Where is your money going?

The recent collapse of Nathans Finance, whose parent company VTL Group was in the vending-machine business, shows the importance of finding out what the finance company is really up to.

We examined Nathans Finance's final interim report and found that investors' money was going back to the parent company and into vending machines. How many ordinary investors would put their nest egg into vending machines? The info was there - all you had to do was read it

Finding the information

Sometimes finding out just what the company is planning on doing with your money can be a bit tricky.

Usually a prospectus will have a section called something like Concentration of credit exposure by industry or Description of activities of the company.

These sections tell you what industry or industries the finance company operates in. That is, what type of lending it does.

This information must be in the investment statement - look for the What are my risks? section.

One prospectus we looked at had basic information upfront about what the company does, in its Description of activities of the company section. It told us the company was involved in providing finance to the consumer credit market. Sounds OK so far, but back in section 34 of the prospectus under the heading Other material matters was the section on Risks specific to the company's business.

The Risks specific to the company's business tells you what the company is really up to.

According to this section in its prospectus, the "OK-sounding" finance company lends money to and finances hire purchases for people from a "wide spectrum of socio-economic backgrounds but are more concentrated in the lower to middle income bracket" whose needs "are not catered for by trading banks".

Despite the fact that "trading banks" haven't existed since 1986, we're assured that the company assesses the person's risk profile and "an appropriate interest rate is charged to reflect that".

In other words, a high interest rate is charged because of the loan's high risk - that means it's high risk for you, too, as an investor.

This company is making its profit from lending money at a high rate of interest to people who can't get loans from banks. In some cases, the security for the loan (your investment) is a now second-hand fridge or second-hand car. Does that sound like a good investment to you?

How secure is your "secured investment"?

A secured investment, often referred to as a debenture, sounds reassuring doesn't it?

But your investment is only as secure as the assets it's secured against. Finance companies' largest assets are often the amount of their outstanding loans - and these are of uncertain value.

When a finance company lends your money in the car or consumer finance market, the loan (your security) may be used for the purchase of a second-hand appliance or a second-hand car. The borrower is also quite likely paying a high interest rate. As we reported in our article on Debt consolidation, we've seen car loans charged an interest rate of 32 percent a year - that's quite a ripoff.

It's the soundness of the finance company's loans that are the security for your investment.

Our tip

Be wary of investing in a finance company that specialises in a single industry such as second-hand cars or personal consumer finance. Look for a company operating in a range of industry sectors, so that your risk is spread.