Understanding The Perils of Unit Stocking
What is unit stocking?
Unit stocking is essentially a vehicle for funding the stock inventory on a dealer’s forecourt. It allows a dealer to borrow against stock and then repay the funder as and when a vehicle is sold. Many large dealer networks now go to the open market for stocking finance in order to find the very best deal when the manufacturer’s interest-free period expires. The stocking funding is not always linked to retail support either.
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Typically, a dealer will purchase stock (usually as agent for the funder) and will then enter the details onto the unit stocking system and send an invoice to the funder. The funder will take title to the vehicle and advance funds (usually a percentage of CAP) to the dealer. The dealer usually has 90 days to sell the vehicle or buy back the vehicle at the end of this period. Once the vehicle is sold, the funder will be notified and repaid and title will be released.
Risks of abuse of the facility
There is an element of good faith and trust which must be present in the funder/dealer relationship for the product to work. Essentially, the funder trusts the dealer to use the system appropriately and honestly. Sadly this is not always the case. There is always a risk of abuse and fraud in any asset finance transaction by virtue of the fact that title and possession are split. The funder will own the asset/vehicle, but will not have possession of it and in some cases will never even see it. This means that in stocking cases there is a very real risk of fraud, in particular:
- Sale out of trust
- Overvaluing the asset
- Funding “fresh air”
- Risk of dual financing
Case study
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By GlobalDataI recently acted for one funder in a stocking fraud. In this case, regular audits of the franchised dealer picked up some discrepancies which were followed up and explanations were given. However, the funder continued to be concerned and requested a new audit. The new audit picked up more issues and the dealer was then placed into administration.
Repossession agents and representatives of the funder attended the premises to remove their vehicles and, at this point, it became evident that all was not as it should be.
Many of the vehicles were not at the dealer’s premises. Invoices were provided for vehicles that did not exist (fresh air funding). False hire agreements were produced to try and explain where some vehicles were located and why they were not on the forecourt. Some vehicles were placed on the stocking plan when the dealer had not yet paid the manufacturer for them or even ordered them.
Some of the values of the vehicles on stocking were inflated and other vehicles were dual financed with funders sometimes more than twice. In some cases, the same vehicle would be placed on stocking with a slightly different registration or chassis number.
It was even the case that the dealer funded speculative part exchange enquiries when they did not take the vehicle in as a part exchange.
All of this shows that if a dealer is intent on defrauding a funder or is in a precarious financial position with temporary cash flow issues, it’s easy to see how a dealer might be tempted to misuse a stocking facility. This misuse, even on a small scale, would quickly become a very difficult position to maintain.
How did they pass audits?
The dealer became very used to the standard questions that would be asked by auditors and the fact that they would often get a vehicle list in advance of the audit. They often claimed vehicles had been sent to auction to explain why they were not there. They would even call customers when auditors were visiting and offer to buy back the old vehicle and supply a brand new one for the same cost! They applied for duplicate V5s and then sold the vehicle with the duplicate and produced the original V5 to satisfy the audit. They produced false hire agreements using customer names to suggest vehicles were out on hire. They even inserted a dot into the chassis at HPI so dual financing would be missed.
Legal position
The general rule is that you cannot sell something (and pass title to it) if you don’t own it. This is fondly known as the principle of nemo dat quod non habet. However, there are various exceptions to this general rule. The exception that is relevant in the case of unit stocking is the mercantile agency.
A funder is likely to lose title to any vehicle sold out of trust if the purchaser can show that he/she:
- purchased from a mercantile agent (anyone who is entrusted with vehicles to sell on behalf of the owner)
- that the mercantile agent was in possession of those goods with the consent of the owner
- that there was a sale of the vehicle
- the sale was in the ordinary course of business
- the sale was in good faith and without notice of the agent’s lack of authority to dispose of the goods.
It is extremely likely that any transaction by a dealer of a vehicle on stocking will satisfy this exception and that the funder will lose title. This is an accepted industry risk of providing this kind of funding. However, it’s still worth checking on every occasion that every element of the test is satisfied. I’ve seen many examples over the years of dealers passing vehicle to “mates” in the trade for no consideration or giving away vehicles in lieu of a debt and in these cases title will not pass.
How can I minimise the risk of fraud?
I would suggest that:
- You invest in a good audit function with regular unannounced site visits.
- You hold regular meetings with your auditors and debrief where issues have arisen to ensure you prevent those same issues from arising again.
- You ensure the auditor’s spot check the standard responses. If a dealer suggests a vehicle is at auction or on hire ask for the copy agreement or invoice and then check with the relevant third party that they have the vehicle.
- You also make sure your auditors are actually checking the vehicle (not just the V5) and checking the chassis plate and taking photographs as evidence.
- You pay attention to any sudden spikes in the use of the facility and trust your instinct if something does not feel right.
- You use a good software solution to automate the process as much as possible.
- You take legal advice and regularly review your dealer stocking agreement.
