A bankruptcy claim is an IOU from a company that has filed for bankruptcy protection. A claim can be for a defined amount of money, earned wages, accounts receivable or contingent, unliquidated liabilities.
Because Chapter 7 and Chapter 11 status gives the debtor protection from creditors, the debts of the bankrupt firm stay unpaid until the bankruptcy court proceedings are complete. That process can last from a few months to several years.
During this period, the court determines the value of the firm’s assets, how much money their liquidation can raise and which creditors will be paid on their claims.
Secured and unsecured claims
In a typical bankruptcy case, the court divides all claims against the bankrupt firm into secured and unsecured claims.
A secured claim is backed by a lien on collateral, such as real estate, motor vehicles or other property. It carries more immediate value than an unsecured claim, so secured claims generally get priority from the court.
Unsecured claims have no collateral behind them. They are split into priority unsecured claims (administrative expenses such as wages owed to employees) and general unsecured claims, often called trade claims. Courts generally put paying a debtor company’s employees ahead of paying general creditors.
Creditors thinking of selling their claims, and buyers thinking of buying them, research the priorities the court has set. Those priorities drive the return a claim can be expected to produce.
One broker’s campaign to bankruptcy trustees
Bankruptcy estates often hold notes that the trustee has to sell. Broker Tom Turpin decided to market to those trustees directly. Here is his report, in his own words.
I first read about bankruptcy notes in a home-study course on note marketing. It had a very small section on them, including a two-page legal update written by Lorelei Stevens of Wall Street Brokers. I was intrigued by her write-up, even though the course author very much de-emphasized these notes, saying, “Well, who wants to wait 6 months trying to close a deal with a bankruptcy trustee? Not me!” Still, I thought it would be fun to try.
I thought direct mail would be the best way to reach the trustees, so I developed a four-color, four-page brochure, a business card and a two-page sales letter. At that time I’d closed only two note deals (non-bankruptcy notes), but I got testimonials from both note sellers and put them in the brochure. I also included my picture.
I picked a business name that I wanted to sound like a law firm: Turpin, Franklin & Hope. Turpin’s me, and Frank and Hope are my parents. They helped set me up financially, and I thought it would be fun to have them in the business name.
Building the trustee list
I called several bankruptcy courts to get lists of trustees, but finally found that the U.S. Department of Justice website lists them. It gave me every Chapter 7 bankruptcy trustee in every state except Alabama and North Carolina, which I got through their own websites or by calling.
I copied all the addresses into an Excel spreadsheet and spent a few days reformatting them into a table (I eventually wrote a macro that sped this up considerably). At the end I had 1,332 trustee addresses to use in a mail merge.
Each letter was personalized with the trustee’s name and address, used their first name in the greeting, and was signed by hand.
Response rates from mail and fax
I had no idea whether the list was current or the addresses accurate. I mailed all 1,332 letters first-class, and to my surprise only 17 came back as undeliverable. That means I reached 1,315 trustees, or 98.7% of them.
The response was even more encouraging: 57 trustees responded over the next four months, a 4.3% response rate. For direct mail, that’s terrific.
When the responses slowed down, I launched a fax campaign. I bought the latest membership directory of the National Association of Bankruptcy Trustees (NABT), which had 688 fax numbers. I called the remaining 570 trustees (leaving out the 57 who had already responded) and got 391 more. That made 1,079 faxes attempted, but many directory numbers were out of date and only 890 went through. Each fax was addressed to the trustee individually.
The fax campaign brought 24 responses, 2.4% of the 890 sent. That figure shouldn’t be used to judge the campaign on its own, because I think the faxes mainly reinforced the earlier letters.
| Channel | Sent or reached | Responses | Response rate |
|---|---|---|---|
| Letters (first-class mail) | 1,315 reached | 57 | 4.3% |
| Faxes | 890 sent | 24 | 2.4% |
| Combined campaign | 1,315 trustees | 81 | 6.2% |
What happened to 92 bankruptcy notes
I worked on 92 bankruptcy notes as a result of this marketing (some trustees sent more than one). They broke down like this:
| Outcome | Notes |
|---|---|
| Closed | 3 |
| Should be closing soon | 2 |
| Show some possibilities | 3 |
| Referrals in process | 6 |
| Came close to closing but died at the last moment | 10 |
| Trustee wanted more than was quoted | 17 |
| Not quotable (no investor was interested) | 36 |
| Could not get adequate documentation | 15 |
| Total | 92 |
I don’t mean this to sound like a commercial, but I quickly found it wasn’t worth dealing with investors other than Larry and Lorelei Stevens of Wall Street Brokers on bankruptcy notes. They were unusually prompt, their quotes were very good if not excellent, and they knew the bankruptcy process thoroughly. After a while I stopped contacting other investors.
Everybody else had to be educated on how the process worked, and even then they tried to close the deal their usual way. One investor insisted on a purchase agreement from the trustee because he couldn’t pull credit without one. All he got back was a verbal “OK”; the trustee wouldn’t sign anything. It was a long time before we even got to the credit stage with that investor.
Cautions about bankruptcy notes
Here are a few points I had to learn the hard way. Besides the legal delays and the cumbersome bankruptcy procedure, other factors make these deals tough:
- Seller motivation is fair, not excellent. The seller here is the trustee. He has a statutory obligation to sell the notes quickly, but he doesn’t have the urgency most motivated note sellers have. Trustees want to sell, but they aren’t desperate. Combine that with a heavy caseload, and it can take months just to hear whether they’ll accept your quote.
- The payor, and the creditors, are your competitors. Lorelei Stevens has pointed out that the payor can become your biggest competitor on these notes. I’d add that creditors of the estate can be competitors too. They seem well informed about the estate, and if they’re investors they can step in and work a deal with the trustee. From what I’ve seen, they have priority over outside investors.
- More things can kill the deal. I worked on one note that went all the way to the court order date. At the last moment, the debtor switched from Chapter 7 to Chapter 13, which nullified the note sale. He had the right to do it, but he gave no warning and waited until the very last moment. The trustee was shocked.
There are probably other legal entanglements with bankruptcy notes that never come up in normal note deals.
Is there a role for the broker?
Lorelei says brokers who do bankruptcy notes exclusively can’t make any money. Over nine months I closed three deals and made $1,600 in commissions. If the other two close, I’ll make a total of $4,679. That doesn’t even cover the cost of my mailings and phone calls. I chalk it up to the price of an excellent education.
I also question how much value a broker adds with bankruptcy notes. Investors bring the money; brokers seem to be an unnecessary middleman. I had hoped to be a sort of clearing house, where trustees would send me their notes and I’d shop them to many investors for the best price. For the first annuity I worked on, I contacted no fewer than 24 investors, and found that less than productive.
That experience did let me narrow the field to a handful of investors I liked, and eventually Wall Street Brokers were the best fit for almost every type of note I saw, so the clearing-house idea fizzled. And once a trustee has dealt with an investor, he calls the investor for the next deal, not the broker.
So that’s my report. I’m back to working a regular job full-time. The note business is a fun thing to do on the side, and if more notes come from trustees, I’ll be back in it.
