A ‘forward flow’ or ‘asset purchase’ arrangement is where one party agrees to sell another party assets on an ongoing basis. The buyer usually agrees to purchase a specific type of asset originated by a Company. In these agreements the two parties usually agree on a few key items, such as:
Let’s discuss the economics in more detail. Buyers typically will pay what is called a ‘premium’ for the assets in the form of percentage points above par. If the principal amount of a loan is $100, then the buyer may pay 103% of the principal to the seller. This compensates the seller for the upfront cost of origination of the loan - the CAC to acquire the customer and some portion of the general OpEx to keep the company running. Often these premiums range anywhere from 0-5% (but can be higher). At this point in time the buyer has had to do next to nothing to originate those assets and is taking a view that the asset should return more than the premium they paid (factoring in losses and their own funding costs). Asset buyers are trying to minimize the amount of premium they pay and sellers are trying to maximize it.
Servicing is another key topic to cover since in most transactions in the fintech space, the seller of the assets continues in their role as the servicer of the assets even after they sell the assets. For this role the servicer is usually compensated 0-1% of the asset value. This works to the advantage of all parties involved because the actual end customer of the loan knows the asset originator, and not the asset buyer. The originator is the party with the existing relationship with that customer and they are usually trying to monetize that customer repeatedly. An originator would not want an asset buyer to step in between themselves and the customer and potentially jeopardize the relationship they are trying to build. Furthermore, asset buyers are usually credit funds, insurance balance sheets, pension funds or other large asset managers and they are often not set up to service assets in the same way an originator is.
Third party servicing platforms do exist and often they are retained as part of a forward flow agreement to determine in advance who would step in as a servicer if the originator could no longer perform their obligations.
Sometimes in more structured deals, the servicing fee can be ‘put at risk’. This type of feature would give the buyer the ability not to pay the servicing fee if certain triggers are met, usually this trigger is if losses are significantly higher than originally expected.
