Don't jump to buy notes where losses are lurking

Money Talk

Your Money

July 11, 2004|By MATT LUBANKO

What are your thoughts on American Business Financial Services Inc.? In an advertisement, I saw them selling 13-month notes with an annualized yield of 11.9 percent. What should I know about this company before I invest in their notes?

- M.V., Baltimore

Here's a case where the return of your money is as much of a concern as the return on your money.

Your investment in a short-term note would be nothing less than a short-term loan. And American Business Financial Services is hardly equipped to play the role of model borrower.

To be fair, the so-called "subprime lender" (or lender of last resort for consumers and business owners) has been issuing notes since the late 1990s. On each note, the company has never failed to repay investors - or de facto lenders - their principal plus interest.

In the fiscal years of 1999 to 2002, American Business Financial was a profitable company. That is no longer the case. The company reported a net loss of $29.9 million on revenue of $173.3 million in fiscal 2003. It has lost $84.3 million in the first nine months of fiscal 2004; the fiscal year ended in late June but the company has yet to report fourth-quarter and full-year results.

The top executives with the company also said in a third-quarter earnings report they expect American Business Financial to continue losing money through the fiscal first quarter of 2005, which ends in late September.

Shareholders have filed a class action lawsuit against company officers over previous years' earnings reports.

In 2002, the company paid fines to Pennsylvania regulators for improperly billing customers for legal services - related to mortgages - that were never provided. In recent years, the company has also missed deadlines on the repayment of loans to its institutional creditors, including J.P. Morgan Chase & Co.

The prospectus also admits that American Business Financial depends on recurrent issues of new notes to drum up new business and repay old debts.

"If we are unable to obtain additional financing," the prospectus notes, "we may not be able to restructure our business to permit profitable operations or repay our subordinated debts when due."

Since the notes you'd be buying are "subordinated notes," that means you - as a lender to American Business Financial - would be near the back of the line in a bankruptcy proceeding. Holders of senior notes would be repaid first. You would receive the leftovers, but only if there is anything left over. And in a typical bankruptcy proceeding, it's not uncommon for bondholders or investors in subordinated notes to receive 15 cents to 35 cents for every dollar they invested.

If that 11.9 percent annual yield looks too tempting to pass up, read the prospectus. Call 800-776-4001 or go to the Web site at to download an investment note prospectus. If the document is too unwieldy for you to read in one sitting, start at page 16 with the heading marked "Risk Factors."

Read the boldfaced type: "Because our operations are generally not subject to regulation and examination by federal banking regulators, these protections are not available to protect investors in our subordinated debt."

Read the finer print: "State, local and federal government agencies have imposed sanctions for practices including ... charging borrowers excessive fees, imposing higher interest rates than the borrower's credit risk warrants and failing to adequately disclose the material terms of loans to the borrowers."

Invest if you must - if you still can't pass up a chance to earn a relatively high return on a short-term fixed-income investment. But don't say you weren't warned.

Matthew Lubanko is a financial columnist for The Hartford Courant, a Tribune Publishing newspaper. E-mail him at

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