I would like to express my sincere gratitude to our investors, partners, and team for your continued trust in Estateguru during the first part of 2023. I will now provide an update on our plans for the remainder of the year.
Following the focus on growth in 2022, we adopted a more conservative outlook in 2023, with the emphasis instead on core markets and profitable and sustainable growth. This new focus is reflected in the monthly loan origination volumes in 2023 thus far, which have remained constant at around €8 million. We cannot discount the impact of macroeconomic factors on investors and investing in general, but it’s also vital that we look in the mirror and identify the areas in which we as a company need to improve. In this regard, decreasing the default level is obviously a priority.
One of our principal aims this year has been to grow and consolidate our origination strategy and investment in the Baltics, whilst resolving the German, Finnish and Lithuanian legacy portfolio. We remain committed to reducing the general default level to 20% (from the outstanding portfolio) this year and back to below 10% next year. We are consequently taking a stricter approach when assessing not only the collaterals, but prospective borrowers too. We believe that meeting the targets above will strengthen investor trust in the platform and also provide some indication as to when we should again consider expansion.
We are proud to have secured one of the first Pan-European Crowd-Funding licenses in Europe, an achievement that showcases our commitment to compliance and regulated protection for our valued investors and recognises our dedication to becoming the leading real estate lending platform in Europe. The licence, which was granted by the Estonian Financial Supervision and Resolution Authority (Finantsinspektsioon), allows us to operate anywhere in Europe under unified rules. In order to comply with the new regulations, we have instituted several changes, including the implementation of new customer checks and complaint handling protocols. We also reviewed our marketing messages to ensure they were in line with the new requirements. We have long championed the introduction of pan-European regulations, and even participated as a stakeholder in the legislative process.
Below, I will provide further details on our current areas of focus and highlight the key achievements of the first 6 months of 2023. I will also delve into our priorities for the remainder of the year. The challenges we face and how we overcome them is a true test of the company’s strength. Together as a community, we can realise our ambition of making property financing and investing accessible to anyone, anywhere in the world.
KEY FACTS FOR 2023
- €44M+ Origination *
- Reaching €500M origination in the Baltics
- 5000 new registered investors
- Repayments, €43M repaid in principal amount.
- €4M amount of recoveries done
Looking back at the last six months: a focus on core markets
Market conditions in 2022 led the company to switch its focus from expansion to efficiency, and I am happy to announce that we have made exceptional progress in this regard thus far in 2023. We have originated new loans in the amount of 41M euro, despite halting the introduction of new German projects while we expedite recoveries in that market. Volumes are still slightly lower when compared with last year, but borrower demand remains high, especially with the banks having begun to raise their interest rates for development loans to levels similar to our own.
It is my belief that although there are increasing demands for higher interest rates, we are already at or near the maximum interest levels when total cost is considered (link here). Raising the rate further may in fact harm our portfolio, by increasing the probability of defaults, and I believe that a greater emphasis should be placed on risk-based pricing when choosing which projects to invest in.
We have also onboarded 5000 new investors in 2023 and seen 43M worth of repayments (resulting on average 9% returns for investors). The average monthly repayments have been around €8-10M, with around €1-2M in interest and other fees paid to our investors. As mentioned above, we continue to see existing users choosing to reinvest their returns into new projects on the platform.
In light of more turbulent macroeconomic conditions, and the need to deal with the recovery of defaulted loans caused thereby, we secured additional capital reserves at the start of the year. All in all, we feel we are well positioned to meet whatever challenges remain in store for us this year.
Below is a graph showing the principal repayments for the year thus far:
And here is a graph of all the repayments, including interest:
Main focus: bringing down the defaults with positive yield for investors
There is no ignoring the fact that we reached record default levels in May 2023. In June it stayed at a similar level and we expect that this will constitute the peak, with a step-by step reduction to follow.
Factors that have contributed to the high default level:
- We adopted a more aggressive and quicker approach to defaulting loans. The new approach was implemented prior to our receiving the new Pan-European Crowd-Funding licence.
- Changes in the macroeconomic conditions (selling periods for real estate developments have been prolonged).
- Concentration risk related to single borrower groups realised in Finland and Lithuania.
In Germany, the record default level indicates that something went badly wrong over there. We are currently analysing our steps in that market, with a view to learning from our mistakes. Myself, management and the entire team are troubled by the situation and the resolution thereof is currently our top priority.
Our aim has always been to keep defaults at a level of 5% -10% of the outstanding portfolio. Up until the end of 2022, this was the case across the portfolio, and it remains the case in Estonia. As we are well aware, portfolio quality is critical to maintaining the trust of our investors. The high default rate in Germany has obviously impacted the whole portfolio. We did anticipate a learning curve in each new country, and a higher default rate in the first few years, as compared to the markets where we have been present for some time. This was the case in Latvia, where at one point defaults increased to over twenty percent. However, in the following years we tweaked and improved our underwriting process and ways of working and now the default rate has decreased to 11%. As we have paused the introduction of new projects in Germany, the default rate will remain high for the time being, as the performing loans are repaid. It is therefore more relevant to consider the outstanding portfolio size, rather than the default rate in Germany. Our commitment this year remains to decrease the total group default down to 20% and back to below 10% next year.
The road to recoveries
A lot has been covered already in regard to explaining our progress. Again, we can reassure you that we are working on every loan, regardless of how long it may take to recover. We are keeping our investors informed via separate updates and through our blog which can be followed here. If you need more specific information about your loan, then please look under the timeline or contact our customer support directly.
- At the start of the year, we decided to temporarily halt the introduction of new German investment projects on the platform, so we can focus on implementing comprehensive measures for the remediation of the problematic subsection of the portfolio.
- We augmented our legal and debt teams.
- We changed the management and bolstered our German team in terms of manpower, external support and resources.
- Two risk lawyers from HQ have been assigned to deal with legal tasks and project management related to German recoveries.
- We partnered with additional external law firms and implemented a more aggressive approach to recovering defaulted loans, in order to find solutions and expedite the recovery process.
- We raised extra equity and will allocate additional funds for the legal costs incurred in the recovery process.
It is a fact that recoveries in Germany have proved frustratingly slow, and though we are averse to making excuses, there are valid reasons why this has proved the case. I have listed them below.
- The real estate market has changed and slowed down.
- Borrowers have proved hostile and uncooperative.
- Local technicalities mean that resolving the defaults take longer when compared with the process in other jurisdictions. As an example, in the Baltics you can go to auction after 2 months, while in Germany you must wait for at least 6 months before you can even start the court proceedings.
While working toward selling the collateral at auction, we are also considering alternatives options that would allow us to exit the portfolio quicker. One possibility would entail the rapid sale of the claims prior to any auctions, but this would likely require that we offer a discount, and our priority is always to secure the maximum return for our investors. It’s a question of balance, but for the time being, we are focused on the optimal outcome, knowing that our investors can sell through the secondary market if a speedy exit is their priority.
Solid track Record of solving defaults backing our commitment
Our risk position in our core markets has remained stable. We continue to see recoveries happening every month. During the first 6 months of this year we have recovered €4M in total (with 8.91% return to investors) and one of the biggest was €1.7M in Estonia.
Investors don’t lose money when a default occurs, but only if recovery efforts are unsuccessful. We have an exceptionally solid track-record of working out defaulted loans (more here: https://app.estateguru.co/statistics/). In total we have lent out over 700m worth of loans. Of this amount, more than half (€380M) has been repaid normally and €28M recovered by our default process. Recoveries are seldom achieved quickly, and investors can lose their principal investments, but as of today, we have lost only €40K out of the €28M recovered.
These statistics may not accurately reflect current market conditions. We cannot predict with great accuracy when the German defaults will be recovered. We are committed to bringing the default rate down. We expect to see recoveries increasing in the second part of the year.
New origination: improving portfolio quality and avoiding a similar situation in the future
We continue to originate loans in the Baltics and Finland, where we have our longest credit history. Given the current macroeconomic situation, we have shifted more towards bridge lending with existing, performing borrowers. We have lowered the maximum limits for development loans in order to lower the concentration risk. In Finland we are favouring smaller deals, which are easier to collect and less impactful on the portfolio in the case of any issues.
Our focus also remains on continuously improving the quality of credit policies, underwriting and portfolio management, with the aim of achieving an institutional grade. Therefore, our credit policy is in continuous review by the risk team, with monthly credit meetings for each market focusing on this area specifically. Here are some more concrete examples of changes we have already made:
- We have updated our loan application questions and added new ones (this was also done in order to meet the needs of institutional investors) so that we can make more informed decisions based on more data points.
- We are also moving towards risk-based pricing and have taken steps to improve the credit rating side of borrower assessment even further.
- We have reviewed and adjusted concentration levels in light of the current macroeconomic conditions.
- We will soon be using Moody’s model to assess the creditworthiness of potential borrowers. This will allow us to better assess the potential borrower, and develop risk-based pricing, with better clients getting better interest rates and vice versa.
- We will be placing greater emphasis on the ability of the borrower to repay the loan, taking into account their background, credit history etc.
- What was also done for example in Finland is focusing on smaller deals. So, if something happens with the loan it doesn’t have too big an impact on the overall portfolio. Plus, it is easier to collect.
- The measures taken in Germany are described above (pausing the operation, augmenting team, adopting new model). We will restore operations after a full risk analysis and risk appetite restructuring of the product, borrowers, partners and employees.
- We are also taking a proactive approach to late borrowers, and implementing our debt collection processes sooner.
- In terms of our general approach, we have also learned that when entering bigger markets, we should be more cautious in building the portfolio, and rather start small and then expand based on the results achieved with the smaller portfolio.
Committing to transparency and communication with investors
As part of the difficult but necessary changes instituted in Q4 of 2022, the customer support team and marketing teams were downsized significantly, which naturally affected their capacity. Keeping our investors transparently and regularly informed is very important to us, however, and we made a commitment at the start of the year to improve communications wherever possible.
To that end, we have done the following:
- We have provided and continue to provide monthly portfolio overviews.
- Our loan book and statistics have stayed visible for all investors throughout the increased default period.
- We have created separate overviews for the defaults in Germany and Finland.
- Actively provided QA sessions and interviews with financial bloggers.
- We have now added more people to our customer support team, so that we can provide more information, and more support, faster.
- We have and continue to improve the timeline feature to give up-to-date info and a comprehensive overview of each loan.
Despite this, we are still stretched fairly thin. Our official communications channels continue to be our newsletters and emails. If you have specific questions, our customer support team can be reached at email@example.com. For our equity investor we produce periodic updates. We are monitoring social media but when it comes to providing information, we do not wish to exclude any of our investors and will therefore tend to respond through the official channels mentioned above. We have plans in place to increase the frequency and breadth of our updates but our priority for the time being is ensuring that there are adequate resources available to support the recovery process.
Future look: summary
As a business, we have long demonstrated the versatility to adjust to different market conditions. We launched shortly after the real estate crisis in 2008, with the aim of servicing the lending gap in the real estate market and continued to go from strength to strength when the good times returned.
We reached operational profitability several years ago and then decided to speed up growth by raising extra equity through investments in the company. This allowed us to expand into new markets, make investments into technology and legal resources, and set up capital markets teams and structures. It also allowed us to reach new levels of revenue.
Now, as the market conditions have changed, we have adjusted in turn, by reducing costs, focusing on existing markets (more here), and increasing our capitalisation (more here). We have already enjoyed a profitable month in February. All this suggests that we will endure through more hectic times in the markets, while still introducing new investment opportunities on the platform, and continuing to work on recoveries. For now, we are focused on strengthening our core markets. When the time is right, we will focus on growth again, but with new and hard-won insights into how best to go about it.
So we are here for the long game, but I’m well aware that a large part of this year’s success is how well we are able to cope with recoveries in the current markets. We know that our investors will measure this success by our actions, and it is my hope that we will have concrete results for you all soon. I hope that in our next update in the beginning of 2024, I will be outlining our growth plan once more. For those of you interested in reading our Annual report for 2022, you can find it here. I’d like to conclude this letter in the same way it began, with thanks to our investors, partners and our team.
Mihkel Stamm, CEO
* The figure here is different from the one in the email we sent out three days ago, as final notaries were signed, and transactions finalised in the interim period.