Banking secrecy still appears to be a dominant risk factor in regard to loan sale transactions. Whereas market practice exists for the implementation of a loan sale transaction, servicers may often not be aware of the potential impact and may still struggle to stay compliant troughout the serving period.
We reached out to Karel Smerak, the director of the secured NPL business in CEE/SEE for EOS (one of the key players in the region), to discuss how banking secrecy is affecting day to day work and how servicers can stay compliant.
Q: Karel, EOS is one of the leading non-performing loan servicers in the region with over 7,000 employees and active in more than 20 countries worldwide. As a director for NPL transactions in CEE, you oversee EOS's secured debt activities in the region. What keeps you busy these days?
A: Indeed, EOS evolved as part of the German company Otto Versand into one of Europe's leading servicers and investors in NPLs, with balance sheet assets of about EUR 1.5 billion. As for our regional footprint, we are basically active in three big regions: Germany as the home market, Western Europe (with a particular focus on France and Spain) and Central, Eastern and South Eastern Europe, which for us includes also Greece.
Historically, EOS has developed from the unit in charge of collecting unpaid debts from ordered goods from the Otto mail order catalogue in the 1970s, to the data-driven, full service distressed-debt investor and servicer that it is today. We currently cover all asset classes within the NPL space, from unsecured receivables to secured consumer mortgage loans to secured commercial loan portfolios.
We have seen EOS successfully participating in some of the recent secured / mortgage-backed NPL transactions in the region. What is your strategy with these assets? Would you say that those loans are rather collected by court enforcement, piecemeal sales / single tickets or sales in bulk, as smaller more targeted or bespoke portfolios?
It depends a little on which assets we are talking about. For consumer debt, we would usually first aim to reach a consensual deal in cooperation with the borrower. Typically this achieves the highest cash flow in the shortest period of time, and for the borrower it is the easiest way to resolve their situation.
Unfortunately, many borrowers stop communicating and don't even try to work with us, sort of hoping that at some point the problem will disappear. In this case we need to look at the legal possibilities available.
If we look at the corporate NPL portfolios that we are servicing in the region, they generally comprise bigger real estate-secured tickets. This means a more professional market, a more professional counterparty and a somewhat different legal landscape compared to private loans. For each of these larger corporate loans we develop alternative resolution scenarios, and decide for each individual case on the best strategy.
Just like with private debtors, we try to work with the corporate borrowers too, to find a consensual solution whenever this is possible. If the borrower isn't cooperating, or if a voluntary sale of the mortgaged real estate is not an option for other reasons, we have to go through a legal enforcement or bankruptcy process with a court-sponsored sale of the underlying asset, depending on the legal framework available. In specific situations we may consider a sale of a single receivable or of the entire exposure against a single corporate client to a specialised investor. With regard to potential onsale of smaller, “bespoke” portfolios, I have not come across many of these in the CEE region and it is not something you would typically see in the market.
Is taking over the ownership of the real property in the auction a strategy you would use to resolve a nonperforming loan?
At EOS, if we have the choice we generally prefer not to become the owners of the underlying real property. Having said that, sometimes this is the best or in fact the only way to protect the value of the asset in an auction or resolve a complex legal impasse, and in those cases we are generally ready to step into the ownership title.
How does the issue of secrecy affect your work as the servicer of non-performing loans?
At EOS we are highly committed to staying compliant with all applicable laws and regulations. And secrecy laws – most of all banking secrecy and personal data protection – are an important part of the legal framework that we strive to comply with. Sometimes these banking secrecy or personal data protection laws may even negatively impact the recovery we are able to achieve, as the recovery often depends on how much information can be shared with a potential investor or – like in Hungary – how proactively a property can be marketed for sale. However, we have made the decision that compliance always comes first, and whatever we do has to be done one hundred percent in line with the law. So your question is very relevant – secrecy legislation in the widest sense has an impact on us and is an important factor driving our resolution strategy for our cases.
Banking secrecy seems to still be a dominant risk factor in regard to implementing loan sale transactions and the subsequent servicing of the loans, despite the regulatory measures implemented to encourage banks to divest their nonperforming assets. Do you agree that the rather stringent Austrian banking secrecy regime may still give market participants headaches?
With respect to secrecy regimes that apply under Austrian law, I feel that there is still a kind of clash of two principles: banking secrecy and data protection vs allowing transactions to happen. Over-emphasising one principle may make a transaction de facto impossible.
I think that over time the market has found practical solutions on how to make a portfolio transaction possible, for example, via a staged access to certain types of information as you progress in the transaction or the “red room” concept, with certain information being accessible only to the investor’s professional advisors and not to the investor directly. Even if this means a rather slow-moving transaction process from the buyer's perspective, having a kind of generally accepted market practice helps getting the deal done.
However, once a portfolio has been acquired and servicers need to start recovering the loans, I think there is a wider range of awareness levels of different market participants. In particular for multi-jurisdictional portfolios it is likely that some of the less experienced servicers, if not part of the transaction as such, have never even heard that Austrian banking secrecy law could actually be applicable to parts of their portfolio that they service outside of Austria. This is also due to the fact that transaction lawyers usually stop being involved after a transaction closes, and the workout lawyers working on resolving a claim typically only look at local laws and might not even be in a position to assess whether and what secrecy regimes apply. On a practical level, the issue of banking secrecy often materialises when more detailed information needs to be disclosed by the servicer during day-to-day business, for example when the servicer is negotiating the sale of a single ticket to a potential investor. We at EOS are well aware of the Austrian banking secrecy issues inherently present in this situation, but I suspect that this may not be the case for all the other servicers, which enhances the probability that secrecy laws are not being complied with.
How are you – and EOS more generally – trying to cope with these challenges as a servicer? What does proper compliance in respect to banking and data secrecy mean to you?
I think that as an international servicer, who is also often involved in portfolio transactions as an investor, we have the advantage of being aware of the challenges that lie ahead during the servicing period and that are present within the various legal systems. This allows us from the very start to put compliance with banking secrecy and personal data protection high on the agenda and to ensure that the relevant knowledge is being transferred from the transaction team to the case managers.
For us, proper compliance first of all means that we comply 100% with the law, even if this may mean that we cannot fully pursue our economic interest. One of the instruments to achieve full compliance is implementing stringent compliance procedures on every level in each jurisdiction.
I'll give you an example from Croatia, where we worked with our lawyers to develop an in-house policy and a documented process on how we deal with loans that may be affected by Austrian banking secrecy laws. This process helped case managers form a view as to how to identify potentially affected loans, to define the admissible actions that can be pursued and which information can be disclosed.
Our cooperation not only included staff training, but also measures to ensure that these guidelines are practically implemented. We have taken the same approach also in other situations with regard to banking secrecy.
It's one thing to have guidelines on paper, but it's more important to make sure that they are followed in practice, which starts with involving the employees in drafting these guidelines, through relevant training provided periodically, also when new staff joins the team, and including ad hoc checks, just to make sure that the process has actually been complied with. So far it has been working out quite well.
Servicers still seem unaware that compliance regarding banking secrecy and data protection actually becomes even trickier once servicing has commenced. Thus, lawyers or professional external advisors often are not on board.
Certainly retaining external advice will cost some money, but we see it as a long-term investment in impeccable service, which is always on the safe side with regard to legal regulations.
I think this also contributed to EOS's excellent market standing today. Apart from the professional aspiration to do as good a job as we can, it is one of our core principles to make sure that we always comply with every single law.
We do not see a difference whether a breach of banking secrecy or data protection would occur when implementing a portfolio transaction or during ongoing servicing. For this reason, we feel it is important to focus on this topic after a transaction has closed, and this includes continuing our cooperation with the right professionals.
How could we, the professional services industry, react to this? How could law firms assist? Also, as one of our existing clients, what is on your wish list?
I would like to see transaction lawyers hand over and emphasise the relevant issues that were identified for a certain portfolio to the people involved in the actual servicing.
This normally should be easy, because the transaction lawyers are deeply involved anyway and have all the information, so a diligent handover, whether in the form of a compliance manual based on the due diligence findings or by means of compliance trainings, should be assured.
Usually this would not be included in a lawyer's scope of work for the transaction, but the industry as such should strive to raise more awareness of this issue so that people put it on their radars.
Thank you for the interview.
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