Investing in non-performing loans in Italy
Carmelo Raimondo and Angelo Alfonso Speranza
Chiomenti Studio Legale
Milan
Carmelo Raimondo (Bio)
Angelo Alfonso Speranza (Bio)
The Italian non-performing loans (NPLs) market has grown significantly in recent years, beginning in the late 1990's as a direct result of the enactment of the Italian Consolidated Banking Act in 1998 and a new securitisation law (Law 130) in 1999 and started to decrease in 2001 as a result of the lapse of favourable accounting provisions enacted into law.
These laws helped to make investments in NPLs feasible within the Italian legal framework to the extent it made legally efficient an investment in large portfolios of receivables (i.e. with a large number of assigned debtors) through the introduction of provisions which simplified the procedure (i) to assign collateral and mortgages backing the receivables; and (ii) to render the receivables binding and enforceable with respect to assigned debtors and third parties.
Following the enactment of Law 130, an additional boost to the development of the Italian NPLs market resulted from the introduction of a favourable accounting regime for originators regarding the loss on assignments generated from the sale of non-performing receivables executed in the first two years.
The two-year time limit represented the main reason underlying the decrease in NPLs transactions in Italy since 2001 (when the accounting regime came to an end). Nevertheless, the Italian NPLs market still offers interesting opportunities, mainly in the sector of mortgage backed NPLs. The appeal of the Italian mortgage-backed NPLs market derives from the fact that the Italian real estate market is not as volatile as in other countries and that Italian banks typically have granted mortgage loans, which do not exceed a loan to value ratio of 80% (according to the ratios provided for by the so-called credito fondiario). Domestic and foreign investors in distressed assets are returning to look with interest at the Italian NPL market and, in addition, Italian banks will consider the disposition of NPLs as a workable route to address funding needs and improvement of capital ratios.
Legal aspects of NPLs transactions
As noted above, investments in NPLs in Italy are typically carried out through securitisation structures. There are several benefits provided by Law 130 to these investors in the Italian NPLs. Some related to the procedures in place for assignments and transfers of the portfolios. Other benefits are connected to the post-transfer stage, when investors have to engage in portfolio management. In this respect the Italian securitisation law provides for a full segregation of the assets purchased by the SPV (special purpose vehicle). Indeed, receivables purchased by the SPV are insulated from all the other assets of the SPV and any cash flow deriving there from is dedicated exclusively to repay the payment obligations of the SPV towards the noteholders. Moreover the Italian securitisation law would grant favourable treatment in case of bankruptcy of the assigned debtors and/or the seller of the NPLs. Article 4 of the Italian Securitisation Law provides for the following: (i) a total shield from claw back action should there be insolvency of an assigned debtor and (ii) that other payments made within the framework of the securitisation are subject to a limited claw-back period of six months and three months rather than one year and six months (as set forth in article 67 of the Italian Bankruptcy Law).
Key performance factors
Investors are used to focusing mainly on three aspects:
(i) the quality of the NPLs (geographical concentration, status of mortgage enforcement proceedings, number of debtors subject to insolvency procedures) which is assessed through a due diligence process. Due diligence is generally carried out by the special servicer through a sampling/clustering analysis, which takes into consideration various legal and economic issues, in order to gather a consistent pool of assets;
(ii) a sound agreement with a special servicer (independent from the bank selling the NPLs). The special servicer is a professional entity, which must be enrolled as a financial intermediary in a register maintained by the Bank of Italy. Pursuant to Italian securitisation law (Law 130) the servicer is also responsible (vis-à-vis the investors/noteholders) for the compliance of the transaction with the provisions of laws and the terms of the offering circular prepared by the SPV and delivered to the investors. The recovery strategy usually adopted by a servicer of NPLs involves three different methods: (a) legal foreclosure proceedings which may take considerable time in Italy depending on the relevant competent Court; (b) out-of-court settlements; and (c) alternative methods, for example the establishment of a real estate owned company (the so- called ReoCo) which is purported to maximize the value and the level of the recoveries of the receivables through the acquisition of the mortgaged properties within the context of the relevant foreclosure proceedings;
(iii) corporate governance and noteholders' rights: as the investments are made through the subscription of asset-backed securities, co-investors in Italian NPLs are usually obligated through joint venture agreements setting forth which rights are vested to senior and junior noteholders. It is not unusual for the server to subscribe a portion of the notes (typically a portion of the junior tranche) in order to receive incentives for the good performance of the portfolio.
Conclusions
Investments in the Italian NPL market would offer good opportunities to investors willing to look at a relatively safe asset. The timing to complete foreclosure proceedings (which is on average longer that in other European jurisdictions) might be perceived as a limiting factor. However, the Italian legal framework (and in particular Law 130) would enable investors to put in place sound legal structures, which would mitigate, if not eliminate, some of the risks usually related to these types of investments.