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Appeal of Shared National Credit (Third Quarter 2014)


A participant bank appealed the split rating of substandard/doubtful as well as the nonaccrual accounting treatment assigned to a term loan during the 2014 Shared National Credit (SNC) examination.


The appeal asserted that the facility should be rated special mention and on accrual due to the guarantor and collateral support. The appeal stated that the guarantor has been repaying the loan for the past eight years after the originally anticipated repayment source failed to materialize. The guarantor has demonstrated both the willingness and ability to repay the loan from substantial financial resources outside of the borrowing entity and has provided collateral to secure the loan. In addition, the guarantor maintained a six-month interest payment reserve on deposit at the agent bank to insure future performance. The appeal also stated that collateral pledged, in the form of real estate and notes receivable valued at $36 million, complies with all terms and conditions.

The appeal also discussed negotiations under way with a buyer that would result in a partial sale of the land collateral and provide investor funding for approximately $17 million of area infrastructure development.


The interagency appeals panel of three senior credit examiners concurred with the SNC examination team’s split rating of substandard/doubtful and nonaccrual treatment.

The appeals panel determined that well-defined weaknesses existed for this loan. The primary source of repayment failed to materialize. While the guarantor demonstrated willingness to repay debt, the guarantor’s ability to continue to make interest payments and reduce principal without cash flow support from the notes payable from the guarantor’s other company (company 2) was unclear. Establishment of an interest reserve alone does not demonstrate that the guarantor has the ability to repay both interest and principal in full.

A substandard rating is appropriate for the portion of the facility collateralized by the appraised value of undeveloped real estate, less cost to sell. The remainder of the facility warrants a doubtful rating as it is uncertain that the guarantor has the continued ability to meet debt service requirements. In addition, the value of remaining collateral, consisting of notes receivable from company 2, is uncertain. The notes receivable were valued using the net present value of future receivables. While company 2 made several interest payments in 2013, it defaulted on its corporate debt covenants and suspended payments on the notes payable to the guarantor, raising doubt over the value and collectability of the notes. While proposed development plans appear positive, no contractual agreements are in place and the proposed sale price is slightly below the appraised value of the land on a per acre basis.