Collateral Gap Analysis – Your Swiss Army Knife for Underwriting Decisions

Collateral Gap Analysis

Bank commercial lenders, asset-based lenders, SBA lenders, bankruptcy administrators, and buyers and sellers of businesses need reliable analysis of collateral values for pledged and other assets in the business to make sound underwriting decisions.

Premises of Value – what kind of value number do I need?

In the world of business equipment valuation, the premise of value refers to the underlying assumptions and conditions under which the valuation is performed. For example, if the bankruptcy court has ordered you to sell the yard of construction equipment by this Friday at noon, the premise of value is Forced Liquidation Value, as defined below by the American Society of Appraisers (“ASA”) and by USPAP (“Uniform Standards of Professional Appraisal Practice”). For most collateral decisions by lenders, the common premise of value is Orderly Liquidation Value, the value that can be recovered or realized by an orderly sale with time pressure. Fair Market Value is commonly employed for legal and contractual valuation and is the most common valuation premise.

Common premises of value according to the ASA:

Fair Market Value is an opinion expressed in terms of money, at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts, as of a specific date.

Orderly Liquidation Value An opinion of the gross amount, expressed in terms of money, that typically could be realized from a liquidation sale, given a reasonable period of time to find a purchaser (or purchasers), with the seller being compelled to sell on an as-is, where-is basis, as of a specific date.

Forced Liquidation Value An opinion of the gross amount, expressed in terms of money, that typically could be realized from a properly advertised and conducted public auction, with the seller being compelled to sell with a sense of immediacy on an as-is, where-is basis, as of a specific date.

Collateral Gap Analysis – How Much Collateral Coverage Does my Loan Have?

For a seven-year loan, the collateral gap analysis graphs the Fair Market Value (“FMV”), Orderly Liquidation Value (“OLV”), and Forced Liquidation Value (“FLV”) graphed vs. the amortized loan balance. The underwriter looks at all of these numbers and may be most keenly focused on the gap between the amortized loan or lease curve and the OLV curve because that is the most likely prudent number he or she can rely upon to indicate how much credit is being granted on top of the value of the asset. If the loan goes bad, the OLV is the most likely net amount that can reasonably be recovered by selling the asset, to be applied to the loan balance to determine the total loss, or gain, on the transaction. OLV, or FMV, or FLV, presumes a certain remarketing or recovery methodology. When the appraiser says the OLV is $250,000, that is an opinion that the lender can recover a net amount of $250,000 after all storage costs, selling costs, brokerage costs, and all other costs. Net, money received in the bank.

Often the collateral is worth more than the loan balance in the second half of the collateral gap timeline, depending on how fast the loan amortizes and how fast the equipment (collateral) depreciates in value. Of course, your loan, common for corporate aircraft loans, for example, and for good credits, maybe on a 15-year amort for your 7-year loan, in which case the loan curve may not decline as fast. But the point is you want to know at any point along the curve your collateral position vs. your loan balance. The Collateral Gap Analysis is your tool for accomplishing this knowledge. Collateral Gap Analysis is your Swiss army knife for underwriting decisions.

Collateral Gap Analysis

BlueChip Asset Management is an appraisal and asset management services company that serves the ABL, banking, equipment finance, legal, and turnaround industries. Members of TMA, and CFA. Contact us for asset valuation assistance at 415-515-1110, www.bcamasset.com, or schedule a free 15-minute consultation.