Back to Basics An Asset Reality Check
Current economic conditions present an extremely challenging environment for commercial mortgage services — as for anyone in the real estate or financial sector.
It can be nearly impossible for any business to manage the onslaught of news, opinions and information each day while trying to stay afloat. As we all know, it is the commercial mortgage servicer’s fiduciary responsibility to deliver financial results for the investors (the bond holders). This once-routine task has become a tangled web, as cash flow is increasingly challenged, and more properties used as collateral in CMBS offerings become distressed.
Indeed, with words like “toxic” and “distressed” continuing to flourish in the daily news, it can sometimes be forgotten that hard work still has to get done between debt providers, owners and borrowers. One can’t go to sleep until the market returns — the job now is block-and-tackle, in-the-trenches survival. One of the most important preparations for this struggle is to step back and take a hard look at the assets that are in play. After all, that collateral is the “property behind the paper” and represents the inherent value for the debt provider. While the finance structure may be distressed, the underlying asset often holds opportunity. To deliver the best long-term results for bond holders, it is important not just to look at current financial performance, but to make sure the collateral — the property — is maintained under meticulous stewardship, regardless of the financial position of its owner or the state of its cash flow. The following represents three golden rules of getting back to basics and properly assessing the state of a portfolio. Rule No. 1: Go Overboard on Oversight In the debt-holder world, direct contact with the collateralized asset can vary to a great degree. Semi-annual or annual site visits are historically acceptable inspection intervals. After all, there is typically an operator involved that keeps ownership updated on a regular basis. In addition, there can be expense or travel policies that dictate the number of on-premises opportunities. Recommended Approach: Loan servicers or workout specialists should actively work with ownership to know a collateralized asset from the inside-out and consider regular visits to the property. This would not only provide more time for the debt holder to examine certain issues and opportunities (rather than being merely “briefed”), but also allow for enhanced communication with ownership, operators and, where appropriate, the tenant base. Tenant issues become asset value issues in record time, and the debt holder can sometimes perceive a risk or conceive of a solution outside of the operator’s vantage point. In addition, the debt holder benefits by being able to make more educated decisions regarding the disposition of the asset, as they become more intimate with the specifics and know when the right workout or disposition opportunity has arrived. Rule No. 2: Seek a Second Opinion In virtually every business or personal relationship one can be “too close” to a situation to make a decision objectively. Even with numerous years of experience, sometimes the best advice or solution-driven approach may come from an objective third party. Recommended Approach: Whether acquired through a professional network, industry association or other source, a third-party vantage point can provide a key ingredient to a successful asset management strategy. In a distressed situation, an ideal third-party consultant would be a seasoned operator that would assist in examining the underperforming or undervalued asset for a turnaround situation. By assessing internal controls (including management, leasing and maintenance), providing oversight of services and creating new strategies to meet a higher standard, an operator may be able to execute a successful repositioning of the asset. In addition, this would demonstrate to the debt holder, ownership and tenants that operations were improving. Rule No. 3: Motivate the Operator As easily as good buildings can find themselves in bad situations, demoralized operators can unintentionally further erode the value of an asset. Negative economic and tenant related matters can greatly impact those at the property level and lead to decreased productivity, putting the asset at risk for deterioration. It is critical for debt holders and related ownership interests to ensure the respective operator stays fully committed and engaged in optimizing property value and exceeding expectations, especially in turbulent times. Recommended Approach: Enhanced communication between debt holders, ownership and operators is extremely critical. Just as financial reporting requirements seem to multiply at exponential levels during an economic downturn, communication needs also increase down to the property level. Operators want to stay informed and know how their efforts are impacting the asset’s value. By proactively heightening communication at all levels, the team becomes a stronger unit, with a sharpened focus. Job security can also be a top concern within an operating team. Though the belt is surely tightening at this stage, it can be productive to provide a greater incentive to the operator, where appropriate, to deliver top performance. In the end, a small investment can make the difference in the ultimate protection of an asset’s position within both the market and its tenant base (where operators have direct influence), while demonstrating commitment to the operator and investing in the future of the asset.
It is often the financial structure or environment around an asset that has been compromised, rather than the asset itself. Don’t let the bricks and mortar be forgotten in a sea of tranches, loan restructuring and financial engineering. Ignore the media sound bytes and take stock of what you have to make sure you can protect and enhance its value. It’s the asset, in the end, where the value will ultimately be recognized. Michael Newman is president and CEO of Golub & Co. The firm’s portfolio consists of high-rise office and residential towers as well as retail and mixed-use properties. To date Golub & Co. has owned, managed or leased more than 40 million square feet of property from the U.S. to Eastern Europe.