Western Independent Banker - March/April 2009 - (Page 13)

By Stephen Trauner Non-Performing Assets: The Keep Versus Sell Decision In order to be able to decide whether to work out or sell the credit, the bank must compare taking the offer price of the buyer and redeploying the proceeds at an expected rate of return over a certain time period versus the expected net future recoveries and revenue flows that might be realized by working out the asset. The net future recoveries are calculated by subtracting incremental operating expenses from the net carrying value (unpaid principal balance of portfolio less current reserve) of the portfolio. Clearly, the results of this analysis hinge on the assumptions, and the assumptions will drive the accuracy of whether or not to keep or sell the portfolio. For example, Bank ABC has a portfolio that has a mixture of substandard and doubtful assets. The unpaid principal balance (UPB) of the portfolio is $40 million and there is a weighted average reserve against this portfolio of 25 percent, or $10 million. The bank estimates that it will receive an offer for the portfolio of 50 percent, or $20 million. The bank assumes that it will take three years to work out this portfolio, so the keep versus sell analysis would be as follows: Keep. The net carrying value, or estimated recovery, of the portfolio is calculated by subtracting the current reserve from the UPB of the portfolio, which is $30 million. The bank assumes that the incremental operating expenses (cost of carry, taxes, administrative) to work out this portfolio will be 5 percent of the UPB per year, or $6 million for the three-year period. Thus, if the bank chooses to work out this pool of assets, it will recover $24 million after expenses. Remember, not WHETHER IN GOOD times or bad, making a decision about how to manage a portfolio of nonperforming assets is never easy. Working out distressed credits can be complex and time-consuming. Making a decision about whether to work out an asset requires an ability to ignore the original lending decision and focus on what can be salvaged. This can be quite challenging as this also requires the bank to evaluate whether the borrower can recover and still remain attractive as a customer. So the bank not only needs to decide whether to work out or sell the credit to a third party, if the decision is made to sell the credit it also needs to know how to maximize the price it will receive for the asset. While the thought of selling assets can often be disconcerting and intimidating, the reality is that if you take time to analyze and think strategically about your portfolio, selling assets can be a very effective and productive tool to help manage your portfolio through all credit cycles. Western Independent Banker March/April 2009 13

Table of Contents Feed for the Digital Edition of Western Independent Banker - March/April 2009

Western Independent Banker - March/April 2009 Contents A Message from the President & CEO Profitable Liquidity: Yes, You Can Non-Performing Assets: The Keep Versus Sell Decision Is BOLI the Way to Go? The Troubled Asset Relief Program and Its Eff ect on Executive Compensation TARP Money or Not, Secondary Offerings Belong in Your Plan 52nd Annual Conference Private Equity: Another Capital Option Strengthening Your Bank’s Bottom Line by Adapting to Difficult Times Managing Your Branch Network Capital Dealing with a Hard Insurance Market WIB Service Corporation Report WIB Calendar New Members Index of Advertisers Advertiser.com

Western Independent Banker - March/April 2009

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