MAXIMIZING OUR RETURN:

Taking the Toxic Out of Assets (CYRUS GARDNER, 6/09/09, NY Times)

During the savings and loan crisis of the 1990s, entities called aligned interest partnerships disposed of the toxic assets, largely real estate-related, of S.&L.’s managed by the government’s Resolution Trust Corporation. Here’s how it worked: The government contributed assets to a partnership that was financed by a private investor. The investor managed the partnership, and both sides shared the proceeds. Thus the government maintained a financial interest in the success of the partnership. This is a sharp contrast to the Treasury plan, where the selling bank disposes of the asset outright, with no chance of future profits.

The partnership model worked. When all was said and done, private investors recovered more than 125 percent of the assets’ initial estimated value. But taxpayers were the ultimate winners. Compared with similar assets sold outright, the government got up to 45 percent higher returns using the partnership structure. Since then, we have used similar structures for transactions like sales of on-base housing for the United States Air Force and sales of military-grade scrap metal for the Department of Defense.

Several factors contributed to the success of the aligned interest partnerships. First, the investors received no fee for managing the assets. This reduced the temptation to sit on assets just to maintain a stream of easy payments from the government. The chief executive was paid entirely out of the investors’ share of overall proceeds. The private investors were free to manage the assets as they chose, with no daily oversight. Instead, investors provided monthly documentation that they were obeying the partnership’s rules. But since the private investors got paid only on net receipts, they had a strong incentive to operate efficiently.

Perhaps most important, partnership investors started to see equity returns much earlier than their counterparts in the Treasury plan. Private investors would receive just enough early on to keep them actively engaged. The big payoff came when most or all of the assets were sold.