The price at which a discounted payoff matches enforcement moves more with the timetable than with the valuation, and the timetable is the part nobody owns.
A lender holds a matured loan of 82.5 on a building worth 77.4. The borrower offers to pay it out at 72 cents on the euro, in six months. The committee will spend an hour arguing about whether that is enough. The arithmetic takes four lines, and it says the offer is worth 10.48 million more in present value than enforcing.
Worked in full in The Real Estate Workout by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
The number the argument turns on is the price at which a discounted payoff exactly matches what enforcement would return. On this loan it is 58.7 cents. Above it, take the payoff; below it, enforce. It is one formula, and it contains nothing about the borrower, the covenants, the margin or the maturity date.
| What the lender is choosing between | Present value | Recovery on the loan |
|---|---|---|
| Enforce and sell, 2.25 years out | 46.42 | 56.3% |
| Accept the payoff at 72 cents, paid in six months | 56.89 | 69.0% |
| The price at which the two are identical | 58.7 cents | — |
Enforcement is priced over a timetable, and the timetable is the part of the estimate nobody owns. A receiver appointed in March sells in the autumn, or the following spring, or the one after that, depending on a tenant dispute nobody has read yet.
Each month the sale slips costs the lender 0.56 cents on the euro, which on this loan is €463k of present value. Not a rounding error: it is the same order as the legal budget for the whole enforcement, spent every month, invisibly.
| Enforcement slips by | Indifference point | Cents given away | In euros |
|---|---|---|---|
| one month | 58.2 cents | 0.56 | 0.46 |
| 3 months | 57.1 cents | 1.67 | 1.38 |
| 6 months | 55.5 cents | 3.29 | 2.71 |
| 12 months | 52.3 cents | 6.41 | 5.28 |
| 18 months | 49.4 cents | 9.36 | 7.72 |
| 24 months | 46.6 cents | 12.15 | 10.03 |
A year of slippage costs 6.41 cents, or €5.28 million. That is the arithmetic behind a rule most workout teams already follow by instinct and rarely price: a process that can be finished is worth more than a process that can be won.
Ask a workout team which input destroys the most value in an enforcement and you will hear the forced-sale discount, then the delay. Over the range those two actually vary, that is right. Per percentage point, it is not.
| Input | Cents per percentage point |
|---|---|
| Carrying cost, per year | 1.82 |
| Discount rate | 0.93 |
| Forced-sale discount | 0.76 |
| Transaction costs | 0.66 |
The carrying cost — voids, rates, insurance, security, the running loss on a building nobody is managing for value — moves the number 2.4 times as much per point as the forced-sale discount. It is also the only line of the four that a lender can act on directly while the process runs, and the one that gets the least attention because it arrives as a series of small invoices rather than as a single number in a valuation report.
| Input | From | To | Cents lost |
|---|---|---|---|
| Forced-sale discount | 18% | 30% | 9.15 |
| Time to completion | 2.25 years | 4 years | 10.77 |
| Discount rate | 9% | 12% | 2.73 |
| Carrying cost | 2.1% | 3.5% | 2.54 |
| Transaction costs | 5.5% | 8% | 1.65 |
Both readings are true and they answer different questions. The plausible range is what the committee should argue about. The per-point figure is what the asset manager should act on, because it is the only one of the four they control week to week.
One line of the table is worth reading twice. Raising the forced-sale discount from 18% to 30% costs 9.15 cents — not the ten one might round it to. The threshold where the loss does pass ten cents is a discount of 31.1%. Stretching the timetable to four years, by contrast, costs 10.77 cents. Time is the bigger of the two, and it is the one no valuer will put in writing.
Sensitivity tables tell a committee how the answer moves. They do not tell it whether the answer is safe. The question a credit committee is actually asking is the inverse one: how wrong would we have to be about enforcement before accepting 72 cents turns out to have been a mistake?
| For a 72-cent payoff to be the wrong answer… | …this input would have to be | Against a base case of |
|---|---|---|
| The forced-sale discount | 0.6% | 18% |
| The time to completion | 5.6 months | 27 months |
| The building's value | 94.9 | 77.4 |
| Any one of costs, carry or discount rate, at its limit | 64.9 cents — short | — |
| The best pair of the three, both at their limits | 69.1 cents — still short | — |
| All three at once, each at its limit | 73.1 cents — past the offer | — |
None of the first three is a plausible error. A forced-sale discount of 0.6% means a distressed sale that is not distressed. Completing an enforcement in 5.6 months means no contested possession, no marketing period and no completion risk. A building worth 94.9 is the valuation the lender wishes it had, not the one it has.
The last three lines are the interesting ones, and the first draft of this article got them wrong. Set the transaction costs to zero and the number reaches 62.4 cents. Set the carrying cost to zero as well — the best pair of the three, both at their absolute limits — and it reaches 69.1. Still short. Add the third, a 3% discount rate on a distressed asset, and it finally passes the offer, at 73.1 cents.
So the honest statement is narrower than “the payoff wins whatever you assume”, and more useful. No single error and no pair of errors reverses the decision. It takes all three secondary inputs at once, each at a value no workout file would survive being asked to defend: no legal or agency cost at all, no void, no insurance, no security, and a discount rate on a defaulted loan below what the lender pays for its own funding.
Put plausible favourable numbers in instead — costs at 3%, carry at 1%, a 7% discount rate — and the indifference point is 64.5 cents. Grant an eighteen-month enforcement on top of that, against the 27 months assumed, and it is 68.5. The offer is still the better trade.
Three lines, and none of them requires agreeing on the valuation.
One. The indifference point, computed: 58.7 cents. The offer is 72. The gap is 13.3 cents, or €10.48 million of present value.
Two. The cost of the timetable: €463k a month, 6.41 cents a year. That is the number that decides whether to fight over a possession order.
Three. What it would take to be wrong: a forced-sale discount of 0.6%, or an enforcement completed in 5.6 months. Say those out loud and the discussion is over.
The point of pricing four exits on one horizon is not to produce a recommendation. It is to produce a recommendation that survives being wrong.
This article is one calculation from The Real Estate Workout. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
Get the book on Amazon →Free companion files
Also on Amazon UK · Amazon Germany · Amazon France · Amazon Canada
Reading guide: real estate investing, finance and fund management → · All 1706 articles →
If this book helped — or didn’t — a few lines on Amazon are worth more than they look: they are what the next reader goes on. Write a review. The workbook stays free either way.