Viewpoint: Loan sale operations go from cleaver to scalpel


Big non-performing loan portfolio sales, typically valued at over €500m, are motivated by the need to demonstrate a strategic refocusing and a reduction in balance sheet exposure. Lloyds Bank’s successful string of European NPL sales are a clear example of this type of deal; the bank proved to the market and regulators that it was exiting non-core markets and shrinking its balance sheet.

Smaller NPL portfolio sales are equally important but achieve an entirely different goal: to reduce operational costs and complexities in the work-out and legal departments. Smaller, more targeted sales allow banks to execute very specific strategies: for example, to dispose of the 5% of loans by balance that generate 20% of work-out related costs; or to eliminate all loans with exposure to a high-risk segment, such as Spanish resort development.

For institutions experiencing steady growth of work-outs and associated expenses, more targeted loans may be the only way to manage staff capacity constraints and caps on legal counsel costs. In 2012, there were a number of big, successful deals. Most major European banks had created big non-core groups, some holding over €100bn of assets. European banks’ balance sheets held more than €1trn of non-core and non-performing loans. Buy-side firms of all sizes had flocked to Europe.

This year opened with the hope of a steady flow of very large portfolio sales from banks and government agencies in the UK, Spain, Germany and Ireland. But at the start of the second half of the year, a different picture is emerging. While a number of big portfolio deals have been executed in Ireland, Germany and the UK, many of the big deals (notably in Spain) seem to be stuck. The rumour mill is oddly quiet on further mega-deals.

A typical smaller loan sale is about disposing of a headache; the process itself is not a headache. On the other hand, DebtX forecasts an increasing flow of deals with unpaid balances from €10m to €150m and has recently been engaged to sell portfolios of this size in Germany, the UK, Ireland, Scandinavia and the Netherlands. In all of these cases, the bank’s management had balanced the upside of the asset versus the nuisance of retaining the debt and decided a tactical sale was best.

Interest in smaller loan sales is accelerating and we are reviewing portfolios of this nature in seven European countries. While there is no shortage of big buyers with very big chequebooks, banks do not seem to be as active in exploring very large sales. The trend is being driven by a shortage of bank capital, fatigue with very large deals and an urgency to manage rising operational costs.

Banks cannot afford the capital losses associated with big sales campaigns; capital is too precious. Regulators are pressing banks to raise capital, but most banks are not reserved at levels that will allow sales in today’s market. How likely are they to take an additional capital hit through a large NPL sale?

Big, strategic deals tend to take on the seriousness of heart surgery for banks. Staff with full-time responsibilities are pulled into ‘temporary’ second roles that expand to full-time requirements. The deals are exhilarating when successful, less so when they fail. The internal pressure is immense and often forces sellers to take prices they did not imagine acceptable when they began the process.

The transaction team watches the deal dynamics shift from seller to buyer as internal awareness of deal costs percolate up the organisation. The bank’s board and the financial press add pressure to close a deal at any cost.

In contrast, smaller sales do not involve the complexity of selling hundreds (or thousands) of loans. If large sales are like mergers and acquisitions deals in their complexity, small loan sales are like a simple club deal. Managing the sale is a part- time job and the professional risk more manageable. A typical smaller loan sale is about disposing of a headache; the process itself is not a headache.

Very large European NPL deals are by no means dead, but a more active, smaller sales market is emerging. This is an excellent outcome for banks in terms of liquidity and good news for the smaller distressed debt funds eagerly waiting to snap up distressed bank loans.

Gifford West is managing director and head of international operations at DebtX