Last week we helped close on a loan where a community bank won a relationship away from Wells Fargo. This case study demonstrates that a rewarding borrower experience can be delivered under almost any circumstance.
The borrower had entered into a 10-year swap transaction with Wells Fargo in June of 2008 (~4 years remaining) in conjunction with a floating rate loan. The swap prepayment cost represented about 14% of the loan balance – a significant penalty, and one that would seem difficult for the community bank to overcome.
The community bank lender, with our help, offered the borrower a new 10-year loan on a 25-year amortization. In order to deal with the large penalty, she proposed two solutions through our ARC hedging program:
- The borrower could simply add the penalty to the new loan balance, since the appraised value would support the proposed LTV.
- The borrower could roll the prepayment penalty into the new ARC hedge/fixed rate and maintain the current principal balance.
The borrower elected option #2. The prevailing 25/10 swap rate was 2.67% (inclusive of a swap fee to the bank). The prepayment penalty represented 189 bps in additional value, resulting in a blended swap rate of 4.56%. Adding the bank’s margin of 2.25% gave the borrower a fixed rate of 6.81% for 10 years. ARC covered the swap penalty to Wells Fargo through the higher swap rate with no collateral required from the bank.
The loan officer created value by showing flexible options, with the borrower benefitting in the following ways:
- No out of pocket cost for the prepayment penalty
- Loan balance was not increased
- 6+ years of additional loan term (and cash flow certainty)
- A significantly lower monthly payment
- The opportunity to work with a community bank instead of Wells Fargo
The loan officer also created value by generating $15,000 in swap fee income for the bank, which is recognized in full immediately.
We bring this up as an example of how our ARC hedge program can help your bank win business even against the stiffest competition and seemingly insurmountable odds. With this program, the community bank has no swap and no derivative on its balance sheet. The lender takes floating rate risk, while CenterState Bank takes the fixed rate exposure. The borrower and the bank have also serve to mitigate their interest rate-related credit risk.
Please keep this example in mind the next time you run into a deal where a borrower has a prepayment penalty with another bank – no matter the magnitude. If you have a transaction or a relationship that you want to win or protect, give us a call and we can give you tools you might currently not have.
Submitted by Chris Nichols on August 21, 2014