NACM's Latest Letter to Sen. Sheldon Whitehouse (D-RI), Regarding Bankruptcy Reform

The National Association of Credit Management (NACM) recently sent a new letter to Sen. Sheldon Whitehouse (D-RI), the culmination of a series of meetings among staffers in Whitehouse’s office and members of NACM’s Government Affairs Committee. Below is a copy of the letter as it was delivered:

Sent August 27, 2010
Honorable Sheldon Whitehouse
Hart Senate Office Building
Room 502
Washington, D.C. 20510

Dear Senator Whitehouse:
NACM greatly appreciates the chance to work with your office and with others on S. 3675, the Small Business Jobs Preservation Act, in order to make it as beneficial as possible to small businesses and the economy at large. However, in its current form, we have found numerous provisions that we believe would do more harm than good for both the debtors and creditors involved in bankruptcy cases, as well as for the greater American economy. We continue to support the principles of efficiency and expediency in bankruptcy, but must object to certain specific portions of the bill that we believe are contrary to its stated goals.

The following are some alterations that we would make to S. 3675 as it was first introduced:

-Firstly, the procedure outlined by the bill should not be elective, and Section 1181 should be altered or removed to reflect this. While the bill necessarily includes provisions that shorten deadlines and increase supervision in small business cases, NACM believes that, given the choice, most small business debtors would opt to take their chances with Chapter 11 rather than adhere to the bill's admirably more stringent deadlines and increased supervision. Allowing debtors to choose when these provisions will apply could very easily defeat their intended purpose, and drive more small businesses into a Chapter 11 process that is ill-suited to fit their needs.

-The bill's current arrangement that allows creditors' committees only to form on court orders should be altered to more easily allow the creation of these committees. Specifically, in Section 1182(b) of the bill, reference to Sections 1102 and 1103 should be removed and these provisions dealing with creditors' committees should continue to apply in all cases arising under this statute. As outlined in our previous letter, NACM considers the right to form this committee a benefit to both creditors and debtors. While we recognize that, in most small business cases, no committee is ever formed, the right to do so should remain readily available. Therefore, we believe the bill should be altered to require the U.S. trustee to send out notices in order to form a creditors' committee in every case, just as they would in a normal Chapter 11. However, the statute should also be changed to indicate that if after 30 days no creditors' committee is formed, control over the case would then revert permanently to a standing trustee to be appointed in the case. This offers creditors a fair enough chance to join and participate on a committee without slowing down the debtor's progress through bankruptcy.

-Section 1189 of the bill provides that only a small business enterprise debtor may file a plan and must do so no later than 90 days after the order for relief. NACM believes that other parties, such as the trustee or creditors' committee, should be allowed to file plans as well. This provision should be altered to allow the small business enterprise debtor the exclusive right to file a plan for 90 days after its filing, at which point other parties may be allowed to propose plans of their own. As suggested in our prior letter, should no plan be confirmed within 180 days of the filing, the Code should direct the court to enter an order converting the case to a Chapter 7 liquidation, barring the debtor's ability to show substantive circumstances that would warrant an extension.

-Section 1182(b) of the bill should also be changed to remove the reference to Section 1125, which deals with disclosure concerning and solicitation of a Chapter 11 plan. Section 1125(f) and the remaining parts of Section 1125 that currently deal with small business bankruptcy cases are intended to protect creditors by promoting the dissemination of sufficient information to explain the terms of the plan and should be retained.

-Several provisions in S. 3675 pose a significant threat to the absolute priority rule, which NACM believes should be maintained in all small business filings. Deleting the Section 1129 provisions, referred to in Section 1182 of the bill, in small business cases, including Section 1129(b) and Section 1129(a)(15), eliminates the protections that should be afforded to creditors who may object to a debtor's plan, whether the debtor is a small business or an individual. Section 1129 in its entirety should be allowed to apply and Section 1182 of the bill should be revised to ensure that these protections are maintained. Additionally, Section 1193 of the bill should be removed in its entirety. Keeping Section 1129 intact obviates the need for this additional language as now the small business debtor will still be required to show its compliance with all of 1129 in order to achieve confirmation. Removing Section 1193 of the bill, and allowing Section 1129 of the Code to remain intact would preserve the absolute priority rule, which requires the full payment of any class of unsecured claims that does not accept the plan before any distribution can be made to junior interests, such as the debtor's shareholders. This is designed to protect the right of unsecured creditors to oppose a plan while preventing the filing of insider plans that do not provide fair treatment of unsecured claims. The related discharge provision in Section 1194 of the bill should also be removed.

-Section 1193(e) of the bill, which permits a debtor to pay administrative expenses claims, including claims for post-petition goods or services and claims under Section 503(b)(9) for goods sold pre-petition and received within 20 days of the Chapter 11 filing, over time following the effective date of a Chapter 11 plan should be removed. Section 1129(a)(9)(A), which currently requires a debtor to fully pay all administrative expense claims in cash on the plan's effective date should be retained in order to encourage the continued extension of trade credit to small businesses both before and after their Chapter 11 filing.

With regards to the Bankruptcy Code at large, NACM continues to maintain its position on preference reform, which is that the burden of proof for a preference claim should be shifted from the creditor to the debtor or trustee. Philosophically, the current preference statute considers creditors guilty of receiving a preferential payment until they can prove themselves innocent, violating a fundamental tenet of American jurisprudence: that individuals are innocent until proven guilty. Shifting the burden of proof to the trustee would align the preference statute with this fundamental concept and, moreover, would also be consistent with the goal of S. 3675. Preferences fall hardest on the nation's small businesses, and shifting the burden to the debtor would allow creditors to maintain the integrity of their business while also increasing the chances that they would sell goods to a bankrupt debtor on credit right when the debtor is most in need of credit.

NACM believes that this shift in the burden of proof can be achieved by amending Section 547(b) of the Bankruptcy Code, which provides the statutory requirements the trustee needs to prove in order to avoid any transfer of an interest in the debtor in property. Two new subsections should be added to this section of the Code and Sections 547(c)(2) and (547(c)(4) should be removed.

Subsection (6) would read as follows:
(6) that was not in payment of a debt incurred by the debtor in the ordinary course of business or financial affairs of the debtor and the transferee; was not made in the ordinary course of business or financial affairs of the debtor and the transferee and was not made according to ordinary business terms; and

Subsection (7) would read as follows:
(7) only to the extent that the aggregate amount of the transfers made to or for the benefit of the creditor exceeds the aggregate amount of new value that the creditor gave to or for the benefit of the debtor, which new value is not secured.

The "and" between subsections (4) and (5) of Section 547(b) should be deleted and an "and" should be inserted between subsections (6) and (7) as indicated.

Adding in these two subsections requires the trustee to investigate the nature of the payment the trustee is attempting to avoid to ensure that it is not protected by the ordinary course of business defense, which creditors are currently responsible for proving under Section 547(c)(2). 

Simultaneously, with the addition of Section 547(b)(6), Section 547(c)(2) would be removed. The proposed Section 547(b)(7) also limits the amount of a preference claim to the difference between the new value given to or for the benefit of the debtor and any payments received by the creditor from the debtor within the 90-day preference period. This change is consistent with the "net result" rule that existed prior to the adoption of the Bankruptcy Code, and would eliminate further litigation on the application of the new value defense under Section 547(c)(4), which would be removed while simultaneously adding Subsection (7) to Section 547(b). These changes would also encourage creditors to continue extending credit to a financially troubled company, replenish the debtor's bankruptcy estate with new goods and services, and promote equality of treatment among similarly situated creditors, all policies that Congress had intended to enact when first creating the preference statute.

NACM looks forward to working further with you and your office on making S. 3675 an effective bill that restores the balance between creditor and debtor in the bankruptcy process, while helping small businesses work through their economic struggles and allowing them to save and create jobs.
Thank you for your time and consideration,
Robin Schauseil, CAE
NACM President


Phyllis L. Truitt, CCE
NACM Chairman
Director of Credit
Atlas World Group

NACM Issue Brief With Suggested Changes to Section 547 - Preference Statute

As mentioned in the first story in yesterday's edition of NACM's eNews, here is NACM's latest preference-specific issue brief.

NACM Issue Brief With Suggested Changes to Section 547 - Preference Statute

Under bankruptcy law, Section 547 of the Code requires that all payments made by a debtor to creditors within 90 days of a bankruptcy filing must be returned to the debtor's estate, unless the creditor can prove that the payment was made in the "ordinary course of business," that "new value" was given, or that the transaction was a contemporaneous exchange for new value. The fundamental premise of this section of the Code is to prevent any one creditor from receiving favorable treatment over other creditors.

Typically, the trustee for the debtor's estate or more recently the liquidating trust under a Chapter 11 plan will issue demands to all creditors who received a payment in this 90-day period without regard to any of the defenses. The NBRC wrote that there is an argument that "...Section 547 leads to abusive preference recovery suits by bankruptcy trustees who bring actions indiscriminately, without properly analyzing the creditor's available defenses, and to obtain settlements by creditors because of the litigation costs associated with defending these actions."

The Commission noted the common practice for the trustee to send out a blanket demand and complaint to every creditor who received payments within 90 days of the bankruptcy filing. The trustee would have done little or no prior investigation other than to review the debtor's check register and would have made no effort to determine whether the creditors have any valid defenses. It is rarely cost effective for the creditor to contest the action and most creditors enter into a negotiated settlement rather than incur the legal costs of defending the preference action. To make matters worse, there is no requirement that any funds returned to the debtor's estate through preference recoveries are ever dedicated to satisfying the needs of the unsecured class of creditors. In fact, the NBRC concluded that over 90% of preference recoveries do nothing more than fund the recovery activities.

The NBRC and Congress also recognized the significant problems that existed for small business creditors who had few resources with which to fight blanket preference challenges. For this reason, BAPCPA made three changes to the Code:

-It developed language to make it easier to prove the ordinary course of business defense by proving the transfer was either consistent with the "ordinary course of business" between the debtor and creditor or consistent with industry terms;
-It established a floor of $5,000 (since increased to $5,850 as a result of COLA changes) on preference claims; and,
-It required that any preference challenge made for payments of under $10,000 (since increased to $11,725 as a result of COLA changes) must be brought in the jurisdiction of the creditor.

Unfortunately, very little has actually changed in the real world in the years after the enactment of these new provisions. There are no disincentives or sanctions preventing debtors' trustees from continuing to issue blanket preference demands and complaints for all payments made within 90 days of the filing. For the most part, it remains the small credit grantors who are unable to afford legal counsel to fight these preference claims. It remains more cost effective for the creditor, especially small creditors, to negotiate a return of some portion of the payment (without regard to appropriateness of the claim) than it is to incur legal expenses to fight the challenge-even with the additional protections created in the 2005 law.

The trade creditor community believes that the abuse has not stopped and will not stop until the Code is modified. Specifically, we believe that if the onus to prove that a payment is indeed preferential is shifted, the blanket demands based on 90 day clock and the check register will stop. Under current law, the creditor is saddled with the onus to prove that the payment is not preferential. The Code offers nothing but encouragement to trustees to issue blanket challenges; there are no repercussions for trustees continuing to engage in this activity-even if the payments to the creditor are legitimate.
The reality is that trade creditors face a double jeopardy: they lose funds due to the bankruptcy and are also forced to repay funds already collected. This simple fact has put some small companies out of business. Other credit grantors have been forced to adopt more rigid credit policies and have become less likely to continue offering credit terms that would help customers who show signs of distress.

The trade credit community suggests adding two new provisions to Section 547(b) to require the debtor to prove that the payment is a preference. The first provision would require the trustee to prove that the transfer does not qualify as an ordinary course of business transaction. This change would allow for the deletion of the ordinary course of business defense, under Section 547(c)(2), which should be retained in its current form if the change is not adopted.
The trade credit community also suggests adding another subsection to Section 547(b) to require a trustee or debtor to limit the amount of preference claims to the difference between the aggregate amount of transfers made to or for the benefit of the creditor and all new value extended to or for the debtor's benefit during the 90 days before the bankruptcy filing. This change would allow for the deletion of the new value defense under Section 547(c)(4), which should be retained in its current form if the change is not adopted. This change is consistent with the "net result" rule that existed prior to the adoption of the Bankruptcy Code. It will also simplify the new value defense to avoid all the litigation that has been prompted by issues raised concerning this defense, and further prevent trustees from making illegitimate preference claims. The change would also settle a long-standing split among the courts on whether new value must remain unpaid to qualify for the defense. The Fourth, Fifth, Eighth and Ninth Circuit Courts of Appeal have allowed paid new value to be used as part of the new value defense if the payment is avoidable and not subject to any other preference defense. The Third, Seventh and Eleventh Circuits require that new value remain unpaid and the First, Second, Sixth, Tenth and D.C. Circuits have not ruled on this issue. Although there are lower court opinions that go both ways on this issue, the trend in court decisions is to allow paid new value. The change would allow all new value, paid and unpaid extended to or for the debtors' benefit within 90 days of bankruptcy, to limit the amount of preference claims.
Both changes will also encourage creditors to continue extending credit to a financially troubled company, replenish the debtor's bankruptcy estate with new goods and services provided on credit and promote equality of treatment among similarly situated creditors, all policies that Congress had intended to further when it created the preference statute.
Both changes to Section 547(b) are also consistent with a fundamental tenet in American jurisprudence that an individual is innocent until proven guilty. Under current preference treatment, this fundamental principle is completely reversed. We believe that such a shift in the onus of proof will arrest the unscrupulous activities of many trustees who recover fees that only fund their own recovery activity. At a minimum, it will require the trustee to carefully consider any payment made to a creditor before issuing a blanket preference recovery demand because the trustee will recognize that the onus remains with the debtor's estate to prove the claim. We believe this change will more thoughtfully restore the balance between debtor and creditor rights.


Section 547(b) is amended to add the following subsection 6, which replaces Section 547(c)(2), and to add the following subsection 7, which replaces Section 547(c)(4).

(6) that was not in payment of a debt incurred by the debtor in the ordinary course of business or financial affairs of the debtor and the transferee; was not made in the ordinary course of business or financial affairs of the debtor and the transferee and was not made according to ordinary business terms; and

(7) only to the extent that the aggregate amount of the transfers made to or for the benefit of the creditor exceeds the aggregate amount of new value that the creditor gave to or for the benefit of the debtor, which new value is not secured.

The "and" between subsections 4 and 5 of Section 547(b) should be deleted and an "and" should be inserted between subsections 6 and 7 as indicated.

Another Black Friday: Trade Leaves GDP Revision Bleak; Bernanke Forecast ‘Inherently Uncertain’

Before Federal Reserve Chairman Ben Bernanke could even take the podium at a high level annual symposium in Jackson Hole, WY, the business world was rocked with the realization that a large portion of the economic growth reported this spring was little more than a mirage.

Fueling panic that a double-dip recession may be moving from a longshot to an even-money possibility, the Commerce Department unveiled its revision of second-quarter gross domestic product (GDP) statistics, and it wasn't pretty. Commerce's revision revealed GDP growth tracked at just 1.6%, more than one-third off the 2.4% pace reported initially for the quarter and less than half of the growth rate present in the first-quarter.

Driving the lackluster growth numbers, at a time that in previous years had been predicted as the turning point to a robust economic rebound period, is the growing imbalance in trade. Commerce confirmed that imports spiked by the largest total in about 26 years during the latest quarter, and the overall trade imbalance sits at its worst ratio since just after World War II. The most positive impact on GDP numbers, however, came from business sector investments, up by more than 20%, in areas such as equipment and infrastructure. Granted, such an increase is part and parcel with procrastination by companies slow to make needed replacements during the bleakest point of the economic downturn.

Still, Bernanke himself held up business sector investment as a positive during his speech at Friday's Federal Reserve Bank of Kansas City Economic Symposium. However, he did note such increases might slow through year's end, though staying at a "healthy pace," and noted that investment in the commercial real estate area is one of the two most dangerous obstacles preventing better economic growth. The other is employment numbers.

"Although output growth should be stronger next year, resource slack and unemployment seem likely to decline only slowly. The prospect of high unemployment for a long period of time remains a central concern of policy. Not only does high unemployment, particularly long-term unemployment, impose heavy costs on the unemployed and their families and on society, but it also poses risks to the sustainability of the recovery itself through its effects on households' incomes and confidence."

Bernanke defended the Fed's policies, including keeping interest and borrowing rates near historically low levels, and noted that inflationary and deflationary pressures have yet to creep into the economic picture enough to date to change course. He also reiterated that the Fed's Federal Open Market Committee would continue to help prop up a near-term rebound, slight or stout, in any way possible. Still, striking a balance on economic policies remains difficult for the Fed at present, in part because of the differing needs of the various sectors. Even within the business sector, there is a bit of a tale-of-two-cities conundrum to address:

"Generally speaking, large firms in good financial condition can obtain credit easily and on favorable terms -- moreover, many large firms are holding exceptionally large amounts of cash on their balance sheets For these firms, willingness to expand--and, in particular, to add permanent employees--depends primarily on expected increases in demand for their products, not on financing costs. Bank-dependent smaller firms, by contrast, have faced significantly greater problems obtaining credit, according to surveys and anecdotes. The Federal Reserve, together with other regulators, has been engaged in significant efforts to improve the credit environment for small businesses...There is some hopeful news on this front: For the most part, bank lending terms and conditions appear to be stabilizing and are even beginning to ease in some cases, and banks reportedly have become more proactive in seeking out creditworthy borrowers."

Bernanke later went on to predict the economic recovery will continue and do so at a better pace in 2011 -- but he also called any economic forecast "inherently uncertain" citing the surprises and volatility of recent years.
(Editor's Note: See more coverage and analysis in next week's eNews, out Sept. 2nd).

Brian Shappell, NACM staff writer

Fighting Irish: Nation Calls Logic Behind S&P Downgrade ‘Flawed’

One month after Moody's Investment Services did so, Standard & Poor's has lowered the long-term credit rating of Ireland amid growing concerns with how the nation is handling its large debt.

S&P's downgrade to ‘AA-' places its rating on par with that of Fitch Ratings and one notch below Moody's, even after the latter's move in July to downgrade Ireland.

"The downgrade reflects our opinion that the rising budgetary cost of supporting the Irish financial sector will further weaken the government's fiscal flexibility over the medium term," said Standard & Poor's credit analyst Trevor Cullinan. "The negative outlook reflects our view that the rating could be lowered again if--as a result of its support for the financial sector or due to a more sluggish economic recovery--the government's fiscal performance improves more slowly than we currently assume."

S&P did note that the Irish government's newfound proactive and transparent approach to dealing with financial sector struggles "should help foster a gradual recovery over the medium term." Still, the Irish face much risk at present because of its gambles on the real estate market during the first half of last decade.

Irish officials went on the offensive blasting S&P's analysis as highly flawed. It was a similar sentiment after the Moody's downgrade. Moody's defended its move in July citing the following concerns:
  1. The government's gradual but significant loss of financial strength, as reflected by the substantial increase in the debt-to-GDP ratio and weakening debt affordability (as represented by interest payment to government revenue).
  2. Ireland's weakened growth prospects as a result of the severe downturn in the financial services and real estate sectors and an ongoing contraction in private sector credit.
  3. The crystallization of contingent liabilities from the banking system, as represented by a series of recapitalization measures and the need to create the National Asset Management Agency (NAMA), a government-created special purpose vehicle that is acquiring impaired loans from banks.
As previously noted in NACM's eNews and Business Credit Magazine, the drop in the Irish rating fits into predictions that ratings agencies would react with extreme caution, at times possibly overreacting to credit concerns, because the big three's respective reputations were impaired so badly due to their well-documented poor performance during the economic boom years in the United States and abroad. As a response to being considered overly positive last decade in the run-up to the global economic downturn, the trio is almost certain to operate with an increasingly conservative view for a long time to come.

Brian Shappell, NACM staff writer

Austerity Fears Come Home to Roost

(Business Intelligence Brief) The European situation is starting to show some signs of unraveling, and this will provide some considerable fodder for debate as the weeks progress. Both sides of the debate between austerity and stimulus are asserting that what is happening right now in Europe is just as they predicted, but there are violent disagreements as to whether this is a good thing or a bad thing.

The bottom line is growth has slowed considerably in every nation except Germany and France and, by all accounts, they will be seeing that slowdown very soon themselves. The government help has all but ceased in much of Europe, and the economies in these nations have seen an almost immediate sag. Germany has been powering along on the strength of its export sector and its strategy to hitch a ride on the growth in Asia. Meanwhile, France has been a little slower to pull the stimulus rug from beneath its economy. The hapless PIIGS (Portugal, Ireland, Italy, Greece, Spain) have had no choice but to pull away from almost every element of support, and all of them are falling into funks that may take years to dig out of.

The rest of Europe has stagnated as expected by austerity and stimulus supporters alike. The question is whether this is good news or bad news in the longer term. The austerity position believes there is no way to avoid this pain and the only choice is when to suffer it. The longer Europe waits, the more the problem builds - that will make the solution even more difficult than it has proven to be. The stimulus advocates assert that imposing these restrictions on a weakened economy will only make the situation unbeatable for those who have already been caught in the mess. The people without jobs and the struggling businesses have already been in the tank for two years and now they are being asked to stay in that situation for two or three more. They assert that it would be wiser to let some recovery take hold before addressing the issue.

The response from the austerity advocates is that this sounds like a nice strategy, but the reality is that governments find it impossible to call an end to the party once it gets started. The logic of the stimulus position would have been at its peak in 2006-2007, when the world was riding a massive high and there was no hint at all of fiscal rectitude - only an intense desire to make sure that the good times rolled on and on and on.

Analysis: All of the indices are pointing in roughly the same direction. The majority of the growth that had started to manifest in the latter part of 2009 and into 2010 was attributed in no small part from the fact that there was lots of government encouragement - everything from "cash for clunkers" to subsidized housing rates and direct intervention in the finance system. Most of that is now gone, and the Germans have gone so far as to cut spending in many areas and seems determined to add to the VAT tax at some stage.

The US will be watching all this with intensity. If the Europeans sink into something that looks a lot like a double-dip, the attitude will be that the stimulus doves were correct all along. But, if Europe manages to get by with slow growth that doesn't sink to recession levels, the austerity troops will be thrilled.

Chris Kuehl, NACM Economic Advisor

Getting Easier to be Green?

A new educational program designed to ease the transition for commercial real estate contractors and subcontractors segueing into more sustainable construction practices launched yesterday (Aug. 18th), according to the trade association behind it.

The Associated General Contractors of America (AGC) have unveiled its green construction program, Building to LEED (the Leadership in Energy and Environment Design certification program) for New Construction, Second Edition. The program seeks to help contracts, designers and developers have greater success in sustainability driven construction endeavors, especially ones such for which aforementioned players plan for "green" third-party certification.

"Green building is rapidly changing from a niche market to the industry norm," said AGC CEO Stephen Sandherr. "Within a short time, the ability to master the complexities of green construction and certification will be essentially to succeeding as a building contractor." Sandherr noted that the number of in-progress green construction projects will surge by at least 25% in the next three years.

Meanwhile, the U.S. Green Building Council (USGBC), which administers the LEED program, has started an active recruitment drive asking those who have built LEED-certified commercial structures in recent years and those embarking such ventures in the near future to help it cull information. USGBC is hoping the feedback, both from respective commercial and residential builders/developers, will help it develop future, better versions of the LEED program.

"By providing a large and accurate data set critical to supporting the ongoing improvement of LEED and continuous optimization of LEED-certified projects, BPP [the Building Performance Partnership program] will ensure LEED projects deliver on their extraordinary environmental and economic potential," said LEED VP Scot Horst. He added that a "disconnect" often exists between the design and best intentions of a so-called green project and the actual performance of such a building. "BPP will help projects meet operational sustainability goals sought originally during the design of the construction process. The data will shed light on external issues such as occupant behavior or unanticipated building-usage patterns.

Brian Shappell, NACM staff writer

Group of Senators Call on SEC to Tighten Reporting Requirements

A group of prominent Senate democrats recently called on Securities and Exchange Commission (SEC) Chairwoman Mary Schapiro to require fuller and more accurate corporate accounting disclosure.

Specifically, the group urged Shapiro to use her agency's existing authority to prevent instances where corporations conceal their debts and financial weaknesses. In its letter, the group of six Senators cited Lehman Brothers' use of an off-balance sheet "Repo 105" transaction to hide its debts and project a falsely positive portrait of its financial state.

"The Lehman Brothers use of the 'Repo 105' transaction is particularly troubling," said the letter. "According to the Lehman Brothers Examiner's Report conducted by Anton Valukas, Lehman took advantage of accounting rules to temporarily book a loan as a sale, and by carefully timing this transaction just before the release of its quarterly financial report, Lehman was able to deceive the public and regulators into thinking it was much better capitalized than it actually was." Such activity is apparently still rampant, as the letter referred to a Wall Street Journal article that showed a group of 18 banks had understated their debt levels by lowering them an average of 42% at the end of each of the past five quarters.

"Rather than relying on carefully-staged quarterly and annual snapshots, investors and creditors should have access to a complete real-life picture of a company's financial situation," said the letter, signed by Senators Robert Menendez (D-NJ), Edward Kaufman (D-DE), Carl Levin (D-MI), Diane Feinstein (D-CA), Barbara Boxer (D-CA) and Sherrod Brown (D-OH). "The SEC was founded on the premise that when investors and creditors have full and accurate information about companies' finances, they can allocate capital effectively. But when companies use accounting gimmicks to mislead investors and creditors, capital markets malfunction."

The Sarbanes-Oxley Act of 2002 gave the SEC the authority to require the reporting of off-balance sheet activities, but the agency has only issued rules on the subject, rather than definitively regulating it. In their letter, the Senators called on the Commission to require companies to write detailed descriptions of all their off- balance sheet activities in their annual 10k reports. Current regulations only require them to detail off-balance sheet activities that are "reasonably likely" to affect the firm's financial condition.

"Companies should also explicitly justify why they have not brought those liabilities onto the balance sheet," the letter added. "Complete disclosure of all off-balance sheet activities is particularly crucial for the largest and most interconnected companies, including both banks and non-banks."

Other requests made in the letter include for the SEC to encourage the Financial Accounting Standards Board (FASB) to improve financial reporting rules for all types of off-balance sheet activities and to monitor the FASB's efforts to prohibit off-balance sheet financing. "As we attempt to recover from the latest meltdown, we hope that, in addition to aggressively investigating and prosecuting past misconduct, you will put in place these new rules that will make it harder for companies to mislead investors and creditors in the future," said the Senators.

Jacob Barron, NACM staff writer

Fed Leaves Rate Unchanged, Notes Sputtering Recovery

The Federal Reserve admitted the economic recovery showed signs of slowing if not stalling but, with little room to move on rates, left the target range for the federal funds rate unchanged yet again following an economic policy meeting Tuesday. The Fed's inability to help drive efforts to aid the pace of the recovery and the growing perception that it has little wiggle room because of the historical low funds rate, appears to be fueling some dissention in the ranks.

From the Fed:

"Information received since the Federal Open Market Committee met in June indicates that the pace of recovery in output and employment has slowed in recent months. Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software is rising; however, investment in nonresidential structures continues to be weak and employers remain reluctant to add to payrolls. Housing starts remain at a depressed level. Bank lending has continued to contract. Nonetheless, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, although the pace of economic recovery is likely to be more modest in the near term than had been anticipated.

Measures of underlying inflation have trended lower in recent quarters and, with substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.

The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period.

To help support the economic recovery in a context of price stability, the Committee will keep constant the Federal Reserve's holdings of securities at their current level by reinvesting principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities.The Committee will continue to roll over the Federal Reserve's holdings of Treasury securities as they mature.

The Committee will continue to monitor the economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; James Bullard; Elizabeth A. Duke; Donald L. Kohn; Sandra Pianalto; Eric S. Rosengren; Daniel K. Tarullo; and Kevin M. Warsh.

Voting against the policy was Thomas M. Hoenig, who judges that the economy is recovering modestly, as projected. Accordingly, he believed that continuing to express the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted and limits the Committee's ability to adjust policy when needed. In addition, given economic and financial conditions, Mr. Hoenig did not believe that keeping constant the size of the Federal Reserve's holdings of longer-term securities at their current level was required to support a return to the Committee's policy objectives."

Clash of Interests – Export Promotion vs. Labor

(From Business Intelligence Briefs/Armada Corporate Intelligence) The assertion made by President Barack Obama on exporting was correct but politically charged, and now the real battle has been engaged: U.S. businesses do indeed need to expand the export economy to pull out of the slow economic recovery.

Growth markets are no longer in the United States for some of the key products made domestically and, for the past several years, the nation has seen a steady increase in export activity that has gone a long way towards offsetting the declines in other sectors. This is part of what prompted the president to call for a doubling of exports in the next year, but it is increasingly evident that this is a pledge that will be exceptionally hard to make good on. Moreover, it's one that Obama failed to coordinate with the Democrats and supporters in the labor unions.

In general, the labor unions oppose international trade. This is not the case in all situations as there are some unions that have members who are involved in global trade activities. However, the majority of the unions see trade as more of a threat than a benefit. The advance of imports generally means that jobs are lost here as consumers substitute the foreign goods for the domestic versions. There are other issues of concern as unions here object to the way that workers are treated in other nations, and worries also exist regarding safety and quality when it comes to some imported goods. These concerns are legitimate in many respects as it is abundantly clear that imports do displace domestic goods and domestic jobs. The balance that has to be struck falls somewhere between the need to provide jobs for the domestic worker and the need to provide consumers with affordable goods and services.

This sets up the challenge for Obama. On the one hand, he understands that the United States makes money by selling its goods and services overseas and such activity creates jobs and profits for domestic workers and companies. However, just selling to the rest of the world is not an option. -- The rest of the world wants to sell to U.S. consumers as well, making every trade agreement a compromise in which some markets are opened to each nation.

Analysis: The White House has tried to bring the unions towards supporting some of the new trade agreements by promising to demand enforcement of international labor standards. This is the offer that has been made to bring the unions to support the US-South Korea Trade Agreement. Still, there is no sign that this has won over the union leaders. Given the strength of the unions in South Korea it is hard to see what the US would be demanding - they already have the ability to shut down the system with general strikes and have done so many times. Further, half of the leaders in the ruling party are there as a result of the support they get from the unions, making South Korea hardly an anti-union.

The real issue for the unions is that Korea stands to gain access to the very American markets unions want to protect: the automotive sector, manufacturing and electronics. The agreement opens Korea to financial services, insurance and telecoms - none of which are heavily unionized industries in the United States. It is going to be very hard for the Obama White House to get approval for this treaty in an election year, and it is very likely that Obama will have to attend the next G-20 meeting in Seoul empty-handed.

Chris Kuehl, NACM Economic Advisor

Eye On the Hill: New Bankruptcy Bill Introduced by Sen. Whitehouse

Readers of NACM's Credit Real-Time Blog and Advocacy page will notice that NACM has been in discussions with Senators on both sides of the aisle regarding the potential for bankruptcy reform. The first step toward opening and revising the Code was recently taken by Sen. Sheldon Whitehouse (D-RI), as he introduced the Small Business Jobs Preservation Act of 2010.

As its name implies, the bill frames the reform of the Chapter 11 process, as it applies to small businesses, as a job saving measure. Whitehouse has previously chaired a hearing, in the Senate Judiciary Committee's Subcommittee on Administrative Oversight and the Courts, entitled "Could Bankruptcy Reform Help Save Small Business Jobs," during which some high-profile witnesses suggested opening up the Chapter 12 process for use by small businesses. While the now-introduced legislation isn't an outright opening of Chapter 12 to apply to smaller firms, rather than to just small family farms and fishermen, many of its tenets are inspired by Chapter 12.

Specifically, the bill includes the appointment of a third-party standing trustee, which is taken directly from Chapter 12, and other tenets such as a provision that increases the size of what constitutes a "small business enterprise debtor," and a provision that makes a creditor deemed to consent of a proposed plan should it not cast a timely ballot after receiving notice.

NACM had met with staff in Whitehouse's office, just prior to the bill's introduction, and offered two letters iterating its support of certain principles that the association believed any bankruptcy legislation should follow. In one of the letters, NACM offered its support to the "deemed to consent" provision. "NACM believes that creditors should retain voting rights in all small business cases. However, NACM would also support changes to the Bankruptcy Code that would have a non-voting creditor deemed to consent to the proposed reorganization plan," said the letter. "Such a measure would balance the interests of creditors and debtors and make confirmation of a plan easier, thereby increasing the speed of the proceedings. It would also encourage and hopefully increase creditor participation in a case, which we believe is valuable in any bankruptcy filing."

Still, NACM's Government Affairs Committee has read the bill and will continue to consider it closely. In the meantime, negotiations on the bill continue.

For a full copy of the bill, click here. If you have any opinions on the subject, email your thoughts to Jacob Barron at

NACM staff writer, Jacob Barron

July CMI Confirms Cautious Outlook from Businesses and Consumers

July's Credit Managers' Index (CMI) continued to show that the economy as a whole is stuttering. The overall index remains above 50, but not by much, and these levels have not been seen since late last year when the index was down to 52.9 in December. As recently as April, the combined index was up to 56.5; it now sits at 53, and there are signs that this decline could continue into next month and possibly longer. "The fall is not as dramatic as when the recession started to wind up in 2008, but the trend is far from encouraging as there are weaknesses showing up in both the positive and negative categories," noted NACM Economic Advisor Chris Kuehl, Ph.D., who issues the CMI for the National Association of Credit Management each month.

For the second consecutive month, sales declined, which is consistent with the data coming from the retail community and also with the reported declines in consumer confidence. The level of sales had exceeded 60 for five months and only barely slipped back to 59 in June, but has now dropped to 57.2. Much of this is tied to the slip in inventory buildup in the manufacturing sector, but the service sector is declining as well. The fact is that businesses and consumers alike have become cautious with their funds and that is manifesting itself in a retrenchment in sales.

When one looks at the CMI trends over the last several months, it is apparent that companies have been making some very careful decisions about cash flow and exposure, and it is evident that consumers are doing much the same thing. "The last couple of months have seen some pretty solid earnings reports, but these extra profits in the corporate community have not been working their way into more job gains or into overall business expansion," explained Kuehl. This money is being saved and the cash is being used to reduce financial exposure.

There has been some evidence in the data collected by the CMI that companies are getting more aggressive in terms of collecting debt. The number of accounts placed for collection has increased, and it appears that there is less patience than in previous months. The anecdotal discussions indicate that business does not want to be caught short by waiting to collect from a company that may be in trouble, and there is also a need to address the cash flow issues that companies are now facing.

A palpable decline in the number of credit applications filed and an equally sharp decline in the number of applications granted is evident. There are two related factors at work here. First, companies that would be offering credit have been cutting back as they focus on accumulating as much cash as possible; these same companies are not getting the access they once had to credit lines and loans in general, meaning they are far more reticent to offer credit. Second, companies that would be asking for credit are also stymied as they are not yet secure in assessments of the future and continue to avoid potential risks.

"The only real bright spot in the index is that the negative factors have not appreciably worsened from last month," said Kuehl. In the combined index there was no change at all, but there was a worsening of the situation in the manufacturing sector while conditions got slightly better in the service economy. There has been some conjecture as to whether the issues in the Gulf of Mexico have had an impact on the overall index and thus far there is not much evidence of this. The damage to industry has been highly localized and has affected the tourism and fishing industries more than any others. If there is an impact in the future, it will likely revolve around what is happening in the oil sector itself as this is by far the biggest industry in that part of the country. It remains on hold pending the decisions made about the oil drilling moratorium.