Spain Sets Discount for Bad Bank Assets, Seeks Investors

Spain’s bad bank will buy foreclosed real estate assets at an average discount of 63 percent as the state seeks investors to become shareholders in the 60 billion-euro ($77 billion) facility, the bank-rescue fund said.

The bad bank, known as SAREB, will apply an average discount of 46 percent to gross book value on loans to developers, the so-called FROB rescue fund said in a presentation yesterday in Madrid. Nationalized lenders will transfer 45 billion euros of assets to the bad bank, while other lenders with capital shortfalls may transfer about 15 billion euros, FROB Chairman Fernando Restoy said.

Spain is setting up the bad bank, a mechanism also used in Ireland, to help lenders that receive state aid sell real estate that has plunged in value. The creation of the vehicle is a condition of a European bailout of as much as 100 billion euros for Spain’s banking industry agreed to in July. The transfer values shouldn’t be a “reference” for the property held on the books of the rest of the banking industry, Restoy said.

“A positive sign would be if we see an investor come in after they’ve run the rule over the valuations and determine that there could be a return on these assets at these discounts,” said Daragh Quinn, an analyst at Nomura International Plc. in Madrid. “They could be right or they could be wrong but it would send a positive message.”

‘Conservative’ Estimate

Spain will discuss the planned structure of the bad bank with potential investors in coming days. The government aims to keep its stake in the entity below 50 percent to avoid including it in national accounts, Restoy said. The vehicle, which will exist for as long as 15 years, will be profitable, with a 14 percent to 15 percent annual return on equity as a “conservative” estimate, he said.

“For foreclosed assets, the transfer prices seem reasonable but on the loans side they haven’t been tough enough and this will mean the vehicle will generate losses,” said Mikel Echavarren, chief executive officer of Irea, a Madrid-based financial adviser.

Foreclosed Land

Echavarren said he was also skeptical about the estimates given for the possible future return for the vehicle, whose equity will be equivalent to about 8 percent of total assets.

“How can they predict that?” Echavarren said in a phone interview. “To make a 15-year business plan in Spain on the real estate sector today, not even God could do that.”

The discounts include reductions of as much as 80 percent for foreclosed land, 63 percent for foreclosed unfinished housing developments and 32 percent for loans to finance finished apartments, according to the FROB.

It may be too early for investors to decide whether they’ll put money into the bad bank because details of the assets to be transferred to it are still too scant, said Simon Martin, head of research and strategy at Tristan Capital Partners, a real estate investment company in London with 3 billion euros of assets under management.

“There isn’t much to go on at this stage,” said Martin. “It’s sparse on detail so I’d say it’s a step forward but for us to draw conclusions we would need a lot more detail on the quality and location of what is going in.”

Stress Test

The starting point for the valuations is the base-case scenario in a stress test carried out by consulting firm Oliver Wyman, with an additional discount added, FROB said.

Government decrees in February and May ordering banks to recognize a combined 84 billion euros of losses on real estate had raised coverage levels for those assets to 45 percent. The stress test by Oliver Wyman published Sept. 28 said seven Spanish lenders had a combined capital deficit of 59.3 billion euros in an adverse economic scenario.

The discounts being applied by the bad bank look similar to those being set in the adverse economic scenario in the Oliver Wyman stress test, said Owen Callan, an analyst at Danske Bank A/S in Dublin.

“It doesn’t look like they’ve lowballed it,” he said.

It may prove hard to find private investors to put money into the bad bank, Andrea Filtri and Andres Williams, analysts at Mediobanca SpA in London, said in a note, adding that the government may ask Spanish lenders to “foot the bill.”

‘Transfer Risk’

“This would trigger an infra-sector transfer risk, defeating the purpose of the bad bank in the first place,” they said. The bad bank “helps but it is not an oversized cushion,” they said, pointing out that it copes with currently recognized problem loans but doesn’t cover impairments that aren’t linked to real estate.

Transferring real estate assets to the bad bank will reduce the capital needs of lenders by 5 billion euros to 6 billion euros, Restoy said.

Banks including Banco Santander SA, the biggest lender in Spain, have expressed concern about the impact that the transfer prices imposed for the bad bank could have on their assets as they book provisions for their own real estate.

“What worries us is the possible relations between transfer pricing to the bad bank and the prices at which we have valued our assets once we have covered the provisions from the royal decrees,” Santander CEO Alfredo Saenz told analysts in an Oct. 25 webcast.

‘Higher Discount’

“The market will always try to make the read across and will conclude that the banks should be holding these assets at the higher discount,” Antonio Ramirez, an analyst at Keefe, Bruyette & Woods Ltd. in London, said in a phone interview. “It doesn’t look like the regulator will force the banks to take additional haircuts.”

The Bankia group will transfer 38 billion euros in real estate loans and 12 billion euros of foreclosed assets by gross value to the bad bank, FROB Director General Antonio Carrascosa said at a news conference in Madrid.

Some lenders are stepping up efforts to dispose of real estate assets before the bad bank comes into effect.

Santander said Oct. 25 it reduced its stock of foreclosed real estate assets for a second quarter in a row as the gross amount held on its books slipped to 8.3 billion euros from a peak of 8.6 billion euros in March.

Banco Sabadell SA, a Catalan lender, said the same day it sold 708 million euros of real estate in the first nine months of the year as it applied discounts of as much as 50 percent on assets such as holiday apartment complexes that it owns.

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