Dissecting the Distress: Legal Issues
THREE YEARS AGO THE BASCOM GROUP AND HIGHLAND
Capital Management LP secured a $21.4-million mortgage from
Capmark Finance Inc. to acquire and renovate the 784-unit
Breckenridge Apartments in Ft. Worth. The JV poured roughly
$7 million into upgrading the 38.7-acre property and upped its
occupancy from 77% to 86%. But at the start of this year, the
owners defaulted on the mortgage.
Left with the asset on its balance sheet, Capmark enlisted
Mission Capital Advisors LLC to dispose of the sub-performing
note. Last month, the New York City-based investment firm began
soliciting indicative bids on the mortgage loan, which is set to
come due this month. A review of the offering materials provides
the basic structure of the
By Danielle Douglas debt deal. But what else
should an investor know
about the note? What legal issues could interested buyers of this,
or any other troubled debt, face?
In a recent survey by Bingham McCutchen, FTI Consulting,
Macquarie Capital and Debtwire, two-thirds of respondents said
they plan to boost their exposure to distressed debt this year. Of
the 100 hedge fund managers, proprietary trading desks and
other asset managers polled, nearly half expect to ramp up their
investments in the second quarter.
Indeed, a multitude of funds have formed with the hopes
of capitalizing off of the market dislocation. According to
Washington, DC-based Mortgage Bankers Association, some $171
billion of commercial and multifamily loans are set to mature this
year alone. And the deep freeze in the credit markets will prove
challenging for borrowers looking to refinance maturing debt.
Yet the actual default rate on CMBS, which penciled in at 1.15%
at the end of January, remains below the historical high of 1.7%
in Q1 of 2004, according to Fitch Ratings. The agency, however,
has been reporting a consistent uptick in defaults, which floated
below the 1% mark for most of the past year.
Banks are generally reluctant to become de facto property
owners. With the securitization market at a standstill, the
secondary market for debt is one of the few remaining alternatives
for lenders to offload troubled loans, says Jeffrey A. Lenobel,
partner at Schulte Roth & Zabel LLP in Manhattan. Some sellers,
says the attorney, are even financing buyers to clear their books.
“We’ve seen sellers providing financing at 60% of the purchase
price, assuming the debt is still performing well,” he says.
To be sure, debt issuers are not flooding the market with credit
for sale. Sellers are often hesitant to take a significant loss on debt,
while buyers are holding out for fire-sale prices. “There is a ton of
money sitting on the sidelines right now,” says Peter J. Mignone,