Arcil NON PERFORMING ASSET seminar [kompatibilitätsmodus]

Arcil NPA Seminar - Mumbai 2007

Asset Reconstruction Company (India) Ltd.

Mumbai, February 1th, 2007

NPA Seminar – 2007Excellent Management of Non Performing Assets

Clemens FroweinHLP entwicklungspartner


Evaluation ofNon Performing Assets


Managing Risk in Loan Origination

Managing NPA from a Banks perspective: Evaluation

� Background: NPA in Germany has become a huge story

� The economic value approach relevant for NPA

� Significant relation between credit cost and stage of impairment

� Behind every distressed debt is a crisis

� The challenging task: Finding the path back to Valu e

� Timing is crucial in dealing with NPA


The German NPA case

Insolvency case: Germany� Low equity capital ratio and high outside

capital ratio in small- and mid-capcompanies

� Inflexible legal framework

� Increase in insolvencies in late 1990s

� High saving ratio of consumer

� Value-decrease in the real estatemarket

� Tax privileged and driven real estateinvestments in East Germany, financedby Banks

� Lack of economic growth leadsespecially in East Germany to recession

� Value-decrease of real estate market

� Mortgage loans: from performing tonon-performing

Germany‘s reunification

Dramatic changes in economic framework

In Germany, NPA has become a very important issue f or the banking industry.


Source: Prof. Dr. Schalast, NPA Summit 2006


The German NPA market (2006)

Ernst & Young Mercer Oliver Wyman

€ 300 billion of NPA

€ 125 billion of NPA

€ 35 billion of SPL

€ 160 billion of bad loans

The German NPA case




� Established and dynamic NPA market

� No concrete estimation about market volume possible

� Economic recession �� Key reason for increase in NPA risks

� NPAs �� advantages for seller and buyer

� Servicing �� success key

� Attractive secondary market

� New business field for ARC

…and even more, NPA is becoming a real success story

The German NPA case



The four C´of good Credit

- Character

- Capacity

- Covenants

- Collateral

Credit Risk Evaluation

The four C´of bad Credit

- Complacency

- Carelessness

- Communication

- Contingencies

Adage: Every debt is paid, if not by the borrower, by the lender . (But how does a lender pay for borrower defaults?)



Starting with the Discounted Cashflow (DCF)

Even if the loan is valued in terms of collateral value, the price of the collateral, if it is fair, will reflect the future earnings that will be generated by the collateral assets.

Therefore, the economic value of a loan will decline should there be a change in terms (say, an interest waiver) that reduces expected cash flow, or should the borrower’s credit rating decline so that default probability increases and the risk of loss becomes greater. In other words, the current question of the “economic value of a loan” is the same as the future question of “whether the profits earned on the loan will exceed the expected losses.” To put this yet a different way, loans that do not earn sufficient returns to cover future credit costs result in a decline in economic value.

Market Price of Loans = Future Cash Flow

Economic Value of Loans =

Discounted Present Value of Future Cash Flow(generated by the loan minus the expected loss (credit cost))



The Basic Concept of DCF

1. Forecasting future cash flow

2. Calculating default rate and survival rate

Principal and interest

payments in survival

cases

Amount collected from

disposal of collateral

at bankruptcy

Calculating expectation

Year 1 Year 2 Year 3 Year 4 Year 5

Year 1 Year 2 Year 3 Year 4 Year N

Impairment3. Calculating a discounted present value

Book value Economic

value

DCF method for Loan..• uses the original lending interest

rate as the discount rate and there are no changes in value due to subsequent fluctuations in market interest rate.

• looks only at the portion of economic value that has declined to levels below book value and requires the appropriate provisioning against this

• Basically attempts to cover all expected losses throughout the life of the loan.



Closer look at Credit Quality and Economic Value

Value

Creditquality

Book value

Impairment

Economic value of loans

Generalprovision

SpecificProvisi-

ons

“Normal” borrowers Borrowers that “need attention”

“need special attention”

“in dangerof bankruptcy

“Bankrupt”;“effectively bankrupt”

Specific Provisions

+Partial

write-offs

The appropriate starting point for dealing with NPL is provisions against the impaired economic value.



Unprofitable Loans become a critical Problem

Bookvalue

Credit quality

Economic value of loans

Impairment

Value“Normal”

Rate

Cause of impairment

Return ratio

Credit cost rate

“need attention” “need special attention”

“Normal” borrowers Borrowers that “need attention”

Borrowers that “need special attention” Credit

qualityNote: Return ratio – lending interest rate – funding rate – the rate of expense

By continuing to make unprofitable loans in order to support borrower companies, the bank saps its own strength.



Phases of Loan Value Loss

Note: 1. Refer to Morsman (1982), etc.

Stage 1

Stage 2

Stage 3

Stage 4

Stage 5

Virtual periodof workout

The loan officer recognizes deteriorationof credibility, and degrades to Watch List.

Asset value

Time

The bank begins measures towards thebusiness improvement of the borrower

Since workout does not work, the bank considers the shift toliquidation procedures.

The borrower lapses intoliabilities exceeding assets andloss occurs



Effects of DCF – for resolution / dealing with NPLsImprovement in transparency and governanceEconomic value will increase the transparency of bank accounting and provide investors, creditors, and depositors with information for their decision making. This evaluation method will give banks more discipline & provide them with incentives to pursue more economically rational behavior.

Improvement in earning power of banksSince banks would become more conscious of economic value, they make further efforts to ensure economic value of loans. Such transformation of lending business model to include loan management and NPL disposal would strengthen bank profitability and contribute to the restoration of sound banking.

Faster business rehabilitationAccounting systems that recognize the impairment of the economic value of a loan will require banks to quickly identify rebuilding strategies and take appropriate measures in a timely manner. Early, fast implementation of rebuilding strategies will limit the loss of a borrower’s business resources.

Reallocation of credit risk through secondary marke t for loan assetsWith accounting systems that recognize impairment of economic value through enhanced incentives to deal with NPLs in a timely manner, the secondary market for loan assets expands. Such a market reallocates credit risk rationally, and as a result, efficient risk taking in the whole economy might ensue.



Issues to be addressed (for Evaluation with DCF)

Improvements to Internal Management AccountingInternal profit evaluations and management accounting shall reflect the economic value of loans. Once changes in the economic value of loans are reflected in the internal performance assessment of lending and screening departments, these departments would have incentive to be conscious of economic value.

Emphasis on Borrower Cash Flow in Loan ScreeningBanks should place more emphasis on cash flow as they screen potential loans, which includes the introduction of screening methods that appropriately evaluate the business value of a proposal.

Lending Framework that responds to Risk ChangesOne method of ensuring an early response to declines in creditworthiness that is used is to attach covenants to the loan contract. Should financial conditions of a borrower deteriorate, the covenants dictate that the loan contract be reviewed to take account of the change in credit quality.

Organizational Framework that permits early ActionIn collaboration with the borrower to make fundamental changes before there is a significant loss in the economic value of the loan. Cutting problem credits off from the credit generation and screening departments (business line) at an early stage.



Credit Risk Evaluation: Focusing Borrowers Perspect ive

Evaluate a borrower’s ability and willingness to re pay

Three Questions to address:

� What risks are inherent in the operations of the bu siness?

� What have managers done or failed to do in mitigati ng those risks?

� How can a lender structure and control its own risk s?



Reasons for Distressed Debt

Liquidity crisis

Decrease in sales

Endangered equity

Uncompetitive cost base

Strategic reorientation

Drop in prices

Negative earnings

Safeguard rating

Earnings lower than target

73,9%

69,6%

65,2%

60,9%

56,5%

43,5%

43,5%

13,0%

8,7%

Reasons for distressed debt from banks‘ perspective (% of banks)1)

1) RB Study on German Banks, 2006

Banks identify liquidity crisis, sales decreases an d endangered equity as the most common reasons for distressed debt



The dynamics from the corporate perspective

Sco

pe

for

Act

ion

Small

Large

Nee

d f

or

Act

ion

Large

Small

Urgency

Time

STRATEGIC

CRISIS

EARNINGS

CRISIS

LIQUIDITY

CRISIS

INSOLVENCY



Structural change, e.g. due to� Globalization� Integration� Technology leaps� Shareholder value orientation

Cyclical problems� Drop in demand� Change in the dynamics of

competition� Sales channel switch

Unpredictable changes to themarket/competitive framework� Drop in public-sector demand � Ban on certain products

� Management problems– Ignoring the signs of crisis– Wrong HR policy

� Focus on sales rather than profit

� Growth trap

� Increasing complexity of the product portfolio and customer focus

� Insufficient transparency for corporate control

External causes of crisis Internal causes of crisis

Causes of Corporate Strategic Crisis



Financials Operations Strategy

Revenue and cost� Revenue, cost and profits by

products, markets, customers� Benchmarking by cost type

(material, person., overhead)� Main causes of losses/risks

Cash flow� Monthly develop. /forecast� Accounts receivable� Inventory� Investment/divestment

Capital structure� Excessive debt/loss of equity� Hidden risks in balance sheet� Need for „fresh money“

Structure� Departments (structure/heads)� Hierarchical levels� Regional coverage� Holding structure

(subsidiaries)

Key processes� Decision-making/ reporting� Value chain (in/outsourcing)� Sales/marketing efficiency� Purchasing efficiency� Production efficiency� Logistics efficiency

Management/ personnel� Qualification� Motivation

Product portfolio� Product mix� Complexity� Innovation� Pricing model

Market and customers� Market segment development� Trends & key success factors� Market access and distribution� Customer and order structure

Competitive position� Existing and potential

competition profiles� Relative positioning (market

share, success factors)

1 2 3

Analysis of the Crisis: Put Your Focus on…



Mastering Crisis: Most difficult & demanding mgt. t asks

• Problems are so different and situations so complex, there can be no universal remedies for corporate crisis.

• Knowing the strategic and operative causes is key to success and the basis for effective counter-action.

• Major decisions must be made under extreme time pressure.

• A corporate crisis is always a crisis of trust. Therefore, management must show the utmost personal commitment, integrity, stringency , and impeccable behavior.

• Management must be self-critical and open-minded : in the final analysis, most corporate crises are down the management mistakes.



Liquidity

�Reduce investments to absolute minimum(only essential repairs/replacements)

�Reduce inventories- Lower safety stocks- Dispose of slow movers- Increase quality in delivery

�Reduce accounts receivable- Intensify claim management- Speed up settlement- Push for faster payment terms or

advance payments

�Sell fixed assets- Real estate- Machinery- Holdings

Profitability

�Sales up- Increase prices where possible- Focus sales efforts on customers- Speed up new product launches

�Reduce procurement costs- Lower material/service standard- Negotiate with suppliers- Change suppliers

�Reduce personnel costs- Layoffs/part-time employment- Reduce/waive salary- Stop employment- Reduce overtime

�Reduce overhead costs- Cut travel budgets- Reduce perks- Negotiate interest relief

Regain Value

Regain Corporate Value: Critical Balance for Renewa l



� Redefine the product mix

� Reduce complexity costs- Eliminate unprofitable

products- Reduce no. of product

variants- Introduce a modular system

� Identify extra sales and earnings potential- Focus on quality of

customer handling- Enter complementary

markets

� Choose unusual market entry or exit strategy

� Focus on the profitable elements of the value chain

� Develop a business model that creates value

� Optimize business units/ jettison non-core business segments

Product portfolio Target markets Business model

Turning around: The Path back to Value



Implementation

� Quick wins- Costs down/sales up- Raise cash

� Project organization- Establish strong leadership

and clear responsibilities

� Change management- Regain confidence of

stakeholders and transformmanagement/employees

� Activity management- Monitor progress of action

plans and results in business plan

� Financials- Revenue and cost- Cash flow- Capital structure

� Operations- Structure- Key processes- Management/personnel

� Strategy- Product portfolio- Markets/customers- Competitive position

� Restructuring concept- Financial- Operational- Strategic

� Top-down improvement targets

� Integrated business plan- Base case- Restructuring targets

� Further detailing the restructuring concept

� Bottom-up planning of remedies

Firms „fact book“ Restructuring conecpt Detailed restructuring plan

Phase 1: 4-8 weeks Phase 2: 6-24 months

Turning around: Speed is Key for all Parties



Successful restructuring projects are fast, require management commitment and affect the entire company

SUCCESSFULRESTRUCTURING

1.

MANAGEMENT COMMITMENTThe most important success factor in restructuring –implementation has room for improvement

2.

HOLISTIC CONCEPT – Strategic, Operational and FinancialVery important (P&L, balance sheet, cashflow, strategy, systems) – implementation has improvement potential

3.

QUICK IMPLEMENTATION – Speed is of essenceRated as very important; but low rate of early warning systems implementation

Turning around: Critical Success Factors



To identify a loan as distressed debt, most respond ents rely on their internal early warning systems

Identifying Distressed Debt

Internal early warning systemCredit risk criteria pursuant to Basel IIGeneral default in paymentInconsistent payment behaviorOther

73,9%

52,2%

Mechanisms to identify credit as distressed debt ( % of banks) 1)

1) RB Study on German Banks, 2006

26,1%

8,7%

34,8%

� In identifying a loan as distressed debt, 73,9% of respondents rely on internal early warning systems

� Credit risk criteria pursuant to Basel II are applied in 52,2% of cases

� General default in payment and inconsistent payment behavior are more rarely used as indicators



Conclusion:

� Each bank has its unique situation in a loan - recog nize it and reduce uncertainty and stress

� NPL Managers job - view the NPL portfolio like a fun d manager, maximizing the value from the portfolio

� Leaving it to specialists – create NPL management co mpetencies

� Acting decisively , on a commercial basis

� Improved risk management & early warning mechanisms (e.g. early symptoms approach “ common cold or terminal i llness”)

� Relationship management is key – communicate!



NPA Strategy


NPA Strategy - Overview

� Learning from Germany: NPA creates opportunities

� The strategic aim is a win-win situation

� NPA strategy is the path between workout and sell

� Start your transaction strategy by defining what yo u want

� Follow a well defined transaction process

� The different NPA strategies are dealing with stres s management

� Case Study: Berlin Hyp has defined NPA as core-busi ness

Managing NPA from a Banks perspective: Strategy


� Accelerating NPA resolution process and resolution in a tim ebound manner is critical� Activity carried out by banks (work-out group)

and / or

� Through specialized agencies (servicing)

� Role of banks and specialized agencies differ across themarkets depending on level of sophistication of financialmarkets and size of NPA problem

The objective is to achieve the NPA clean-up and th ereby unlock and recycle the capital blocked in NPAs

NPA resolution a strategic imperative for banks




Advantages for banks

Impact of NPAs

� NPAs �� non core business� High risk potential� Capital locked in unproductive

assets�Impact: (Realizable value of

NPAs * cost of capital p.a.)� Impact on rating � Increase in administration

expenses� Reduced liquidity

Consequence of sale

� Focus on core business� Risk-reduction� Release of capital and improved

liquidity for business growth � Improved market valuation� Aid fresh capital raising� Better rating� Decrease in administration

expenses

Impact on the banks: NPA exit - a “win win situation ”




Selling vs. work-out

Pros - Selling� Cut-off with NPA engagement� Positive balance sheet-effect� Cost effective (especially staff

costs)

Cons - Selling� Loss of possible profitable

foreclosure proceeds� Reputation risks


Pros – Work-out� Possible profitable foreclosure

proceeds

� Business relation

� Progressive portfolio management

Cons – Work-out� Work-out is not the core

business

� Increase of staff and administrative costs

� A new start for investors




Investors� Returns commensurate with

risks� Attractive secondary market� Strategic purchase possible� Attractive financing

conditions

Competencies

� NPA �� core business� Quick decisions� New start� Economies of scale� Rich experience in work-

outs / liquidations� Highly motivated staff


Investor Side



The NPA Transaction: The starting point

Define what you want


Source: Mr. Peter Jark, NPA Summit 2006


Decision Preparation Phase

Sale Preparation Phase

Quality Assurance Phase

Sale Process Phase

Data Room Phase

Closing& Execution Phase

The Transaction Process

Critical Phases




� Step 1: Definition of goal

� Step 2: Definition of portfolio

� Step 3: Definition of necessary information

� Step 4: Verifying data sources

� Step 5: Discussion and definition of Transaction St rategies


Steps to success




� Risk reduction, optimizing the loan portfolio

� Use core capital to participate in the rising marke t

� Reduction of regulatory capital requirements accord ing to Basel I and II

� Quick liquidity

� Focus management and resources on core business � rather than on work out

� Improved rating – better refinancing possibilities� Tell the market (Rating Agencies) “we deal with it”

Step 1: Define your strategic goals!

NPA StrategyDecision Preparation Phase




Step 2: Define your portfolio categories!

NPA Strategy

� Non performing loan� The loan agreement has been terminated or can be te rminated

at any time

� Sub performing loan� The loan / borrower needs to be restructured

� Non core business� This asset class is not in our focus (e.g. involvem ent of foreign

jurisdiction, special assets like Airplanes, Ships, IT/IP)

� What suits potential investors� Industrial / commercial / retail� What are the key collaterals� What about unsecured loans





NPA Strategy

� Pricing information� What does an investor, a rating agency, a servicer need in order to

offer an acceptable price/rating

� Transferability information� There are reasons (legal/ structural/ transaction costs related) that

make any transfer of assets impossible

� Transfer information� Borrower information and loan documentation� Type of collateral� More you disclose, better the realizations

� “Lemon theory”

Information sharing is key to high profits and succ ess

Step 3: Define necessary information – key to obtain better value





NPA Strategy

Reduction reasons

Queries regarding Sale object & due diligence

100%

Change ininterest

rate

BidderProfit

Necessaryreductions

TransferQueries

Legalstructure

DueDiligence

Transferquestions

RefinancingQueries

Swap /HedgeCosts

PortfolioValuation

• Value adjustment due to variable refinancing intere st

• Expenses of bidder, risk bonus , profit

• Legal enforceability, insolvency questions• Missing (legal) documents (claims, guarantees etc.)

• Limited access, time etc.

• Limitations, Taxes, Transfer charges• Due obligations, claim for damages

• Timing Questions

ContractsContractQueries

• Quality and effectiveness

Taxes • Fair & predictable

OriginalPrincipal

Pricing bridge: Think about potential adjustment to prices

MaximumBid

Price

MinimumBid

Price





NPA Strategy

Step 4: Define the data sources and structures

� System� Everything that is in the system can be transferred into a

database

� Binder� Anything with respect to collateral information, or iginal

documents needs to be defined and separated

� Knowledge� Is every information needed written down?





NPA Strategy

Step 5: Define your potential transaction strategy

Impact on stake holder confidence

Hold & manage(Workouts /

Private Restructurings)

• Bank has 100% risk

• Bank needs significant resources & financial commitment to hold assets

Securitization (ABS)

Joint Venture Asset sale(Bulk / Single Asset,

Negotiated)

•Diversification of risk

•Immediate capitalinjection; Market liquidity

•Lower cost of capitaland greater availability

•Transactions with creditenhancements arerelatively easy

•Work out is still in the bank

•Upside potential

•Recapitalizes bank

•Equity Partnerassumes pro-rata risk

•Immediate capitalinjection

•Highly qualified &incentives assetmanagement

•Positive marketperception

•Upside participation

• Buyer assumes 100% of NPA risk

• Low recovery prices

• No upside participation

Low

Bank Divests100% of NPA Risk

Bank Retains100% of NPA Risk

High Low

High





Sale strategies: Goal - Benefits analysis

Outright Sale

Off

Release

Yes

No

Variable

Yes

Balance Sheet

Regulatory Capital

Outsourcing

Liquidity

UpsidePotential

Risk Transfer

Joint Venture

Depends onthe structure


Partly

Partly

Variable

Partly

SyntheticSale

On

Release

No


Variable

Yes

ABS TrueSale

Off

Release

Yes

Yes

Variable

Yes

HiveDown

Off

Release

Yes

Yes

Variable

Yes

Bar Sub-Participation

Yes

Yes

Yes


Variable

Yes

Third partyWorkoutVehicle

Yes

Yes

Yes

Yes

structure

Yes depending on

structure

Variable

Yes




� Final definition of sale structure

� Impact on balance sheet and tax

� Data gathering and information packaging

� Decide on the sale process (bilateral, auction – wid e or limited)

Sale Preparation Phase

Sale preparation phase

NPA Transaction Process




� Quality review

� Finalize representations and warranties

� Third party discussions

QualityAssurancePhase

Quality assurance phase





� Organisation of Data Rooms

� Organisation of Q&A Process

� Set up of Confidentiality Agreement and Confidentia l Information Memorandum

� Definition of investors to be invited

� Pre – Invitation discussions with investors

� Draft of Sale and Purchase Agreement

SaleProcessPhase

Sale process phase





� Advise during Data Room Phase / Q&A Process

� Negotiation and finalisation of SPA and schedules

� Finalisation of bid sheet documents (bid letter, bi d sheet, bid process)

� Internal organisation of transfer

Data room phase

DataRoomPhaseNPA Transaction Process




� Bid comparison

� Signing and closing

� Interim servicing

� Transfer of loan files

� Transfer of assets

� Hello and good bye letter

Closing &ExecutionPhase

Closing & execution phase





� To deal with distressed assets / impaired loans / N PAs / SPLs / non core is vital for banks� Management bandwidth � Rating� Regulatory core capital

� There are different options for bank� Straight–forward disposal� Joint venture� Hive down� ABS

One option does not exist: Not solving the question s around loans that should not be in the books

Summery




Case Study: Managing Stress in the Banks Balance Sheet*

NLP Management in Berlin Hyp;

* Presented by Bernd Morgenschweis at the Arcil NPA Summit 2006


Case Study: The Situation in Berlin Hyp

Income statement (in € million) 2005 2004

Net interest income 222.3 227.0

Personnel costs 36.1 33.8

Other operating expenditure 30.7 37.1

Depreciation on tangible assets 8.2 5.3

Operating expenditure 75.0 76.2

Risk provisioning 91.3 105.1

Operating result 57.7 45.6

Tax 9.0 6.6

Annual surplus36.7 24.8

Key figures

Case Study: The Berlin Hyp

Source: Mr. Bernd Morgenschweis, NPA Summit 2006


Case Study: The Situation in Berlin HypKey figures

Business development (in € million) 2005 2004

New loan commitments 8,551 2,219

Mortgages 1,475 850

of which: Residential Loans 551 427

Commercial lending 924 423

Public sector business 7,076 1,369

Loan disbursements 8,666 1,982

of which: Mortgages 1,586 584

Public sector loans 7,080 1,398




Case Study: The Situation in Berlin Hyp

� Solutions for EverythingBerlin Hyp offers their customers tailor-made finan cing solutions characterised by

competitive terms high product flexibility

swift decisions reliability and quality

� Guidelines of our Work� Sustaining capacity for change � Seizing opportunities � Maintaining continuity� Increasing competence � Rising to challenges

The profile




Case Study: Where Stress comes from

� Bad loans were a major part of balance sheet

� Most of them without interest / profit

� Negative outlook (fall in collaterals in the east o f Germany)

� Position on “risk provisioning” was negative in the discussion with the rating agencies (1.6 bill. € as 12/05)

� The “Bad Loan Team” needs more and more staff –operational expenses are growing

� NPA Market in Germany was booming – so there was a c hance to reduce the risk portfolio faster than expected a t acceptable prices





Global Aspects:

� Abolition of the German Mortgage Act (modification of legal basics) – Market and regulatory forces

Refinancing advantages (Monopoly to issue mortgage bonds)dropped out – consequence: We are in stiff competition with a lot of other Ger man banks !

� An over saturated banking market enforces consolida tion in order to stabilise and increase margins

Adequate margins as a result of risk-oriented prici ng methods

Identify the main “risk drivers” and analyse the bad loan cost’s





� Increasing importance of the capital market and consequent lymore pressure to enhance interest margins and to reduce badloans

Optimise the portfolio structure: push good loans – and:Adjust portfolio by outsourcing or selling non performing l oans

� Pressure due to Basel II regarding the obligation of providi nga risk adjusted equity

Develop and implement a conservative Credit-Risk-Strateg y fornew lending business (stop increase in risk portfolio)Reduce the risk loan portfolio – to cut cost (employees,operating, risk) and save equity-costs




The burning issue:

Optimise your Portfolio, reduce the mountain of bad debt and increase

the value of your company !!!




Case Study: Strategy of Berlin Hyp

Strategic goals defined for NPA Management

� Reduction of loan risks (transfer of risks) leads t o an adjustment of the balance sheet and to more transparency

Market knows – your balance sheet is in good order an d there are no hidden risk positionsPositive influence on the evaluation of rating agen cies

� Gain of liquidity resulting from a lower amount of equity required owing to Basel II

� Increased profits / potential profits due to phase- out of interest-free loans (non profit risk assets)

switch the interest free assets (sell them off) to interest-bearing assets (work with the purchase price – issue new loans)





� Focusing the existing work out competence on proble matical cases with profit-yielding

� Cutback of resources needed in the work-out field ( no core business)

Performance and profit determines actionsIt’s important to distinguish between “dead loans” (there is no chance to get the money back) and “distressed lo ans” (there is a positive view on recovery)

Reducing the bad loan portfolio offers the chance t o make the employees in the work out group redundant (cut cost)






� No more provisions caused by a declined loan qualit y

Selling - reduces the risk of the insecure exposures- eliminates the possibility of future risk (fall in value of

securities)

� Bull market constantly demands results at higher pr ices

The higher the price for bad loans - the bigger the profit forthe company – at the moment a perfect market in Germ any!

Highly liquid foreign investors dominate the marke t

� Positive external effects of being proactive in pro blem solving






Critical Points

� Quality of data / Need for resources

Investors need a lot of information about the loan (in details history of life of the loan, securities, valuation, etc.)

Is the data of high quality or is there further maintenance necessary?

� Question whether the transaction is legally allowed

Sub-performing or non performing loan (banking confidentiality) ?

� Sufficient minimum volume of the identified portfol io in order to be profitable both for the seller and for the buyer

??

??





Critical Points

!!

??

� Sufficient shielding / appraisable securities

Crucial!!! If the investor pays only 40% of the loan and you need more – the transaction / the closing is at risk!

� Individual analysis vs analysis of the portfolio

Enough collateral / provision / depreciation in detail or in total ?

Portfolio selection OK or several critical loans ?

� Before doing the “go-to-market” check the values in order to be sure that the buyer won´t cancel the deal

Reputation risk!!!

??





Critical Points

� What sort of cash flow is expected

Check the projected loan cash flow – OK in relation to assumed price?

The more cash flow – the higher the price!

Is there upside potential ? => price in!

� Warranties / tax issues?

� No special commercial transaction structure (pool o f securities / syndicated loans / public guarantees)!




Preparing the dealPreparing the deal

Dealprocess

Dealprocess

ClosingClosingFundamentaldecisionFundamentaldecision

� Confidentiality statement

� Information letter with procedure details

� Opening of the Data room

� In house Portfolio Valuation

� Projecting the Due Diligence

� Investor selection (long list)

� Setup Data room (equipment and security)

� Portfolio-Identification

� Check the in-house effects

� Portfolio-Clustering

� Board decision

� Bid analysis

� Accept the tender (best price)

� In-house decision

� Conclusion of the contract

� Transfer (loans) to the new owner

Process of the deal





Fundamental Decision (1/3)

Portfolio-Identification

� Performing/ sub-performing /non-performing ?

� Strategic/ non strategic ?

� Depreciation/ interest arrear /interest-free?

Berlin Hyp Project:

� 200 non performing loans, volume 500 Million €

� Most of them interest-free and cancelled by the bank

� Selected in two deals:• Retail portfolio

(80 customers, loan volume 50 mil. €)

• Mixed portfolio(120 customers, loan volume 450 mil. €) residential and commercial properties







Check the in-house effects– Data quality OK or is there

“homework” to do? (scheduling time/man-power/requirements)

– Adequate collaterals/ depreciation? Upside potential?

– Find the balance: loss of interest �� rise in depreciation

– Check number of employees – reduction in staff feasible?

Berlin Hyp Project:– Fill 350 data fields for 1 customer,

thereof only ∅∅∅∅ 150 OK– Check 200 loans for adequate

collaterals / depreciation (220 new valuations by the surveyor in 2 months)

– 620 hours of external help from a temporary employment agency(e.g.: scanning 22.000 pages loan documents)






Portfolio Clustering

– Local / international / geographical bundling

– Residential / commercial / retail Loans

– Board decision

– Based on: full report with all the advantages and disadvantages

– Discussion over all the pros and cons

– Final decision




Preparing the Deal (1/2)


In house Portfolio Valuation– Result of the portfolio check – what’s the realistic price?– Can we sell the portfolio at this price (reputation risk)?– Why can’t we manage the problem by ourselves (experience)?– What is our economic valuation of the property market in the near future?

Projecting the Due Diligence – Appoint a legal advisor or a consultant for the deal– Prepare all the legal documents and check them carefully (the data in the

system must be the same as in the files !)– Prepare the agreement for sale (with all details)





• Investor selection (long list)– Select the potential investors (by yourself or thro ugh an advisor)

• Setup Data Room

Berlin Hyp Project:� 5 identical Data rooms in 5 different buildings equipped with 25 workstations (telephone,

internet, computer)� Catering and security company for every room� 1 virtual Data room by internet arranged (Retail Portfolio)� 1,400 files – filled with the important loan information� 35,000 loose divider copies in the files well-organized � 22,000 loan documents scanned for the internet Portfolio

Preparing the Deal (2/2)




� Confidentiality statement� Prerequisite !!!

� Information letter with procedure details� Telephone list with the people who are responsible

� Opening Data room� Welcoming the auditors� Clear the procedure to update the information base� Check the schedule for the question and answer proc ess

Berlin Hyp Project:� 2,100 Q+A – managed by the loan specialists� Every week a “loan officer call” (ten biggest loans )� Response time: within 72 hours

The Deal Process (2/2)





� Bid analysis / Accept the tender (best price)� Which is the company with the highest price?

� In house decision� Check the pros and cons and say: The winner is: …..

� Conclusion of the contract� Finalize the deal with the conclusion of the agreem ent

� Transfer (loans) to the new owner� Send a letter to all customers with brief informati on about the finalised deal

and the transition to the new loan-owner� Order a lorry ( ☺☺☺☺) and transfer the complete files to the owner

Berlin Hyp Project:� closed both deals with “Deutsche Bank London”� a significant decrease in the bad loan portfolio

Case Study: Strategy of Berlin HypThe Closing




� A fundamental reduction in the bad loan portfolio r esulting in a large profit (purchase price higher than expected)

� A positive attestation by the rating agencyThe internationally renowned rating agency Moody's has awarded the bank's mortgage bonds the good rating A a1. This is evidence of good structure of the assets serving a s collateral and the progress the bank has made in optimising its ri sk profile. Berlin Hyp already has two independent rating resul ts with the top “Triple-A-Rating” for its public mortgage bonds.

• Reduction in staff


Review on the Goals




� NPA Portfolio deals are presently our core business in a booming market

� International investors’ interest in NPA business has continued to grow steadily – on top of that: this brings a lot of fresh money to the German market

� Probably the next step is to restructure these portfolios and sell them back to new customers

� Selling all these critical loans result in an optimal balance sheet. This brings on the one hand positive feedback from the rating agencies and on the other hand room and flexibility for new loans

� Following the positive experience, Berlin Hyp is preparing the next (4th) bad loans Portfolio deal (300 – 500 mil. €)


The Outlook




Thank You


Arcil NON PERFORMING ASSET seminar [kompatibilitätsmodus]

Business

Transcript of Arcil NON PERFORMING ASSET seminar [kompatibilitätsmodus]