September 13, 2012
Te he good news: You just won that large pool of distressed debt loans.
The bad news: You’re not in a position to maximize the potential value and profitabilityof this newly-acquired portfolio because you (or your loan servicing partner) may not be adequately staffed nor possess the internal controls, audits and system capabilities.
Distressed_Debt_Maximized_ROI.JPGWinning a new loan pool, whether it be performing or non-performing debt (or a combination of both), can mean having to service and account for hundreds of new loans that you didn’t have before.
Before you bid on that next pool of loans, even if it’s just a handful of loans, it’s important to consider what staff positions – and unique talents – you may have to add.
Further, what are the systems requirements you ought to consider? Will these new accounts be easily tucked into your existing loan management software system (if you have one)? It’s likely the owners and/or investment group backing these loans will require you to effectively address these issues before awarding you the servicing responsibilities.
An inadequate system, of course, can tilt the risk-reward scales of distressed debt portfolios in favor of greater risk. It may take a long time to board the loans, borrower and loan data may have to be manually entered numerous times, or it may take too long to modify or restructure loans. All of this adds costs to your servicing operations and ultimately reduces the overall return that either you or your investors seek.
Besides your servicing personnel, and your communication and workout strategy with borrowers, higher returns and risk mitigation are accomplished through back-office systems that enable an organized, methodical loan-boarding and servicing process.
So, in the spirit of distressed loan servicing efficiency, it’s important to choose a servicing platform that:
Provides for single data entry. A common pain point for loan servicers of new distressed debt pools is entering the borrower, related parties (original note holder, other lien holders) and loan information numerous times for various loans. Being able to enter the contact information one time and associate it with multiple loans – as is the case with some commercial borrowers – is a critical time-saver. Additionally, this bolsters both tracking and collections.
Tracks your actual costs over the loan’s lifespan while on your books. For ROI tracking, it is essential to track the customer’s note balance against your purchase cost (often these are not the same thing). It’s also important to track ongoing loan maintenance costs (“protective advances”) including reimbursable and non-reimbursable expenses. Most important is the ability to track short-term and long-term capital gains, apply discounts, with the ability to amortize via various methods (including the effective interest method) and to achieve full debt recovery before recognizing gains. Often, this is called “shadow loan” or “multiple book accounting.” As many successful, disciplined business people can attest, that which gets tracked, gets managed.
Easily restructures loans. If restructuring a loan requires too much effort, it likely loses its appeal on both sides of the equation and can lead to foreclosure. If restructuring a loan is required, you should explore how efficiently your current software system handles these types of changes. Does it track both the “before” and the “after”? Yours should be a flexible system that enables the restructuring of loan terms such as balance reductions, payment schedules, and interest rates. In today’s challenging economy, loan servicers are required to be creative. Unfortunately, most mortgage servicing software is not designed to be flexible and certainly not creative. The end result can be foreclosures and all-around higher costs for all parties.
“If it looks like foreclosure is inevitable, it’s vital that the servicer be able to track the insurance and delinquent taxes,” says Judy McKee, an account executive at Nortridge Software and a former loan servicing agent. “If you don't track them, the taxes can be sold and then you have a problem. The note holder has to pay the taxes if they plan on foreclosing. And if it gets that far, the client needs to be absolutely sure that their records will stand up in court. It requires a reliable audit trail.”
“At the end of the day, it’s essential to demonstrate the integrity of your system,” McKee adds. “And if you're successful in court and foreclosure occurs, it becomes an REO property. At that point, you must have the ability to account for it and report it as such, as well as adding liability insurance and continuing to pay all taxes.”
Imports loan information easily. Another pain point we hear from distressed debt servicers is the manually loading of loan information after the purchase. If you are originating or underwriting in-house, as many private equity or hedge funds do, it is optimal for originators and underwriters to load loan portfolio data into your system for ROI modeling purposes. Then, once the pool is actually purchased, servicers should be able to take the original loan data and to “scrub” balances prior to moving this information into production. The ability to backdate payments may also be a critical feature because the previous owner may not have accounted for them properly.
Tracks collateral. The ability to track a loan’s multiple collateral assets and value often uncovers the obvious – and sometimes hidden value – of loan pools. This may include tracking each collateral asset’s tax and insurance data, but more importantly, the asset value-to-loan ratio.
Winning a distressed loan portfolio may be the easy part. Getting your internal servicing platform – or the platform of your servicing partner – up to speed is often the overlooked piece of the equation. It's essential that you have a system that’s flexible enough to import loan data efficiently and to then service these loans with the same emphasis on flexibility and productive efficiencies.
Maximized profits hang in the balance.