Garnet Capital Advisors Blog

When buying a bank, one of the most important factors to analyze in great detail is the loan portfolio of the financial institution being acquired.

When describing the size and extent of a bank, it’s common to refer to them based on their asset class and size, and the largest asset on any bank’s books is their loan portfolio. In fact, this is precisely what needs to be analyzed and evaluated in great detail before any acquisition of a bank or its assets is made.

Valuing a bank’s loan portfolio is critical, but it’s also time-consuming and challenging, especially when it comes to determining its secondary market value. Since there usually is no easily discernible market price for the majority of bank loan portfolios, discrepancies between what the acquirer’s balance sheet projections are and what third-party valuations come up with are not uncommon. Such changes in valuation can have a large effect on the capital requirements and future earnings potential of the buyer.

Loan Portfolio Valuations Are Critical in the Acquisition Decision

This is why bringing an independent valuation service on board to perform a loan portfolio analysis is so critical when considering an acquisition. Such a transaction will place the credit risks onto the acquirer, and failure to adequately evaluate such risks can negatively impact the acquirer’s ability to realize an acceptable return on the capital used to make the acquisition. 

Accurate, timely loan portfolio valuation is a critical step in assessing credit risk before closing on a transaction.

Having a loan portfolio professionally valued can also help the acquirer identify the performance potential of each segment within the portfolio in the future, both short- and long-term. This can provide a more in-depth analysis of the portfolio and help ensure that the decision on whether to buy or pass on the purchase is a sound one. If a buy is on the table, a valuation can help the acquirer extend an ideal offer and help determine a more accurate assessment of the effects that such an acquisition will have on earnings.

How a Loan Portfolio Valuation Can Curb Issues Before They Start

Allowing enough time to properly value a loan portfolio prior to acquiring one is clearly a critical step when purchasing a bank. It’s simply not enough to just value such loans from a spreadsheet alone. The files must be looked at and analyzed by seasoned valuation experts in order to gain a clear understanding of the lending culture of a certain bank, what and where the losses are, and what the loan assets can be priced at in the secondary market.

 Having a loan portfolio valued can assist the acquirer in anticipating the performance potential of each segment of the portfolio into the future.

Compliance with industry regulations is an essential factor to consider when valuing loan assets and acquisitions. In order to remain compliant with generally accepted accounting principles (GAAP), the amount and timing of anticipated loan cash flows must be accurately projected and the rates of return on cash flow should be carefully considered. In addition to timing, credit, and pricing, market factors should also be included in the analysis of the loan portfolios in question. Fair Value Measurement requires that an exit pricing method should be used to value loan portfolios, which can be distinguished from other methods.

Not only should the basic valuation inputs be assessed, one of the predominant market factors to be included in the valuation is the liquidity discount that is applicable to the loan asset. The price of a particular loan will likely fluctuate during the time period in which the portfolio is being assessed. Loan portfolios that are challenging to sell will have a higher liquidity discount applied to it.

The accounting processes that take place after the acquisition has been made should also be taken into consideration and planned for well in advance. Dealing with accounting after the deal is closed is often more complex. The process can be much easier and more streamlined if post-acquisition accounting processes are planned for long before the transaction takes place.

Garnet Capital - Simplifying the Bank Acquisition Process

Because loan valuations and sales are such complex processes it is essential for acquirers to engage in proper planning and utilize their teams appropriately. A seasoned loan portfolio valuation service is a key player in the acquisition of loan portfolios and banks, and should always be involved long before a transaction is even on the radar.

Garnet Capital has long been involved in valuing loan portfolios for clients who are considering buying a bank; Garnet has completed numerous processes just like these for the FDIC and other financial institutions.

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