Weaker deal flow and tighter profit margins are driving a wave of consolidation in the European non-performing loan servicer market

Europe’s non-performing loan (NPL) servicers—entities that collect payments and manage portfolios of non-performing loans—are in the midst of a wave of consolidation as operators respond to flatlining NPL volumes and tighter margins.

The NPL servicing industry emerged following the 2008 global financial crisis, as bank lenders reduced the volume of bad loans on their balance sheets by selling off underperforming loans or outsourcing the management of them.

However, over the past decade, the volume of new NPL portfolios coming to the market has slowed as banks have gotten a handle on their exposure to bad loans.

According to the risk assessment report published by the European Banking Authority (EBA) in December 2023, the quality of the banks’ assets in Europe remained relatively stable in 2023. The NPL ratio (the value of non-performing loans divided by the total value of the loan portfolios) fell to an all-time low of 1.8% in June 2023, per the EBA.

Rising interest rates have put some pressure on many banks’ loan books. The EBA reports that a relatively high share of bank loans (9.1%) have been categorized as “Stage 2” (loans where credit quality has deteriorated since initial recognition).

However, interest rate spikes have not triggered a wave of new NPL loan portfolios. Scope Ratings analysts note that while NPL volumes may increase in the months ahead, the number of NPLs is not expected to be large enough to meaningfully impact the creditworthiness of European banks. Analysts also note that although there have been some areas of risk, such as commercial real estate, there has been “no broad-based deterioration of asset quality at this point.”

NPL servicers are at a fork in the road

The low volume of new NPL portfolio formation has posed challenges for the NPL servicer space. The NPL servicer business model is predicated on growing valuation and profitability by expanding the volume of assets under management (AUM) and associated servicing contract fee streams.

The importance of scale and a large pool of AUM have become even more crucial in this period of elevated interest rates. While high rates have not led to a spike in new NPL volumes, they have made it more challenging for NPL servicers to manage portfolios.

A large proportion of NPL portfolios are comprised of unsecured consumer credit. Inflation, a higher cost of living, and falling consumer confidence levels have made it more difficult to collect payments and manage risk across existing NPL portfolios. Large specialist players, which have the resources to invest in data analytics and technology to reduce the costs of loan management administration and improve recovery rates, are better positioned to navigate the headwinds facing the servicer market. The entities that emerge as the leaders of the industry consolidation will also be well positioned for successful exit strategies of their owners (including initial public offerings) when the level of AUM and profitability reaches a sufficiently high threshold.

The momentum behind NPL servicer deals is also building due to several servicing companies having been backed by private equity firms over the past few years. These sponsors are now approaching the end of their hold periods and are looking to realize their investments through M&A.

Consolidation in the NPL servicing market is also driven by increasingly stringent regulations and supervision imposed on NPL servicers in the areas of credit servicing and data protection as larger servicers that have full-path expertise will find it easier to satisfy the applicable requirements and cover the related costs.

Another factor is that NPL servicers that are active in the capital-intensive business segment of NPL investments are currently in the process of debt capital transformation as rising interest rates and more limited access to debt capital markets have forced them to either stop new NPL investments or deploy funding strategies in partnership with private or institutional capital. A one-size-fits-all and future-proof funding strategy without standby access to diversified funding sources otherwise available only to banks is a big challenge for the industry during geopolitical uncertainty and interest rate volatility.

A full deal pipeline

The above dynamics have left NPL servicers and their investors with two choices: either (i) withdraw from the space and sell to a bigger competitor; or (ii) lean into the market, take on a consolidator role and scale up through acquisitions.

Over the past 12 months, this has led to an increase in the number of deals. They have largely involved NPL servicers coming to the market as investors have moved to sell their stakes, with consolidators seizing these opportunities to grow their AUM by buying up the NPL businesses of their rivals.

Consolidators have been looking for consolidation opportunities in multiple jurisdictions beyond their home base to accelerate growth in AUM. For example, Sweden-based credit management services business Intrum acquired Haya, a Spanish real estate-focused servicer, and London-based Pollen Street took a majority stake in Portugal- and Spain-focused loan servicer Finsolutia.

Other investors that are exploring NPL servicer consolidation strategies include Ion Group, which agreed to a deal to acquire servicing business Prelios from Davidson Kempner following its earlier acquisition of Cerved Group. On the sell-side, a cohort of private equity firms holding assets of sufficient AUM to attract consolidators are also deliberating deals as they explore exit routes. According to Debtwire, KKR is seeking a buyer for its NPL servicing platform Hipoges, Lone Star and CaixaBank are offloading Servihabitat, Oaktree Capital is looking to sell Redwood and Silver Lake is preparing Grupo BC for an exit.

An already full pipeline of NPL servicer transactions could soon be overflowing.

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