NAMA appeared before the Oireachtas Committee of Public Accounts on 26th October, 2011 where it faced some robust questioning from across the political spectrum over aspects of its operations. Sean Fleming, the Fianna Fail TD from Laois and Fellow of the Institute of Chartered Accountants in Ireland was particularly keen to understand how NAMA was accounting for interest owed on loans to developers. Remember NAMA has acquired loans with a face value of approximately €74bn and even at 3.5% per annum would be booking €2.6bn in interest each year if all the loans were performing and all required the annual payment of interest.
It seems Sean was unclear about how NAMA was calculating interest due on loans to developers, and that further, Sean was concerned that NAMA might be engaging in the sort of discredited practices that led to our banks getting into hot water from 2008 onwards, allowing the roll-up of interest for example. This was the exchange on 26th October.
SEAN FLEMING : In regard to the interest charges to debtors, I note in page 78 of the annual accounts that interest on loans and receivables was €447,860 million. That is what NAMA charged on interest. How much of that €447,860 million was received by NAMA by 31 December 2010. That amount is in the accounts as receivable. How much of that had NAMA received?
BRENDAN McDONAGH: Under IFRS accounts one applies income into P and L, based on what is called an effective interest rate, which is the same as an internal rate of return over the life of the asset. That effective interest rate generates a return of just over 5% per annum. One has to compare that against the total cash receipts – the principal and the actual interest that is coming in. In the 2010 accounts, more than €1 billion in cash was received which would include both principal and interest receipts. If the Deputy looks at the footnote on page 62 of the accounts, he will see that it includes loan cash receipts of €375 million for the proceeds of collateral against loans and receivables of €363 million. Of the €734 million in cash, receipts from borrowers and acquisitions – that is in the cash flow statement – €371 million of that came from the sale of collateral, which effectively is the sale of the property against the loans.
SEAN FLEMING: I am back to my first question. The €447 million includes loans and interest. What was the interest figure NAMA included in its financial statement given that it did not break down the interest it charged on its debtors for the financial year 2010?
BRENDAN McDONAGH: The interest receivable is €525 million, which is in the profit and loss account of our income statements, and a total of €447 million of that has been accrued on the back of the loans.
SEAN FLEMING: That is the figure I asked about initially. How much of that was received at the end of the year?
BRENDAN MCDONAGH: If the Deputy goes back to the cashflow statement on page 62, it is approximately €370 million.
SEAN FLEMING: Is Mr. McDonagh saying that approximately €80 million of interest that was charged is included in the accounts for the end of 2010 on interest and loans from debtors which was not received by the year end? Is Mr. McDonagh carrying on the practice of the bad old banks which used to roll up interest on debts? Does Mr. McDonagh roll up interest on debts as the banks used to do? He indicated that almost €450 million of what is on the books is receivable, but €80 million of that was not actually received that year. It obviously came through this year or perhaps it will be next year. Am I correct in saying that the sum of €80 million was not received by NAMA in the year and it is effectively rolled up?
BRENDAN MCDONAGH: No, because if one looks at the top of page 62, the first line refers to value dates to transfer dates received, which is note 1. That effectively is cashflows between the valuation date and the transfer date from the banks. We got €196 million worth of cash in that period.
SEAN FLEMING: What does that mean?
BRENDAN MCDONAGH: When we were valuing the loans – let us say for argument’s sake that we valued the tranche 1 loans by reference to 31 January 2010 valuation date – they transferred to us between the end of March to mid-May 2010, so any cashflow that came in on those loans between 31 January and May 2010 was claimed back from the banks. That has been picked up. That happened in subsequent tranches depending on the valuation date we used. We picked up the income from the loan valuation date, the restructured valuation and when the loan transferred across legally
SEAN FLEMING: I do not wish to refer to the loans. I refer to the interest only. Despite our complicated conversation due to which we might be losing people, am I correct in saying that Mr. McDonagh has a figure in his accounts for 31 December 2010 in respect of loan interest receivable from debtors, €80 million of which was not received by the year-end? Is that simple statement true or false?
BRENDAN MCDONAGH: I do not think it is entirely true.
SEAN FLEMING: Mr. McDonagh should tell me what I said wrong. I am interested in hearing the answer.
BRENDAN MCDONAGH: Some of that interest has been picked up in what we call in note 1 in the footnote
SEAN FLEMING: Could Mr. McDonagh give me the figure? They are his accounts. I am trying to extract information. I can quote three or four other notes on the topic as well. Mr. McDonagh should tell me how much of the €447 million that he has billed as receivable was not received at the year end. It is up to him to him to provide the figure, not me.
BRENDAN MCDONAGH: I will come back to the Deputy on that.
And true to his word, the NAMA CEO Brendan McDonagh did write to the Committee with a further explanation. The letter was received on 15th December 2011 and is available here (there is another earlier letter dated 23rd November, 2011 here, but it doesn’t really add anything to the interest issue)
There are three important points on interest payable in this letter:
1. Banks engaged in a practice whereby they advanced a loan (let’s call it Loan #1) to a developer for say €100m. They then advanced a second loan (Loan #2) for €11m, and the purpose of advancing Loan #2 was to enable the developer to pay interest on Loan #1 and Loan #2! And because the interest on Loan #1 was being paid as normal and in accordance to the loan agreement, the bank was able to say the loan was performing! SurelyIreland’s banking regulator wasn’t aware of such practice…
2. NAMA repeats that it is using IFRS (International Financial Reporting Standards) to calculate interest income in its financial statements. Further, the Agency says that it calculates interest income by reference to the consideration paid by NAMA for the loan and expected future loan repayments, though it still theoretically pursues the debtor for all the interest payable on the loan. So the loans in total have a face value of €74bn, and NAMA has paid approximately €32bn for them, and it is by reference to the €32bn and expected loan repayments that NAMA calculates the interest income shown in the accounting statements, but in practice NAMA pursues the debtor for the interest on the €74bn
3. In 2010, €770m was the interest payable by developers on loans by reference to NAMA’s acquisition value – remember the €74bn was acquired during the year so a full 12 month’s interest would not apply in 2010. NAMA reported interest income of €448m in its accounts, NAMA received €734m in cash from developers in 2010 and the first €448m was applied to NAMA’s calculation of interest and the remainder was applied to paying down the principal.
I know there will be some in the audience on here that will share Deputy Fleming’s concern. I certainly do. I also do not understand why the accounts cannot show the full interest payable (€770m in 2010) and a provision to recognise the fact that much will not be paid (presumably €770m minus €448m, or €322m). This would preserve the integrity of NAMA’s accounts by reference to IFRS but would enable NAMA’s wider audience to see the estimate of debt write-off (subjectively called “debt forgiveness” sometimes).
Also it remains unclear why the cashflow would suggest that €370m was received in interest. And the €525m referred to by the NAMA CEO doesn’t seem to have any relevance.
Finally, there is a weakness in the presentation when NAMA does not show the level of loss on loans following the disposal of assets securing the loans. In the above case, NAMA received €734m in cash from developers, part was interest and part was the repayment of principal, but presumably once the property securing the loan has been disposed of, then NAMA is very much exposed to the balance outstanding on the principal unless the developer has enforceable personal guarantees or other assets or income that can, or could, be applied to the remaining balance of the loan. These projected losses are presumably included in NAMA’s impairment calculation, but it just exacerbates the information deficit in NAMA’s accounts.
Unless NAMA lifts the standard of its presentation of its accounts so that a Fellow of the Institute of Chartered Accountants like Sean Fleming can understand what is presented, then these questions and concerns will remain.