Real Estate Forum - May/June 2009

more workout and/or receivership assignments this year and beyond. “Receiverships present themselves very quickly and we have to move very quickly,” Cataldo says. “There are probably four or five assets that are in our watch mode that could definitely go that route. There is still a lot of uncertainty as to what the best courses of action are. Unfortunately, the pain for the borrowers as 2009 progresses is going to get worse, and that will dictate a lot of what happens in these various projects. Will there be a lot of deeds in lieu of foreclosure or receiverships? It hasn’t yet manifested itself into a clear-cut path of what’s happening.”

There are several obstacles in the way of doing a workout based simply on the good faith between a borrower and lender. For one, many properties are backed by a complex financing structure, with layers upon layers of debt that make it hard to determine who the senior lender actually is. CMBS loans, meanwhile, present less wiggle room to negotiate.

Then there is what Davis terms the “pay for play” stance of many lenders. That is, if an owner wants to do a workout, he better bring some cash to the table—a near impossibility in this credit-

What
we’ve seen
primarily to date
on a larger scale
has been activity
to buy the debt as
an initial strategy.”
Jerome F. Catalado
Hostmark Hospitality Group

starved environment. Add to that the magnitude of the drop in hotel property values and a rise in cap rates, and it becomes more expedient for some owners to simply walk away.

“Most lenders are not going to just give you an automatic extension without additional collateral,” he says. “That is also why a certain percentage of borrowers are not fighting foreclosures. Some are saying, ‘Please take this asset back, I don’t want to do a workout. It’s upside down,

it’s a bad deal for everyone. I need you take this back.’ There is a certain amount of that going on as well.”

A deal Davis is currently working on involves bringing in equity for a client. He declines to give too many details because it is an ongoing assignment, but describes the hotel as a high-end product. “The property is essentially not able to make its debt service,” he relates. “There is an opportunity to buy the current debt at a significant discount. But rather than just bring in new debt and refinance it, because the coverage isn’t there to meet current lending criteria, we are bringing in what you would call the equivalent of preferred equity. For the lenders, coming in with capital is a lot more meaningful than saying, ‘I can’t make my debt service, give me forbearance.’ But not every borrower can come up with additional capital.”

Bringing in new equity—assuming it can be found—is expensive and means that the borrower or sponsor has to wait to get paid after the preferred equity lender if the property does turn around, again, assuming it can be turned around. The few capital sources around want to be handsomely compensated for their