creditor and borrower”.

This is the traditional definition of credit. In the earlier dictionary of the economy we read: “credit is the system of economical relations, which is formed while the transmission of cash and material means into the temporal usage, as a rule under the conditions of returning and paying percent”.
In the manual of the political economy published under reduction of V. A. Medvedev the following definition is given: “credit, as an economical category, expresses the created relations between the society, labour collective and workers during formation and usage of the loan funds, under the terms of paying present and returning, during transmission of sources for the temporal usage and accumulation”.

Credit is discussed in the following way in the earlier education-methodological manuals of political economy: “credit is the system of money relations, which is created in the process of using and mobilization of temporarily free cash means of the state budget, unions, manufactures, organizations and population. Credit has an objective character. It is used for providing widened further production of the state and other needs. Credit differs from finances by the returning character, while financing of manufactures and organizations by the state is fulfilled without this condition”.

We meet with the following definition if “the course of economy”: “credit is an economical category, which represents relations, while the separate industrial organizations or persons transmit money means to each-other for temporal usage under the conditions of returning. Creation of credit is conditioned by a historical process of fulfilling the economical and money relations, the form of which is the money relation”.

Following scientists give slightly different definitions of credit:
“Credit – is a loan in the form of money or commodity, which is given to the borrower by a creditor under the conditions of returning and paying the percentage rate by the borrower”.
Credit is giving the temporally free money sources or commodity as a debt for the defined terms by the price of fixed percentage. Thus, a credit is the loan in the form of money or commodity. In the process of this loan’s movement, a definite relations are formed between a creditor (the loan is given by a juridical of physical person, who gives certain cash as a debt) and the debtor.
Combining every definition named above, we come to an idea, that credit is giving money capital of commodity as a debt, for certain terms and material provision under the price of firm percentage rate. It expresses definite economical relations between the participants of the process of capital formation. Necessity of the credit relations is conditioned, from one side, by gathering solid quantity of temporarily free money sources, and from the second side, existence of requests of them.

Though, at the same time we must distinguish two resembling concepts: loan and credit. Loan is characterized by:

o Here, the discussion may touch upon transmission of money and also things form one side (loaner) to another (borrower): a)under the owning of the borrower and, at the same time, b) under the conditions of returning same amount or same quantity and quality of the things;

o The loaning of money may bear no interest;

o Any person may take part in it.
With the difference with loan, credit, which is somehow a private occasion of the loan, represents:

o One side (loaner) gives to the second one (borrower) only money, and _ for temporal usage;

o It may not bear no interest (if the assignment doesn’t foresee something);

o In it creditor is not any person, but a credit organization (at the first place, banks).
So, a credit is the bank credit. To our mind, it is not correct to use “credit” and “loan” as the synonyms.
Banking crediting is the union of relations between bank (as a creditor) and its borrower. These relations touch upon:

a) Giving a certain amount of money to the borrower for definite purpose (though, we meet with the so-called free credits, aims and objects of crediting are not appointed in the assignment);

b) Its opportune returning;

c) Getting percentage rate from the borrower for using the sources under his/her disposal.
The essential foundation of the credit essence and its important element is existence of trust between the two sides (in Latin “credo”, from which comes the word “credit”, means “trust”).
From the position of circulation of money forms (in the abstraction, historical process of formation economical relations and social budget and banking systems expressed by them) comparing different definitions of finances and credit, the paradox conclusion appears: credit is the private occasion of finances. And truly, from the position of movement of the money forms, finances represent the process of formation and usage of the funds of cash means. Very often such movements are fulfilled without returning, but sometimes, it is possible to give loans from the budget for the investment projects of other needs. Also, when a manufacture or corporations use their cash funds and we mean the finances of industrial subject, such usage may be realized as inside the manufacture or corporation (there is no subject about returning or not returning of the usage), so gratis under conditions of returning. This latest is called commercial form because of transmitting the sources to others, but even in this occasion, it is the element of financial system of the manufacture and corporation.

From the point of cash means movement, main character of credit is the process of formation and usage of the funds of cash means under the conditions of returning and, as a rule, taking the value-percentage. If gating the credit value doesn’t take place (even in the exceptional occasions), according to the movement form, credit becomes a private occasion of finances, as from the net financial funds (consequently from the state budget) the loans which bear no interests may be used. If gating credit value takes place, by the appearance form, credit is discussed to be financial modification.

From the historical point of view, finances (especially in the sort of the state budget) and credit (beginning with usury, later commercial and banking) were developing differently for considering credit to be the part of finances. Though, from the genetic-historical point of view, previous loaners, before giving loan, needed gathering the permanent capital not returning, that is the net financial foundation. The banks analogously needed concentration of the important own capital for influxing the consumers’ means and for getting higher percentage rate under the conditions of returning. Herewith, exactly on the financial basis, in the sort of financial fund (which later partially becomes loan fund) part of the bank capital appears to be the reservation (insurance) part of the fund, which by nature is financial and not loan. So notwithstanding the essential distinctions between finances and credit form the genetic-historical point of view, credit appears to be formed from finances and represent their modification.

From the essential position of expressing economical relations of finances and credit, we meet with cardinal distinctions between these two categories. Which mostly expressed by the distinction of the movement forms notwithstanding they are returnable or not. Finances express relations in the aspects of distribution and redistribution of social product and part of the national wealth. Credit expresses distribution of the appropriate value only in the section of percentage given for loan, while according to the loan itself, a only a temporal distribution of money sources takes place.
Herewith, there is a lot of common between the finances and credit as from the essential point of view, so according to the form of movement. At the same time, there is a significant distinction between finances and credit as in the essence, so in the form too. According to this, there must be a kind of generally economical category, which will consider finances and credit as a total unity, and in the bounds of this category itself, the separation of the specific essence of the finances and credit would take place.

Funding of the cash means is common to the researched economical categories. It takes place in any separate system of finances and credit, which have been touched upon during the analyses of defining finances and credit. Word combination “funding of the cash sources (fund formation)” reflects and defines exactly essence and form of economical category of more general character, those of finances and credit categories. Though in the in economical texts and practice, it is very uncomfortable to use a termini, which consists of three words. Also, “unloading” with an information hardens greatly its influxing into the circulation even in the conditions of its strict substantiation and thoroughness.
In the discussing context we consider:

1) wide and narrow understanding of economical category of the finances;

2) discussing finances in narrow understanding under general traditional meaning;

3) discussing finances, as funding of the cash means, in wide understanding, which concerns finances – in narrow meaning and credit – in complete meaning.
Termini “funding” and its equivalent “fund formation” are used by us as the purposeful structuring of cash means, which is based on two poles – accumulation of money sources (gathering) and its usage for definite purpose in the way of financing and crediting.
We have established a new termini – “finance-investment sphere” (FIS). Analyses about interrelation of finances and credit made by us give us an opportunity of proving, that in the given termini, the word “financial” is used with the meaning of funding cash sources, its purposeful structuring. In this process we consider at the same time financial, credit and investments’ economical categories.

Let’s sum up middle results of discussing new concept – “finance-investment sphere” and discuss its investment consisting parts.

The concept “investments” was brought into the native economical science from the West. In the Soviet economical science they for a long time used in the place “investments” the termini “capital placement”, which expressed the usage of the industrial factors in the sphere of real industrial activities during realization of capital projects. From one glance, this termini in its concept is identical to the “investments”, consequently it is possible to use them as synonyms. Though the termini “investments” and “investing” have the advantage towards the termini “capital placement” from linguistic and philological points of view, because they are expressed with one word. This is not only economical and comfortable in the process of working with the termini “investment” itself, but also it gives an opportunity of termini formation. More concretely: “investment process”, “investment domain”, “finance-investment sphere” – all these termini are much more acceptable.
Changing native economical termini with foreign ones is purposeful, if it really matters (by keeping parallel usage of the native termini for the inheritance). Though we must not change native economical termini into foreign ones all together, when by ordinal traditional language easy to explain private and narrow concrete processes and elements get their own termini. The “movement” of these termini is approved in the narrow professional bounds, but their “spitting out” into the economical science may turn economical language into the tangled slang.

Let’s discuss termini – “investment” and “capital placement’s” usage in the economical literature.
Investments are placement of funds into the main and circulation capital for the purpose of getting profit. “Investments in material assets – are the placements of funds into the mobile and real estate (land, buildings, furniture and so on). Investments in financial assets are the placements of funds into the securities bank accounts and other financial instruments”.

We don’t meet with the termini “investments” in the earlier economical dictionary, but we meet the combined termini “investment policy” – the union of the industrial decisions, which guarantee main directions of the capital investments, the activities of their concentration in the determinant suburbs, on which the reaching of planned rates of development of the society production is depended, balancing and effectiveness, getting more and more production and profit of the national income for every lost Ruble”. For today, in the most actual definitions, the capital investments are bounded only by financial means, when not only financial, but also the investment of natural, material-technical and informational resources takes place. Labour resources take an actual place in the investment process. They themselves fulfill this or that investment process.

A positive side of the discussed definitions is that they connect investment policy and capital placements (investments):

– economical development according to the key directions to the concentration;

– providing high rates of economical growth;

– raising an economical effectiveness, which is expressed:

a) by growing the throw off of the production and national income for every lost Ruble;

b) by fulfilling the branch structure of the investments;

c) by improving their technological structure;

d) by optimization of their further production structure.

Compared with such definition of the investments (capital placement) the definition of investments in the dictionary attaching the “Economics” seems to be unimproved: “investments – the expenses of gathering production and industrial means and increasing material reserve”. In this definition current expenses (production expenses) are mixed with the investment (capital) expense. Also, not the investment expenses but (though the investments are followed by the appropriate expenses) exactly advancing. It differs from the expenses by that the means (means) are put by returning the advanced values, also, under the conditions of growth, to which the concept-advanced capital is corresponding. the advancing may be realized in the money, natural-material and informational forms.

Except the termini “investments”, there are two more termini related with the investment. They are shown below.

“Human capital investment” – any activity provided for rising the workers labour productivity (in the way of growing their qualification and developing their abilities); at the expenses of improving the workers’ education, health and raising the mobility of the working forces”. It is very useful to use the mentioned termini, though it needs one correction: the human capital investments do not concern only workers, but also the servants, representatives of every kind of labour.
“Investment commodity, capital goods – a capital.”

In the official manuals of political economy of the reformation time the capital investments are discussed as “expenses for creating new main funds and widening, reconstruction and renewing the active ones”. In this definition the investments (capital placements) during separation of the forms (types) of further production of the main funds are bounded only by main funds (without increases of the circulation funds and insurance reserves):

a) creating new ones;

b) widening;

c) reconstruction;

d) renewing.

Also, the concept of the industrial gathering appears, at the expenses of widening of basic, circulation funds and also insurance reserves takes place”.

You’ll meet below the definitions of investments from “the course of economy”: the investments are called “placements of fund into the basic capital (basic means of production), reserves, also other economical objects and processes, which request long-termed influxing of material and cash means. “According to the division of capital into physical and money forms, the investments too must be divided into material and cash investments”.

They apportion investment commodity, to which belong industrial and nonindustrial building objects, vehicles purposed for changing or widened technical park and the furniture, increasing reserves and others.

“They call the total investments of production an investment product, which is directed towards keeping and increasing the basic capital (basic means) and reserve. Total investments consist of two parts. One of them is called the depreciation; it represents important investment resources for compensation of renewal till the level of before industrial usage, wearing out and repairing of the basic means. Second consisting part of the total investments is represented by net investments – capital investments for the purpose of increasing basic means”. Depreciation is not a compensation resource of wearing the basic funds out, but it is the purposeful financial source of such resources.
Human capital investment is “a specific kind of investments, mostly in education and health protection”.

“Real investments are the investments in the economical branches and also, they are kinds of economical activities, which provide influxing the increases of real capital, that is increasing material values of the industrial means”. We can agree with such definition with one specification that material and nonmaterial values too belong to the real capital (wealth), consequently science-researching experimental-construction results, various information, education of he workers and others. Such service as organization of the excitable games, also the service of redistribution social wealth from one private person to another (except charity).

“Financial investments represent placement of funds into the shares, obligations, promissory notes, other securities and instruments. Such investments, of course, do not give increases of the real material capital, but they help getting profit, consequently at the expenses of changing the course of the securities in the time of speculation, or distinguishing the course in different places of sell and purchasing”. We share wholly such definition, hence it follows that financial investments (if it is not followed by real investments as a result) do not increase real material wealth and real nonmaterial wealth. According to this context, the expression below is very important: “we must distinguish financial investments, which represent placement of the funds in the ways of selling and purchasing the securities for the purpose of getting profit and financial investments, which become cash and real, moved to real physical capital.”

In the “economical course” quoted before long and short-termed investments are separated. Recognizing the existence of the bounds between them, the authors ascribe short-termed investments to “one month or more” investments. If we get such conditioned criteria, that we can call the investments which overcome the terms of some months, long-termed ones, which is very doubtful and we don’t agree with it. A long-termed character of the fund placement is a significant feature of the investments (short-term doesn’t combine with the concept of investments). Principally, it would be better to point out quick compensative, middle termed compensative and long-termed compensative investments:

– less then 6 months – quick compensative;

– from 6 months up to the year and a half – middle termed compensative;

– more then the year and a half – long termed compensative.

We stopped at the definition of the investments in the capital work “economical course” for the special purpose, as, in it the author tried to discuss the concept of investments systemically and quite completely, herewith the book is published just now.

We’ll return to the discussion the definition economical category of “investments” in different publications in the following chapter. The definitions given here are quite enough for having a notion of the level of lighting up the given category in the economical literature.
What conclusions may be made according the definition of the mentioned economical category in the published works, except the made notions and specifications?

There is quite deeply, concretely and thoroughly defined the concept of “investments”, different definitions in the economical literature; but mostly in every works about the investments discussed by us until now, there is not opened the essence of investments as an economical category. In every monograph , even if it has a title investment, as an economical category , there is given only the definition, concept of investments. But, as the Academician Vasil Chantladze explains, “a concept is a discussion, which proves something about the distinguishing feature of the researched object. A concept out of much essential characteristic features represents only one, and essential in it is only – definition”.

But the categories are much wider; it is “a key, the most fundamental concept of every science”. Economical categories theoretically represent real, objectively existed productive relations. A category is the defining of occasions of existed characters, connections, relations of the objective world. Generally, any educational process is fulfilled by the categories, which give opportunities for dividing the processes and occasions semantically, for expressing the definitions of a subject and realize their specific peculiarities and economical relations of a material world.
Our goal is exactly to substantiate investments – as an economical category and also, as a financial category in the narrow understanding.

Here we apply for another manual thesis made by the academician Vasil Chantladze: “every financial relation is an economical one and every financial category is and economical one, but not every economical relation and economical category is financial relation and financial category”.
In the process of defining the investments, it is important to take in mind the sides of resources, expenses and incomes, because investment, from one side, is the result of the manufacture’s activity, and, from another one, – a part of income, which, in this case, is not used for usage.
Another occasion: it is advisable to discuss investments in two aspects: as a category of reserve and flow, which will reflect exactly the connection between “placement of funds” and “investments”.

As we’ve mentioned above, not long ago, in the well-known Soviet literature the concepts of “the placement of funds” and “investments” were accepted to be the synonyms and concerned to be investment of sources for further production of the main funds and formation of the turnover funds. We meet with such understanding of the concept of “investment” (here, they separate three types of the investment expenses: investments in the basic capital of investments, investments in the house building and investments in the reserves) in the modern economical publications and it is mostly used on the macro level during a statistical analyze of economical processes. In this concrete occasion investment is the category of reserve.

What Is Special Finance?

The definition of Subprime or Special Finance (SFI) can vary greatly from dealership to dealership. Generally, Special Finance is defined as the ability to obtain credit for customers who are normally unable to finance a vehicle through your conventional or primary lenders. Typically these customers have either a limited credit file or credit issues that make them undesirable to primary lenders. Let’s look briefly at the common issues.

Credit Score: Many lenders use credit scores to define Special Finance applicants. Typically, banks regard a score below 620 as sub-prime or Special Finance territory. While this is not a hard and fast rule, it gives us a starting point to work from. Many lenders use other criteria along with the credit score to determine an applicant’s credit worthiness. A recent repossession or bankruptcy, or a rash of late payments in recent months may render a high credit score moot, as well as a limited credit bureau containing all brand new accounts with low limits.

Repossessions: Vehicles that for one reason or another were returned to the lender.

Voluntary repossessions are those that the customer returned the vehicle to the lender in order to avoid having to pay any recovery fees.

Involuntary repossessions indicate the lender had to send somebody out to physically find the vehicle.

Bankruptcies: Federal filings that allow a consumer to get judicial relief from his debts. Recent changes in bankruptcy law have made it more difficult to file.

Most debtors fall into Chapter 13, also know as a Wage Earner’s Plan (WEP). The debtor gives his money to a trustee, who allows him to keep a small portion to live on. The balance goes to his creditors to pay down his accounts. Typically, the court requires 3-5 years of payments before “discharging” the debtor from the balance of his debts and allowing him to start over.

“Chapter 7” bankruptcies allow the court to grant the debtor immediate relief from his debts. The court effectively wipes out all of the debtors balances and gives a fresh start. New laws require the courts to consider income and ability to repay some of the debt before granting either motion.

Charge Offs: Accounts that the lender has occur at the point in the life of a debt where the lender has given up trying to collect the debt, and has written it off. Generally, these charged off accounts end up as collections. A creditor will sell his charged off accounts to a collection agency for pennies on the dollar, so any monies the collection agency gets from the debtor is found money.

Late Payments: The credit bureaus rate accounts as paid on time, 30, 60 or 90 days late. Obviously, 90 days late is significantly worse than 30 days, and more often than not leads to the dreaded charged off account.

First Time Buyers (FTB): These are typically applicants who have a thin credit file or no credit history at all. Many times these are young, newly employed college graduates who may qualify under a captive lender’s program. In many cases, these customers may be recent immigrants to the U.S., who may or may not have had credit in their native homeland. Some may have a Taxpayers ID Number (TIN) or W-7, instead of a Social Security Number. Whether or not these applicants fall into Special Finance is a matter of debate in many dealerships, and we will address this issue a bit later.

Time in Bureau: A limited credit file, having only a few minor accounts opened for a short time. While these credit bureaus may show a relatively high score, the quality of the accounts (local department stores or merchants, secured credit cards, accounts with minimal credit limits) makes it difficult for a lender to asses the character of the applicant. Usually these credit files have a few accounts opened for a short period of time with either a limited payment history or none at all.

Tax Liens: The Internal Revenue Service or a state or local taxing authority places a lien on property owned by the debtor. If the debtor owns no real property, a paper lien is filed which allows the taxing authority to attach any property the debtor may acquire.

Public Records: Garnishments, judgments or other matters that become an item of public record due to a court order. Included in here may be records of a bankruptcy or a state or federal tax lien.

Credit Counseling: Often a precursor to filing bankruptcy, credit counseling is a process where a debtor enters into a contract with a credit counselor or agency to arrange partial payment on the outstanding debts. Typically, these accounts are approaching the “critical mass” of becoming a charge-off. The agency has negotiated a repayment plan with the creditor, and each month the debtor pays a sum of money to the agency, which pays the negotiated amount to each creditor. Most of the agencies require the customer to agree not to expand his debt while enrolled in the program, and lenders typically will not consider an applicant who is actively enrolled in credit counseling.

Settled Accounts: These are accounts in which the creditor considers the account closed, but the debtor has paid less than the full amount owed to the credit. The creditor has agreed to accept whatever repayment they were able to collect on the outstanding balance, which was reduced by eliminating a part of the interest owed on the account in order to collect as much of the principle as possible. These accounts are typically viewed by a lender as just short of a charge off, and tend to indicate the applicant’s inability to meet their obligations.

So, what business are you in?

These might sound like strange questions and yet they are very important ones to answer. The business you are in can change with every customer you work with!

If properly managed, “sales” in the automobile industry falls into three different businesses:

If working with customers that have “A” credit (Prime), you are in fact selling new and used vehicles.

If working with customers that have “B-D” credit (Special Finance), you are first in the loan origination business.

If working with customers that have “E-Z” credit (Buy Here Pay Here), you are in the collection business.

So which business are you in? Many dealerships make the mistake of believing they are only in business of “selling new and used vehicles”. The problem with that is that many of their customers fall in one of the two non-prime categories of credit. If you are working with customers that have less than perfect credit, you must also see yourself in the “loan origination” and/or “collection” business.

Safeguards of Creditors

Continued from SAFEGUARDS OF CREDITORS – I

OTHER SAFEGUARDS: Since the grant of a loan is a contract, it provides all those remedies to a creditor, in case of default by the debtor, which can be available to each party to a contract against the other party in the event of breach of contract. Thus the measures mentioned above or below are in fact the ones, in addition to those provided by a contract. In a loan agreement, the creditor is the primary stake holder. Therefore, he can get as many assurances as possible through the loan agreement itself. Some such most common safeguard measures, besides the security, are the following:

NEGATIVE PLEDGE: The negative pledge clause is a “common feature of loan and security documentation”(38). It is an undertaking by the debtor not to allocate specific assets to another secured creditor. “By executing a negative pledge clause, the borrower promises that he will not grant any further rights which will give another creditor priority ahead of the lender to its assets, or, depending on the wording of the clause, that the original lender will be granted equal or equivalent rights.” (39) A negative pledge secures the interest of the creditor on one hand and put a ceiling on the borrower with regard to excessive liabilities on the other. It can also be included in case of a floating charge. However, practically, a negative pledge cannot restrict the grant of collateral by the debtor to another creditor absolutely. And if collateral is granted to a second creditor the first one can only seek remedy for breach of contract. However the collateral given to the second creditor would remain valid in the eyes of law. Even so, in secured loans negative pledge clause would prohibit second ranking security. (40) But, briefly, with very few and quite lengthy in process remedies, and without any proprietary interest of the lender, negative pledge clause can shield only a floating charge holder, to some extent, and this protection is not comprehensive(41).

GUARANTEE: It is a ‘second agreement’ (42), in addition to the primary loan agreement between the creditor and the debtor, by a third person who promises to perform the obligation of the borrower in case of his default. This third person, the guarantor, becomes responsible through the written guarantee to pay off the amount due as a loan if the borrower fails to do so. Though this is a contractual obligation, and needs a consideration for the guarantor, too, yet it strengthens the position of a creditor in case the debtor fails to pay the debt. Guarantee is also called quasi collateral.(43)

CONTRACTUAL COVENANTS: The loan agreement contains terms of the transaction on one hand and divide up the risks between the parties on the other. It, however, depends which party is stronger. If the debtor is sound enough, he may not agree to offer heavy securities to the creditor. But in such a case, the creditor would otherwise see few chances of default owing to the financial position of the debtor. If the debtor is weak financially, then a creditor may insist on covering up the risk by demanding appropriate securities. In any case, prior to making a loan agreement, a creditor must consider the risk analysis and go through the exercise of ‘due diligence’ by obtaining and analyzing certain information about the credibility of the borrower and feasibility of the transaction. If the creditor is careful and vigilant enough, at the time of the making the agreement, he can protect his position by incorporating necessary clauses as safeguards. The terms accepted by the debtor in addition to the normal ones, are called ‘contractual covenants’ ‘undertakings’ or ‘restrictive covenants’ (44).

Such covenants or undertakings by the debtor depend upon the mutual agreement of the parties. However, the main purpose of them is to secure the repayment of loan. Following are the common undertakings:

Prohibiting the change in nature of the business:

To ensure the proper utilization of the loan advanced, and avoid any adverse consequences of indulging into new kind of businesses by the debtor, a creditor may require him not to change the present nature of the business until the loan is paid off. Restriction on disposal of certain assets: A creditor apart from the negative pledge clause may require the debtor not to dispose off a particular assets in any manner whatsoever, until full repayment of the loan. This would minimize the risk of ending of the business without any assets to pay off the debtor, in the event of default or bankruptcy. Confining or limiting the creation of new debts: A business over-burdened by excessive debts is open to the risk of default or failure. A creditor would not like failure of any business funded by his loans.

This would result into a loss of his money, as well. Thus, he may require a debtor while granting a loan to restrain from having new debts, or at least, restrict to a certain level of further borrowing.

Barring or limiting the grant of dividend:

Keeping in view the weaker financial position of the debtor, a creditor may insist on inclusion of a clause in loan agreement which would make the debtor not to pay dividends to the shareholders or to limit such a payment up to certain level. This, again, would be a measure to ensure that without attaining a certain level of strength, the business would not be subject to further burdens.

Requiring a minimum net worth of the business:

A creditor may demand in loan agreement that if the net worth of the business drops down a certain limit, he would be at liberty to demand the acceleration in repayment of the loan. This is to avoid the expected threat to the money of the lender in case of a total failure of the business.

Limitation on use of the funds loaned:

The creditor may require the debtor not to spend the money lent on anything except for the purpose it is advanced. This is because the lender advances money keeping in view the viability of the business or project. He may not be sure about the outcome of expenditure on other areas or projects. Thus, to ensure the appropriate use and regular repayment of the loan, he may not agree to allow the debtor to spend it for some different purpose.

Calling for certain information:

The creditor may require the debtor, either as a condition precedent to the agreement or after the loan is advanced, to provide certain information to the creditor so as to keep him informed of the affairs of the business relevant to the financial status of the debtor. This is again a safeguard on the part of the creditor to keep him vigilant about the fate of his money.

Monitoring:

In certain situations, a creditor may demand a permanent role of monitoring the affairs of the debtor. This, usually, happens where the position of the debtor is quite weaker or the problems being faced by the company are attributed to the poor management.(45) In case of any breach the creditor may stop further payments of loan installments, if any, and may demand acceleration of repayment to secure the debt. “It will be necessary for the creditors to incur expenditure in gathering and analyzing information about the debtor’s actions and financial performance. This monitoring will ensure that defaults are detected as and when they occur” (46) ‘Monitoring’, ‘Contractual covenants’, ‘undertakings’ or ‘restrictive covenants’, being contractual in nature, creates only contractual obligations and thus do not provide, in themselves, an effective cover for the interests of the creditor. However, in addition to the security and other safeguard measures, they are capable of promising a reasonable protection to the creditor.

In addition to the above mentioned possible safeguards, following can be useful in peculiar circumstances.

SET OFF:

Set off is ‘the deduction of monies owed against sums due to be paid’ (47). Set off is a way to satisfy mutual claims by two parties, by deducting the smaller amount out of the bigger one. It may not be a usual case for a bank that in the event of insolvency a debtor would have a claim against the creditor as well. But if it is the case, then a creditor can reduce a claim against itself, by the debtor company (or the liquidator), by deducting its own claim. However, for those who fund companies it is seldom the case. Thus, the option of set off can only be partially useful in certain circumstances; otherwise in case of lending banks it does not provide any protection.

FACTORING:

Factoring is an option for a creditor of selling out the receivables to other companies at a lower value. These companies, called factors, are specialized in debt recovery, and they make money from the differences of the amounts paid to the creditor and that recovered from the debtor. Factoring is useful, particularly, for recovery from the trade debtors, to save the creditor from cash flow problem. It helps in getting something, not the full amount, from the dead debts. In case of big loans, however, this option can only be used as a last resort; which can bring only limited outcome for protection of the lenders.

INSURANCE:

A creditor, besides other safeguards, can opt for an insurance of the amount advanced through a loan agreement. This is not a free cover, neither it brings interest, instead it demands payment; still if an insurance provides cover for a risk of loss of a huge amount of loan, in case of default of payment by the debtor, or in the event of insolvency. However, in case of availability of appropriate security, it would not add much to the safety of the money advanced. Nonetheless, a creditor may weigh the cost of insurance in comparison with the risk covered and decide accordingly. PROTECTION _ That Creditors Need: In the forgoing paragraphs we have had a look at different ways to safeguard the lenders.

It can be observed that none of them is perfect. Some of them, like covenants, are only capable of creating contractual obligations, which are not sufficient to safeguard the position of the creditors. The others, particularly, the quasi-securities are suitable mostly for small and medium businesses. The lenders of big, sometimes syndicated, loans can not rely fully on these measures. However, in peculiar situations, creditors of the companies may like to blend their securities with these measures to enhance the level of protection. But, the most reliable safeguard for the creditors _ though not perfect _ remains a proper security. Only by putting themselves at the position of secured creditor, the lenders can have a maximum level of protection for their position. Nevertheless, the security, in spite of being the best, is not necessarily a perfect safeguard. Sometimes it may not provide cent per cent protection to the creditors. And this is inter alia because of the lack of information available to them about debtor companies’ indebtedness.

There are suggestions to improve the systems more and more _ like maintenance of a new register of ‘security interests’ (48). All the same, a total protection seems to be something too ambitious, as a quest for perfection (49) always remains a fantasy. CONCLUSION: Debt financing is a common feature of today’s commercial life. It works well for executing big projects with help of finances acquired as loans. But the problem of protection of the interests of the creditors could not be solved perfectly. Only by being a secured creditor, a lender can ensure the maximum level of protection, which in case of resourceful and well equipped lenders like banks goes up to 77 per cent: a reasonably high rate of recovery, but not completely successful. However, this level of protection attained through taking securities can be improved by adding certain other measures, where applicable, like quasi-securities: retention of title, hire purchase and sale and lease back agreement; contractual covenants and others