Liquidation Auctions in Cyprus
By Duncan Wills
Director, Castle Auctions Limassol
The Cyprus Finance Ministry recently highlighted the urgent need to reduce the banking systems’ non-performing loans (NPL) by 40% (€8.2 billion) in the current financial year as compared to 2017. To the uniniated, a non-performing loan is one where the borrower is unable to service their debt or pay it back to the banks, resulting in potential bad debts and losses to the lender. As banks are the foundation of a country’s financial stability, on a larger scale it implies instability in a country’s economy with associated painful consequences. Cyprus’s ‘haircut’ is still a very raw memory for many.
The Cypriot banking system’s total NPL at the end of 2017 amounted to a whopping 40% of lending which is about €20.6 Billion. This is the second highest percentage in Europe, with Greece taking first place. However efforts are underway to reduce this percentage and help Cyprus’s economy recover. Liquidation auctions, used effectively across the rest of Europe and the USA, have been highlighted as a key mechanism to improve the health of our banks. More on that, later.
Firstly, one needs to acknowledge the link between NPL and a country’s economy. There has been numerous research that have noted the correlation between NPL and a country’s Gross Domestic Product (GDP) and overall economic growth. And it is easy to understand why. If a bank is not earning interest and is potentially also losing the money it lent to borrowers; it implies that it will no longer have money to lend to other businesses and individuals. Hence anyone requiring loans for wealth and job creation will be unable obtain financing and this will set into effect a vicious cycle of money shortage. In this scenario, at a very micro-economic level, what can a bank do? One of the many steps it can ultimately take, having exhausted other methods, is to sell the assets of a non performing borrower as collateral, and try to recover as much money as possible.
This is where auctions come in.
To repossess and sell someone’s assets is an emotionally charged and distressing situation, and the idea of an individual losing their home is extremely unpopular. But when it comes to business loans, where a company has failed and its employees have not been paid and are jobless, auctions are a fair and open method for the banks to recover what money they can to reinvest in new and existing healthy businesses, helping to break financial deadlock and setting into motion new job creation opportunities.
The process is that the lender, through its agents, puts up for sale, all the movable and immovable properties of the defaulting business.
It is the quickest and simplest method of resolving NPLs versus some of the other methods which involve repackaging the NPL and selling them in secondary markets.
Very simplistically, every €1 the bank recovers from non-performing loans can be re-lent to new and existing healthy businesses. These businesses, thanks to the influx of funds are able to hire new employees, who now earn salaries which they can spend on basic necessities and a few luxuries. This means a rise in the number of business transactions taking place in the country, creating a positive ripple effect in the economy. Thus, even a single auction can be a highly effective tool in breaking the deadlock in the supply of funds available for lending in a recovering banking system.
This method has been supported by several government agencies and economic think tanks. In a March 2018 memo released by the European Commission, it proposes, ‘out-of-court collateral enforcement’ as one of the key steps for reigning in NPLs. To elaborate, it means that banks would be able to auction collaterals in a business loan in an expedited manner without having to go to court, speeding up the process of recovering loans and reducing losses. Specific to Cyprus, the Finance Ministry in its recently issued Stability Programme (2018-2021), mulled over the benefits of auctions in recovering loans and proposed the introduction of certain provisions which will enable electronic auctions of properties, in the country.
Even from the debtor’s perspective, public auctions ensure that a fair market price of the asset has been achieved because the process is democratic. The market makes the price, given that the person willing to pay the most for the item, wins it.
To summarise, in more ways than one, liquidity auctions are a very important part of helping Cyprus’s economic recovery and should be viewed positively in that process.
They are not the cause of Cyprus’s woes but they are part of the cure!