Community banks – long touted as the “next domino to fall” during this late unpleasantness – were expected to be a significant source of distressed assets for savvy investors. However, many are finding the FDIC Structured Loan Sale Program a long and bumpy road for investment.
Historically, the FDIC operated to separate the wheat (failed banks’ desirable, high-quality assets (i.e. depository bases)) from the chaff (the bad – sometimes very, very bad – loan assets that caused the failure in the first place). Two decades ago, The Resolution Trust Corporation (RTC) found homes for over $400 billion of assets during the savings-and-loan crisis. This time around, however, the FDIC – holding in excess of $600 billion in distressed assets seized from failed banks – is steering away from outright bad asset sales to thresh out the chaff, opting instead for a policy designed to force would be bank buyers to take the bad with the good.
As reported by the Wall Street Journal, the FDIC is contemplating selling just 11% of the assets of the more than 200 banks that have fallen into receivership in recent years. The reason? Likely a reaction to the outsized gains on failed institutions enjoyed by the RTC bank buyers during the late 80’s. For those assets emerging for auction, investors face an unnecessarily secretive and costly diligence process – a process identified by most investors as the singular key to successful distressed investment.
Want to perform a site inspection? Not permitted under the bidding procedures. Want to discuss the status of the loan with the asset managers involved in the workout? Sorry, no-can-do. Want to talk to the borrowers about their plans for a potential work-out? No way. And the loan documents (which, fortunately, you are permitted to review) often appear to have been negotiated, signed and syndicated during a particularly boozy afternoon at the country club. Documentation is missing or unexecuted. Servicing files are woefully incomplete. Syndication documents are unintelligible.
Each inconsistency and inadequacy, of course, presumably leads to lower bids for the asset and for the successful bidder, the spectre of the winner’s curse. The result is a continuing dilemma for investors.
On the deals we’ve seen play out, there’s been a rabbit who blew away the competition and left the also-rans scratching their heads: "How’d they get to that number?" But someone keeps seeing value in these auctions. I suspect it’s based on a view about the underlying value of the properties and a conviction that, regardless of the static emanating from bad docs, liens and other property-specific problems, the bidder will get to the dirt at a price per square foot that will work. The learning from all this is that you’re not going to enjoy the comfort of the hard diligence you’d want if you were buying privately, but if you like the real estate, be prepared to take a deep breath, dig deep for a winning price and gear up for an ugly war to get to the dirt.
Photo: Flickr user chispita_666