Performing vs. non-performing notes: valuation impact
Whether a borrower is current changes the analysis substantially. A short guide to the methodology differences between the two cases.
A performing note is valued primarily by discounting the contractual cash flows at a rate that reflects the credit and liquidity risk of the note. The opinion is sensitive to the discount rate, not to whether the cash flows happen.
A non-performing note is a different animal. The contractual schedule no longer represents expected cash flows, so the analysis pivots to outcome scenarios: cure, modification, deed-in-lieu, foreclosure, or charge-off.
Each scenario carries a probability and a recovery amount, often net of expected costs and time-to-recover. The weighted result is the FMV opinion.
Underlying collateral becomes much more important for non-performing notes, because the realistic recovery often depends on the collateral's net realizable value rather than on the borrower.