The dramatic implosion of automotive parts supplier First Brands has triggered substantial losses for several major Wall Street firms, but a select group of lenders managed to avoid the financial devastation by recognizing early warning signs and taking decisive action.
The Apollo Connection: Learning from Past Mistakes
Years before First Brands' collapse sent shockwaves through financial markets, Apollo Global Management experienced its own setback with a smaller automotive components company. In 2019, Apollo's private credit funds suffered losses when Vari-Form, a manufacturer of chassis and roof rail systems, collapsed despite receiving over US$130 million in loans from the investment giant.
Rather than simply moving on from this experience, Apollo transformed it into a strategic opportunity. The US$840 billion asset management firm developed a new investment thesis based on their painful lesson. Last year, Apollo began shorting the debt of First Brands, a larger enterprise owned by Vari-Form's sole shareholder, Patrick James.
The Soros Exit: Management Concerns Prompt Withdrawal
Soros Fund Management, the US$25 billion family office of billionaire investor George Soros, identified its own reasons for concern about First Brands. The investment firm ultimately sold its position in 2023 due to growing apprehensions about the company's management practices and operational transparency.
While Apollo emerged as one of the few Wall Street entities to actually profit from the First Brands situation, Soros joined a broader cohort of institutional lenders who avoided losses by either refusing to extend credit or significantly reducing their exposure to James's sprawling business empire.
Red Flags in Plain Sight: Due Diligence Reveals Critical Issues
Donald Clarke, a veteran of field examinations for asset-backed lenders, conducted due diligence on First Brands in 2022 for a private capital firm considering a US$200 million bridging loan to the company. According to Clarke, serious financial problems were clearly evident to those who looked closely.
The first major warning sign emerged when First Brands refused Clarke's team access to one of their storage facilities where they needed to inspect collateral supporting the proposed loan. They said to us: 'You will not go to the warehouse,' Clarke recalled. Really? We're going to lend you US$200 million but you can't go see the inventory? I mean, are you kidding me?
This refusal forced Clarke's firm, Asset Based Lending Consultants, to rely solely on financial statements provided through a data room. Their analysis quickly revealed that First Brands was chronically behind on supplier payments, prompting many vendors to shut down open credit facilities and demand cash on delivery or letters of credit instead.
Another puzzling discrepancy emerged when Clarke noted that First Brands needed a US$200 million loan despite recently disclosing it held more than US$800 million in cash reserves. The company's audited 2021 accounts had reported US$2.6 billion in revenue with profits of US$53 million, making the urgent need for additional financing difficult to comprehend.
When Clarke's team attempted to discuss these inconsistencies with First Brands management, their requests for conversation were repeatedly delayed, adding to the growing concerns about the company's transparency.
The Aftermath: Fraud Allegations and Massive Debt
Patrick James now faces serious accusations of fraud and embezzlement, allegations he continues to deny. Meanwhile, First Brands' enormous US$12 billion debt pile is expected to face substantial writedowns as the company navigates bankruptcy proceedings.
Some burned lenders have claimed the collapse occurred without warning. Brian Friedman, president of First Brands' longtime banker Jefferies, told investors last month that fraud is conventionally not detectable in the real world. However, the experience of Apollo, Soros, and due diligence experts like Clarke demonstrates that thorough investigation could have revealed the company's underlying problems.
The First Brands collapse serves as a cautionary tale for private credit markets, highlighting the critical importance of comprehensive due diligence and the value of learning from past investment mistakes in identifying future risks.
