Optimistic Nama plan leaves a lot to chance
18 October 2009 By Richard CurranThe publication of the draft National Asset Management Agency (Nama) business plan has given valuable insight into how the agency will conduct its business, and also the assumptions its management team are making about how they see things going over the next decade.
The 35-page plan shows how much work has already been done in setting up the agency.
However, it also puts into the public domain some highly optimistic assessments of how its loan portfolio will work out.
The most striking figure contained in the business plan is not its projection that it will make a profit of €5 billion over the next ten years, but the underlying assumption behind that figure - namely, that just 20 per cent of the €77 billion in loans it will buy will default.
That figure is just an estimate because the agency has yet to get direct access to the loan files, something which will happen in the coming months.
The figures in the plan give a fascinating insight into the optimal scenario for Nama, and some clues about how it will operate. For example, it envisages having €1 billion of its loans repaid by developers next year, and a similar figure for 2011. The really big pay-back on loans does not begin until 2013, when it expects to have €7.5 billion of loans repaid each year.
This suggests the agency is going to go easy on insisting that loans be repaid for the first few years, to allow time for the recovery in the property market.
Two-thirds of its loans are in land and development. These loans tend to be for relatively short periods - like two to three years.
The fact that so many of them will not be paid back until after 2013 undermines the argument that many of these loans dated from before the peak of the property market, and were based on pre-peak asset prices. In fact, the loan maturity profile suggests many of them date from 2005, 2006 and 2007.
Some of the loan repayments in the early years are more likely to come from the sale of assets at knock-down prices, rather than repayment based on the maturity of the loan.
The Nama document alludes to this when it says: ‘‘It may be necessary for Nama to encourage borrowers to engage in realisations of some non cashflow-producing assets (primarily land and development) at appropriate prices in the early years of Nama. This will be an important part of the business plan assessment process undertaken by Nama."
However, there is very little in the plan that suggests Nama will move quickly on its biggest clients; namely, the top 100 to 150. There is even a difference in the process and language applied for dealing with the top 150 and the smaller clients.
The top 100 to 150 will deal directly with Nama. Each large borrower will submit a business plan. The Nama staff will review the plan and submit it to the Nama credit committee to approve, reject or refer it back for amendment. Where a plan is rejected and a borrower is deemed to be no longer viable, it will go to the Nama board for final approval.
For borrowers, excluding the top 150, ‘‘Nama will make an early determination as regards each borrowers’ creditworthiness, taking into consideration information from each of the participating institutions on the performance history and level of impairment of acquired loans’’. It says these borrowers will be classified by reference to their levels of exposure, creditworthiness and level of impairment. None of this language is used when talking about bigger borrowers.
It focuses more on reviewing their business plans and deciding whether to back them with more funds.
One of the more troubling aspects of the Nama plan is that it allows for at least €5 billion of Nama money to be made available to developers to complete worthy projects.
Firstly, the plan makes it clear that this won’t be enough, given that there are existing commitments of further draw downs totalling €6.5 billion which will be honoured unless the developer is in breach of covenants. Second, Nama will enter joint ventures and partnerships in maximising its return.
The problem is these developers have lost their equity in the ventures already, and will have to draw up new shareholder agreements with Nama to remain incentivised to finish out the developments.
The business plan gives details of the operational structure of the agency. It will have around 70 staff, of whom 23 will be heads of portfolio management.
These individuals will hold enormous power in the property market in Ireland over the next ten years. Their responsibilities include asset strategy and management, management of borrowers’ exposure, work-outs of loans and disposals of assets, as well as property management. They will form the layer of top executives below the chief executive. They will also be incredibly busy.
The timetable for the transfer of loans is aggressive - and ambitious. The plan forecasts that Nama will have the loans of the ten biggest clients with total exposures of €16 billion valued, purchased and transferred by the end of the year.
In the month of January alone, a further 25 exposures totalling another €8 billion (an average of nearly €300 million each) will transfer. In the month of February, a further 65 exposures totalling €14 billion, is to transfer.
Nama needs to work quickly, but if the valuation process is too quick, the banks selling the loans will end up having far too much influence over the process - which could result in bad deals for the taxpayer.
Once the loans transfer, business plans will have to assess whether Nama will provide more funding. There are a number of major concerns in this area. Firstly, Nama states that 40 per cent of the loans are generating cash. It does not say whether the cashflow being generated is equal to the amount they should be paying right now.
As recently as August, Nama chief executive Brendan McDonagh was asked what percentage of the loans were performing versus non-performing. He said he didn’t know at that stage, but that around 40 per cent were generating cash.
Second, many loans are benefiting from interest roll-ups.
The Nama document emphasises that such roll-ups are agreed as part of what the developers and the banks agreed.
It is normal to have interest roll-ups in the early years of a development loan, because the project does not deliver any revenues for the first few years.
However, we know that some of the banks have been extending those roll-ups by agreeing new refinancing deals with the developers, and extending moratoriums on paying interest during the downturn.
Once they have been agreed with the banks, they can very easily be classified as performing, rather than non-performing loans. For example, €16 billion of land and development loans will be transferred from Anglo to Nama.
Yet, at the end of March 2009, the bank had €28 billion of loans that were either past due or impaired. To date, Anglo has made bad debt provisions totalling just €3.7 billion.
This all suggests that, when Nama looks at the files, the real picture could be much worse than anticipated in the business plan. The document includes this possibility among its list of risks, which describe where things could go wrong.
But Nama’s assumptions about the performance of the property market are not spelled out in the document. Minister for Finance Brian Lenihan has said that, based on Nama’s valuations, the property market needs to recover by an average of 1 per cent per year over the next ten years for it to break even. Nama projects that just €15 billion of its loans will default, and it will receive €4 billion from those assets. Everything else goes swimmingly.
The agency expects to spend €240 million per year on fees and expenses. This is broken down into running costs of €30 million, around €51 million paid to banks per year for their services and a further €160 million per year in liquidation fees. That sounds like a lot of liquidations, given that 80 per cent of its loans will come good.
Ironically, in the first year, (2010) it has not pencilled in any costs for liquidations - suggesting that it doesn’t expect to actually put anyone out of business until 2011.So everyone gets a bit of breathing space.
Lenihan has committed to paying less than the proposed €54 billion for the loans if it turns out that their actual market value is less than the currently assumed €47 billion.
This might appear good for the taxpayer if less was paid, but it would trigger greater write-downs for the banks which, in turn, would require greater state capitalisation. So the taxpayer pays either way.
The real danger is that the current market value of these loans is closer to €37 billion and Nama still pays €54 billion.
Then the property market would have to recover by a lot more than an average of 1 per cent per year for Nama to get its money back. That may resonate as loudly in Brussels as in Ireland.
The EU has yet to determine whether Nama, as currently designed, marks an anti-competitive state aid to banks. Telling a story that makes it seem like the banks aren’t doing well out of it, and the taxpayer is making €5 billion, might help dissuade EU state aid concerns. Time will tell.