Case 007Private credit and direct lendingWarm up
A credit fund is asked to lend Rs 180 crore against hangars and tooling appraised at Rs 260 crore. What is the loan-to-value on an appraisal basis and on a forced-sale basis, and is the loan covered?
1The situation
Vyomika Aviation MRO repairs and overhauls aircraft for regional airlines from two hangars it owns at a second-tier airport, with specialised tooling inside them. It asks a credit fund for a Rs 180 crore term loan secured on the hangars and the tooling. An independent appraiser values the assets at Rs 260 crore as a going concern. The appraiser's forced-sale value, what a buyer would pay in a quick sale with the business shut, is 60% of that. Selling would cost about 5% of proceeds in fees and holding costs.
The fund's credit policy advances up to 80% of net forced-sale value on an asset-backed loan. Vyomika's EBITDA is Rs 40 crore.
2Your task
Compute the loan-to-value on both bases, say whether the loan is covered under the fund's policy, and say what loan the collateral supports.
Quick check
Which value should the loan-to-value test use for a lender who may have to sell the assets?
Worked solution
Try it on paper, then open one step at a time.
30-second answerThe answer to give first
Loan-to-value is 69.2% on the appraisal but 115.4% on forced-sale value and 121.5% net of selling costs, so the loan is not covered. In a forced sale the fund would be short Rs 31.8 crore. At an 80% advance on Rs 148.2 crore the collateral supports about Rs 119 crore. Anything above that is a cash-flow loan on Rs 40 crore of EBITDA, 4.5x levered, and should be priced and covenanted as one.
Step 1What is the loan-to-value on the appraisal, and why is that number flattering?
Rs 180 crore over Rs 260 crore is 69.2%, and that is the number the borrower will put on the first page. Think of a car loan: the showroom price is what a buyer pays for a car that is running and serviced; the price at an auction of repossessed cars is something else. An appraisal values the hangars with aircraft in them and tooling in use; a lender only ever sells them empty, which is why loan-to-valueThe loan divided by the value of the collateral securing it. The lower the ratio, the more the asset value can fall before the lender loses money. is tested at forced-sale value. A hangar at a second-tier airport has few alternative users, which is what drives the 60% haircut.
Step 2What is it on a forced sale, and is the loan covered?
Forced-sale value is 60% of Rs 260 crore, Rs 156 crore. Rs 180 crore over Rs 156 crore is 115.4%. Take off 5% for the costs of selling and the net is Rs 148.2 crore, an LTV of 121.5%. The loan exceeds what the assets would fetch by Rs 31.8 crore, so on the fund's own policy it is not covered. An advance rate of 80% on Rs 148.2 crore supports about Rs 119 crore, and the gap to Rs 180 crore has no asset behind it.
| Basis | Value, Rs crore | LTV on Rs 180 crore | Cover or shortfall |
|---|---|---|---|
| Appraised, going concern | 260 | 69.2% | +80 |
| Forced sale, 60% of appraisal | 156 | 115.4% | -24 |
| Net of 5% selling costs | 148.2 | 121.5% | -31.8 |
| Loan supported at 80% advance | 118.6 | 80.0% | -61.4 short of the ask |
Step 3So is it a bad loan?
It is a mislabelled one. Rs 119 crore of it is an asset-backed loan; the remaining Rs 61 crore is a loan against Vyomika's cash flow, Rs 40 crore of EBITDA, which puts total leverage at 4.5x. That may be lendable, but it needs the tests a cash-flow loan gets: interest cover, a leverage covenant, a view on airline customers and contract length. The honest structure is either a smaller loan, or Rs 180 crore priced for the unsecured piece. Ask the appraiser two things before relying on the 60%: when the hangar market was last tested at that airport, and whether the tooling is specific to aircraft types that are leaving the fleet, because specialised tooling can fetch far less than a blended haircut implies.
Where candidates lose it
The common loss is reporting 69% and calling the loan well covered. The appraisal values a running business; the lender only sells a stopped one, and at 60% of appraisal the loan is under water by Rs 24 crore before costs.
The second miss is stopping at the shortfall. The interviewer wants the structure that follows: how much the assets support, and what the rest of the loan is actually secured on.
What the interviewer asks next
- The tooling is 40% of the appraisal and would fetch only 30% in a forced sale. Redo the cover.
- What covenants would you add to the Rs 60 crore that the assets do not cover?
- The borrower offers a second charge on receivables of Rs 50 crore. How much does that add?
Company names and figures are illustrative.