Non-performing loan deals – an increasing trend
Specific challenges of international non-performing loan deals

Other challenges

Non-performing loan deals – an increasing trend

The restructuring of non-performing loans has been slower in Romania than in other EU member states. Although banks and financial institutions operating on the local market have employed a relatively broad range of methods for credit recovery, their efficiency has been less than anticipated.

However, further to the implementation of the new prudential regulations introduced by Basel III international standards – as well as other non-Basel III reforms for implementing EU Directive 2013/36/EC and EU Regulation 575/2013, both of which came into force in January 2014 – the National Bank of Romania has now begun to apply pressure on local banks to dispose of their problematic assets and clean up their balance sheets.

Consequently, 2014 and 2015 were marked by a series of large non-performing loan deals and increased appetite among foreign investors for the acquisition and financing of non-performing loans. For example, in 2014 Volksbank sold a €490 million portfolio to a consortium of Deutsche Bank, Anacap and HIG; while BCR (the largest Romanian bank based on assets) sold two non-performing loan portfolios to Deutsche Bank and APS, one worth more than €220 million and the other worth more than €400 million. BCR made several other attempts to sell part of its bad debt portfolio and is contemplating other transactions, while a number of other banks are reportedly interested in pursuing similar deals.

Further, international non-performing loan deals are becoming more common on the Romanian market, as non-performing loan acquisitions are trending not only in Romania, but also in the wider region. As opposed to local deals, international deals have their own specificities and challenges, and require extensive analysis and due diligence of the non-performing loan portfolio and its transferability from the perspective of all jurisdictions involved in the transaction.

Specific challenges of international non-performing loan deals

In international non-performing loan deals, investors must consider more carefully a multitude of legal, financial and tax matters and take additional care with the structuring of the transaction so as to observe all regulatory requirements applicable in each relevant jurisdiction. As a result, certain legal matters in international deals require more attention and in-depth analysis than in local deals – for example, the classification of the non-performing loan as bad debt and the transfer and enforceability of foreign law-governed loans and security interests.

Classification of non-performing loans as bad debt
One of the first things usually assessed in any non-performing loan deal is the classification of the loans as bad debt. In Romania, performing loans may be acquired only by regulated entities, such as credit institutions or non-bank financial institutions licensed in Romania or another EU member state which passported their activities in Romania, either directly or by setting up a local branch.

As an exception, a loan portfolio classified as bad debt may be acquired by unregulated entities. Banking regulations provide various criteria for classifying a loan as bad debt. For example, a loan should qualify as bad debt if it has been due for at least 91 days or if enforcement or bankruptcy proceedings are initiated against the relevant debtor.

However, certain bad debt loans can be acquired only by regulated entities, such as immoveable mortgage loans granted under Law 190/1999. Therefore, a careful assessment of the non-performing loan portfolio is advisable before any acquisition in order to determine whether the portfolio comprises loans classified as bad debt and whether the bad debt can be acquired by unregulated entities.

The classification of non-performing loans as bad debt can be even more challenging in international deals, as performing loans are sometimes sold as non-performing loans even though they do not qualify as bad debt under Romanian legislation. In some cases, this may be due to the fact that the performing loans were actually treated by banks as sub-performing or restructured loans, but were never officially classified as bad debt and provisioned accordingly.

Another possible reason for the misclassification is that the criteria used in Romania for classifying a loan as performing or non-performing are sometimes different from those applicable in other jurisdictions. As a result, there may be cases in which certain loans which qualified as non-performing under the legislation of another jurisdiction are in fact considered performing loans under Romanian law. A practical example of this is when non-performing or sub-performing loans are classified as bad debt by the local branch of a foreign bank which is under the general supervision of its home state regulator and applies different rules to classify the loans. However, the exception in relation to the acquisition of bad debt by unregulated entities will be available only if the criteria for classification of non-performing loans as bad debt are met as per the Romanian legislation.

In short, the classification of non-performing and sub-performing loans as bad debt is a sensitive matter and should be treated as such by investors, as this may affect both the licensing requirements of the purchaser and the manner in which the transfer of the non-performing loans is further structured.

Transfer and enforceability of foreign law-governed loans and security interests
In international deals, it is not uncommon for non-performing loan portfolios to comprise loans and related security interests governed by various foreign laws other than Romanian law or for the governing laws of the loan and security documentation to differ. In such cases, the loans and related security interests – as well as their transferability – should be assessed from the perspective of the relevant applicable laws.

The fact that certain loans and security interests are governed by different laws may also affect the workout approach that the purchaser intends to implement on a post-closing basis. For example, a loan governed by foreign law may prove difficult to enforce directly in Romania without first:

  • obtaining a court decision in the relevant foreign jurisdiction against the debtor under the respective foreign law-governed loans; and
  • seeking recognition of the court decision in Romania under the recast EU Brussels Regulation (1215/2012) or its enforcement under the European Enforcement Order for Uncontested Claims Regulation (805/2004).

This may delay enforcement in Romania due to the period necessary to obtain the foreign court decision or may even trigger the cancellation in court of enforcement proceedings initiated before the foreign court decision is obtained.

Similarly, where a loan is governed by Romanian law and the related security interests are governed by foreign laws, the risk arises that the creditor will be unable to commence direct enforcement of the security interests in the foreign jurisdiction without first obtaining a Romanian court decision against the debtor under the respective Romanian law-governed loans and seeking recognition of the decision in the foreign jurisdiction.

Particular challenges may also be encountered where loans are subject to multiple coexisting sub-participations or syndication rules of international banks. The sub-participation or syndication of certain loan exposures would allow the seller to transfer only its share of the loan and the acquirer may not necessarily control enforcement of the security on its own. Therefore, the purchaser should carefully assess sub-participation and/or syndication rules, as these may influence the legal regime applicable to the transfer of the loans (eg, the part of the loan receivable that may be transferred and the applicable conditions, restrictions and consents).

Other challenges

Non-performing loan deals – especially international deals – can be complex and challenging. Classification of non-performing loans as bad debt and the transfer and enforceability of foreign law-governed loans and security interests are just two of the most important matters which need to be considered in this type of transaction.

Depending on the volume and structure of the non-performing loan portfolio, other challenges may arise. For example, large non-performing loan deals may trigger regulatory requirements to obtain clearance from the National Bank of Romania or antitrust approval where certain legal thresholds are exceeded. Transfer-of-undertaking requirements under the EU TUPE Directive (2001/23/EC) and related regulations may also apply to large deals and should be observed, depending on the specifics of the non-performing loan transfer. This may be the case, for example, where the non-performing loan portfolio is so large that the seller must restructure its organisation following disposal of the portfolio, while the purchaser plans to hire additional personnel or set up a specialised department to manage the newly acquired portfolio.

Further, where the purchaser intends to obtain third-party financing for the non-performing loan acquisition, this will most likely require finance security to be put in place and the third-party financing to be involved in every step of the acquisition process – which adds to the complexity of the deal.

For further information on this topic please contact Mirona Apostu at PeliFilip by telephone (+40 21 527 2000) or email (mirona.apostu@pelifilip.com). The PeliFilip website can be accessed at www.pelifilip.com.

This article was first published by the International Law Office, a premium online legal update service for major companies and law firms worldwide. Register for a free subscription.