Encouraging Borrower Cooperation
With more commercial real estate headed towards foreclosure and bankruptcy, lenders and servicers are willing to work with borrowers who bring their own resources into the equation to achieve a “win-win” for everyone involved.
Freddie Mac, a portfolio lender, considers its commercial workout philosophy to be “relationship-driven.”
The GSE sends a strong message to servicers that defaults will impact future ability to borrow and get the same pricing, terms and type of proceeds. Freddie Mac expects to see “strong sponsors and borrowers” who continue to maintain the property. “Do not default to try and get our attention, because we will just foreclose on the asset,” said Daryl Hall, vice president of asset management, Freddie Mac, at the MBA’s Commercial/Multifamily Servicing and Technology Conference in New York.
“Talk to us and continue to make the payments while we talk. If you stop making payments, we will assume you have no interest left in the asset. We will work with borrowers who are good sponsors, managers and stewards of the assets.”
Freddie’s delinquency rate is 25 basis points, said Hall, and 99.75% of all borrowers are “continuing to pay at this point in time.” Currently, the GSE has 13 REO.
Borrowers must come to Freddie with a plan, “detailing a solution,” and be ready to bring additional money to the table. “If there are fiscal needs, sometimes there needs to be a pay down. It’s a shared gain concept. We expect people to recommit to get income from us.”
There is a wide spectrum to the repercussions of defaults, he added. “The way I look at it, the punishment equals the crime. If it’s a minor issue for a workout, I think we would continue to lend to that individual. If there is a wasted property and egregious actions, that’s not someone we would want to do business with going forward.”
Dean Roberson, director of special servicing, Bank of America, said the growing default cycle started in multifamily before retail began to drop off quickly, followed by hotels. "We’re seeing more and more office problems now. The trend is there are a lot of problems out there and still to come.”
Within CMBS as a special servicer, Roberson says the “main guiding principal” is to achieve the highest recovery to the bondholders on a net-present-value basis. The client or customer, once the loan is securitized, is the bondholder, not the borrower or loan originator.
“We generally always start from a cooperative stance. I’ve found you can always move from a cooperative stance to an antagonistic stance any time, but the reverse doesn’t always work,” Roberson told the audience.
In order to understand the problem, B of A takes the time to listen to borrowers and study market data. It will then develop and assess alternatives such as a modification, restructures or foreclosure receiverships.
According to Hall, receivership is a process the lender will go through to protect the asset until it gets to foreclosure. He said it acts as a “liability shield.”
The receivership order provides a lender with protections. It enables the lender and his counsel to dictate the terms under which the operation of the property will go forward. A property manager collects the “dollars and pays the vendors.”
In certain counties in New York and Ohio, lenders cannot select receivers. Some jurisdictions do not allow lenders to set compensations. “Quite frankly, some won’t add any value for you. You learn those lessons the hard way and think about other ways to approach the situation.”
Many property management firms are willing to take on receivership for multifamily properties at almost no additional compensation, the panelists noted. Sometimes leasing and investment capabilities come with this.
It is a long process to foreclosure both at the legislative and judicial level, added Robin Green, partner, Bryan Cave LLP. She said deeds-in-lieu of foreclosure are being used because of this increased delay in the court systems.
“A lot of times the lender thinks the deed-in-lieu is going to be fast and very inexpensive. Unfortunately, a lot of times, when you start trying to negotiate the deed-in-lieu, you discover that maybe you should have been duel-tracking the foreclosure and the deed-in-lieu,” Green pointed out.
“The negotiations oftentimes seem to break down. When you are taking a deed-in-lieu of foreclosure, you are stepping into the shoes of that owner as if you were buying the property from them with all of the relative potential liability that is out there.”
It’s important to figure out the “reps and warranties” upfront. Green said one unusual phenomenon her firm is seeing is third-party sales of REO properties on courthouse steps. “We’ve seen four or five of them in the last few months. That’s a tough way to buy a property,” she said.
In closing, Roberson described what is happening today as “two ball games going on simultaneously,” including the economic ball game and the commercial ball game.
“I think the economic ball game is at the fifth inning, and commercial real estate is at the top of the third. There are some problems that take longer to make their way through. Office is a good example. Increasing vacancies over rents are driven by the empty space by all the layoffs we’ve heard about. The impact is not felt in day one like in hotel,” Roberson said.
The “huge drop” in valuations at 43% could grow as high as 75% when applying new leverage. The gap between what was borrowed and what could be refinanced will cause more pain over the next few years, he said.