Southern Europe's non-performing loans pique PE’s interest

According to the European Central Bank financial stability review, the volume and amount of transactions have steadily increased during the past three years, reaching an aggregate value of €156bn of NPL exposures traded in 2017.

In addition to Italy and Spain, which accounted for most of the market turnover, the geographical scope of the NPL market has widened to include Greece, where several transactions were closed in 2017, and Cyprus, which saw its first deal in 2018.

In the past few years, this market has attracted the interest of several private equity houses and has proven very profitable for large international firms able to invest in a risky asset class with potentially high returns.

Private equity players have been particularly active in transactions involving a specific type of NPL, the so-called "unlikely to pay" (UTP) exposures, which are considered by many market experts to be the next frontier in NPL servicing. Exposures are classified as UTP when debtors are considered unlikely to meet their contractual obligations in full unless special actions, such as the enforcement of state guarantees, are taken. 

"We have recently seen private equity firms developing a growing interest in large UTP portfolios within the NPL market," says Vito Ruscigno, co-head of NPL at PwC. "Unlike bad loans, UTP exposures require a managerial approach and the deployment of fresh financing. Thus, private equity players are the best, and often only, candidates able to manage UTP portfolios."

UTP's USP
According to a recent report published by PwC, in Italy, which represents one of the largest markets for this asset class, UTP exposures reached a gross book value of €94bn as of December 2017 and a net book value of €66bn, surpassing the net value of bad loans, which stood at €64bn.

"UTPs, both portfolios and single names, are an incredibly interesting place to play," says Tim Mooney, partner at Värde Partners. "Banks are often more prepared to sell UTPs relative to NPLs because the discount to par is often lower. With UTPs there are more degrees of freedom, including the possibility to move towards a consensual workout, which is far better than a protracted enforcement period in almost all cases."

Värde, which has been very active in the sector, closed two large UTP acquisitions in 2017. "The UTPs we have acquired to date were not just about the loan," says Mooney. "We often take control of the assets, put in a new management team, refinance the company and inject additional capital to grow the business in advance of a potential sale at some point in the future."

We have recently seen private equity firms developing a growing interest in large UTP portfolios within the NPL market" – Vito Ruscigno, PwC

Private equity firm Bain Capital, via its Bain Capital Credit arm, has recently bought a UTP portfolio valued at €450m from Credit Agricole-Cariparma and is soon going to acquire another €400m portfolio of UTP exposures from Banca Carige. The Italian bank granted Bain an exclusivity period in August until 15 October to close the acquisition.

To conduct its deals in the NPL market, Bain, like most private equity players, uses its own servicer, Aquileia Capital Services. Bain acquired Aquileia in February 2017, and it is able to lead the NPL valuation process and service the portfolio. Acquisitions of NPL services such as Aquileia have been increasing substantially in the past couple of years and represent the most common strategy used by private equity firms to access the NPL market.

In March 2017, Värde bought a 33% stake in NPL service Guber for €47m. The firm told Unquote that it intends to expand its holding in the business in the coming months. Furthermore, Cerberus, another private equity firm active in the NPL landscape, has recently expressed interest in a similar type of acquisition.

"Servicing of UTP represents a new market opportunity, which is likely to increase significantly over the next four years, along with the volumes of non-performing exposures outsourced by banks and investors to external specialised servicers," says Ruscigno.

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