The recent economic crisis has compounded the financial stress on commercial mortgage-backed securities servicers. Financial instability and the specter of bankruptcy has increased most notably among smaller servicers, especially smaller special servicers as banks are declining to renew working capital lines under current terms or are executing margin calls.
According to a new report released by Fitch Ratings, "U.S. CMBS Servicers Under Stress - Bankruptcies and Mergers/Consolidations," several troubled financial institutions have been acquired or have merged. Many of these institutions have CMBS master and/or primary servicing operations, which will have to be combined.
Though a servicer may be a part of a highly rated institution, issues relating to a servicing entity's financial stability or viability or merger activities at the parent level has the potential to adversely impact servicing operations and ultimately the performance of the loans and securities they service. Despite these pressures, Fitch's report suggests that the structural protections built into the transaction should insulate CMBS bondholders.Financial instability and uncertainty exists today for certain companies that service CMBS. The stress and distraction associated with their ongoing viability, financial stress, or merger activity at the parent level has the potential to negatively impact the servicing entities. According to Fitch, the structural protections built into the documents should insulate the CMBS bonds, although a discussion of the potential disruptions a servicer bankruptcy or consolidation could cause is warranted.
Master and primary servicers manage the commercial loans while the loan is performing. The special servicer takes over the management of the asset when it becomes nonperforming. Some CMBS servicers, mainly special servicers, are experiencing financial difficulties caused by current market conditions affecting credit, liquidity and margin pressure at the parent or partner level.
Bankruptcy can undoubtedly impact the servicing operation and consequently loan and bond performance. However, the U.S. Bankruptcy Code offers significant protections to servicers experiencing financial difficulties and whose businesses are rapidly deteriorating. Most importantly, the bankruptcy code provides the servicer with a "breathing spell," a short period of time in which to attempt to reorganize or sell its business as a going concern. During this breathing spell, the servicer will be protected from remedial action of its creditors and contract partners and will have the opportunity to analyze its business prospects and negotiate toward a restructuring of its indebtedness or solicit offers for an organized sale of its business.
Fitch reviewed pooling and servicing agreements across several issuers and vintages and virtually all of them provide that servicers shall consent to the appointment of a conservator, receiver, liquidator, trustee, or similar directing official on behalf of the bankruptcy court.
To varying degrees, all U.S. CMBS servicers are feeling the effects of the loss of new loan volume and increasing default levels. All servicers, whether captive or third party, will find both workout timelines lengthening and overall cost to service increasing. Merger activity among servicers and their parents is occurring during a stressful period for the CMBS market, which presents numerous organizational and operational challenges for the affected servicers.