A simple task is often the most difficult to do well
Every day we hear bank CEOs discuss their interest in augmenting sluggish asset growth with portfolio acquisitions or de-risking their balance sheets by selling NPL’s. Given this, we feel inclined to help banks avoid unnecessary risk and common mistakes by providing our expertise and the following insights:
- Hire an investment banker with access to a larger network of buyers and sellers to manage the progression of the transaction.
- Retain legal counsel with experience in completing purchase and sale agreements. Whether you are buying or selling a loan, the negotiation of the representations and warranties will be a critical component of the transaction.
- Engage a company experienced in due diligence. This will aid in preparing or reviewing initial bids, provide in-depth analysis and efficiently scrub the individual loans in the pool.
- Ensure all your servicing questions are answered— especially if you use a third-party servicer. You will want to have the master servicing agreement fully negotiated prior to boarding any loans. You may consider an independent firm to maintain portfolio and servicer surveillance ensuring your portfolio performs to expectations.
Mastering the Sell: Demanding High Execution
If you are selling assets, a couple factors that will ultimately determine whether the sale is successful are pricing and execution. Because you don’t want to be surprised by low bids or excessive kick-outs by the buyer, it is important to understand what your selling. By understanding the buyer’s needs, capital and funding structure, it will allow you to accurately establish the price expectations for the portfolio for sale. In addition to getting the best price, you want to achieve at least 90-100 percent execution. This means you want to sell 90-100 percent of the assets you are marketing after the buyer has completed their due diligence. The key to guaranteeing high execution levels is to do your own diligence and screen every loan going into the pool as if you were buying, not selling. By screening every loan, you will catch missing critical information, correct data inconsistencies, ensure servicing statuses are up to date and accurate, etc. The end result of this process is a bid tape, where you are legitimately expecting the buyer to take it all.
Dominating the Buy: The Devil is in the Details
Phase I: Preparing the Initial Bid
The first phase should identify potential outliers for additional review or custom pricing. (This will include data collection, proxy building, data supplements, BPO (Broker Price Opinion) valuation analysis, and modeling of all loans with loan level analysis and output.) Each loan should be modeled for probability of default (frequency) and loss given default (severity) as part of the purchase price/value exercise. Three distinct collateral values are developed to help validate the BPO value.
With this information, you can determine “best value” based on the analysis and desired risk threshold of the buyer to be used for the indicative bid. Outliers can be priced separately from pools, removed from the bid, etc. The aforementioned analysis should be run, and rerun, with different economic stress levels on the valuations and/or different risk tolerance levels.
Phase II: Acquisition and the Final Bid
The objectives include:
- 100 percent penetration of target portfolio
- A hybrid combined bid data tape is created incor-porating:
- Specific portfolio attribute analysis to provide support and comfort regarding loss forecast, loan/portfolio value and final bid
- Potential final bid scenarios, summary stratifications and report tables.
– Phase I modeling output and analysis
– Validated seller loan information
– Corrected seller loan information
– Added pertinent risk variables captured during file review
– Reviewer comments
– Overlay buyer/client internal comments when applicable
– Enhanced analysis elements including custom calculations, comparisons and highlighted loans with higher risk and uncertainty
It is our job to help your community bank manage risk and be more profitable. Should you have questions, we are happy to provide you with a complimentary consultation.