The other development comes from a new decision by the 9th Circuit Court of Appeals in a housing litigation matter. A federal “Court of Appeals” is the court that litigants appeal to if they don’t like the results that they get in trial court – the only higher federal court is the U.S. Supreme Court. In this case, the 9th Circuit held that an investment bank that merely loaned money to a lender could be held responsible for the misdeeds of the lender, under certain circumstances.
The case involved a non-prime mortgage lender, First Alliance Mortgage Company (FAMC), which had been driven to seek bankruptcy protection after suits and investigations dealing with alleged unfair and deceptive practices by FAMC. A class action lawsuit alleged that Lehman Brothers, Inc., a lender to FAMC, was aware of and assisted FAMC’s bad acts. Lehman argued that it was not an active participant in the allegedly fraudulent practices, and that while it assisted FAMC generally, it did not do so with respect to the specific practices. The court did not buy Lehman’s defenses, and after a jury verdict, Lehman was socked with a $5 million verdict, which it appealed. The 9th Circuit opinion affirmed the trial court’s judgment.
That theory would work as well in the car financing business as it did in the housing financing business. The subprime automotive finance sector is not exactly awash with capital at the moment, and you can bet that the companies who lend to subprime finance companies are going to take a long, hard look at this decision to see whether they might be held liable under similar circumstances. If they conclude that the theory poses significant additional risk, they will either charge more for that risk, reduce their subprime financing activities, or both. That won’t bode well for dealers with special financing departments and buy here pay here dealers. Rogue wave number two.
It might be time to shorten the sail a bit.
Vol 4, Issue 2