Finding the Right Solution for a Problem CRE Loan

Introduction

The past three articles about Commercial Real Estate (CRE) problems have covered, a) methods and internal organizations to manage problem CRE loans; b) early risk identifiers and trends with CRE, and c) understanding your Borrower, the market and the collateral of problem CRE’s.  This fourth article pulls all this information together to determine and find the right solution for your problem CRE loans.

Overview of Organization, Risks, Borrower and Market

Internal Organization

Step One

View a realistic picture of the Magnitude of the problem, possibly breaking it down into the four basic groups:

  1. Technical Default
  2. Delinquent Payment(s)
  3. Workout / Negotiation phase
  4. Foreclosure / Legal Action phase

Step Two

Determine the types of expertise needed to solve the problems, some important traits needed are:

  1. Aggressive but diplomatic
  2. Has composure and understanding
  3. Ability to close the deal
  4. Read people’s intentions
  5. Honest and trustworthy
  6. Inquisitive, to keep searching for the right solution

Step Three

Implement resources to resolve the issues quickly, while keeping accountability of financial responsibility.

Some basic questions would be:

  1. Can existing originating/servicing lines handle the problems?
  2. Should a new department be formed?
  3. Would it be best to subcontract with an outside service?

Understand and Know your Risks and Trends

The key data elements to any CRE are:

  1. Environment
  2. Disposition
  3. Characteristics
  4. Values
  5. All mapped over Time

All five of these data elements are related and interdependent to each other and as such, need to be viewed as a five-dimensional matrix

Understand your Borrower, Market, and Collateral

The Borrower

It is important to understand what factors and circumstances contributed to the borrower’s financial difficulties; what is their current financial condition; and what exactly is in your contract with them.

The Market

Having an independent market analyses of the area, the industry, and of the property type is very important.

The Collateral

Do you have a current appraisal, do you know the key factors that will effect this appraisal both positively and negatively.  And very important do you know the current condition of the property.

Find the Right Solution

Based upon all the possible problems that a CRE loan can have there is no magic silver bullet that can fix every loan.  Solutions can range from a simple loan extension to a total re-write of the documents to legal and foreclosure actions.  You may be able to do this with your own staff or you will need to seek the assistance of third party consulting firms.

Data Gathering

Gather as  much data as you can about the following:

  1. About the Property:
    1. Disposition of the Properties;
    2. Property/loan Characteristics;
    3. Property values (number of and currency values);
    4. Environmental (Economy, Political, & Natural) data; and
    5. You will need all this data to be viewable over time periods.
  2. The Borrower
    1. Was there any misuse of funds, gross mismanagement, fraudulent, or illegal activities?
    2. Which of the following applies as to the primary reason for this problem loan:
      1. Bankruptcy of key tenants or customers?
      2. Downsizing or relocation of tenants or customers?
      3. Rising costs, thereby reducing profits in fixed priced contracts?
      4. Accounts receivables are increasingly slow pay?
      5. General adverse effects of market trends?
      6. Other?
    3. Do you have from the Borrower(s):
      1. Current operational and financial condition reports?
      2. Listing of all outstanding secured and unsecured debt?
      3. Listing of any outstanding or unpaid taxes or assessments?
      4. Listing of all contingent obligations or commitments?
      5. An updated title report, does it show any junior liens?
      6. Status and locations of all other personal property, such as accounts receivables, securities, and equipment?
      7. Listing of any additional secured debt?

This data should be in a format that you can be able to look at in multiple views.  Obviously Microsoft Excel is a popular spreadsheet application for this.  However, if you will have multiple people looking at, using, and updating this data a database application such as Microsoft Access or FileMaker Pro would be better suited.

Analysis of Your Options

The objective is to make a problem loan into a good loan.  With that said, there are some issues that will simple make it impossible for that to happen.  These cases are such things as misuse of funds, or fraudulent actions by the Borrower; if that is the case do not waste your time and try to “negotiate” a new deal, history has proven that it just won’t work.

Therefore, the problem loans that will be worth spending the time and energy fixing will be those that allow for a balance of risk between the Borrower and the Lender; and where the Borrower has a deep commitment to make this project work.  Here are some points to follow and consider:

  1. The number one factor in making a bad CRE loan into a good CRE loan is Time.  Given enough time almost any CRE can become more valuable.  Can you and the Borrower come to agreement on all the different time frames (maturity, absorption rates, change in market trends etc)?
  2. Next is the principle balance.  Is there any room (with good justification) to move this value (up or down) to accommodate the needs to make this CRE project a success?  Will writing off a portion be better than having it as a non-performing asset? Or on the other hand, will providing additional funds bring the property up to a standard that will make it viable again.
  3. Other terms – such as balloon payments, payments based upon percentage of income, minimum payments, other collateral added, personal guaranties, etc.  These are grouped as other conditions that can help balance out the risks that are being taken.  Here is where the creativeness may be needed to address and meet the expectations of all parties involved.
  4. The interest rate on the loan.  Although, today this may not seem that important, this could have a major impact both actually in dollars and physiologically to the Borrower.  This could be the single most important “emotional” factor in the deal.  Being just competitive may not be enough, but being very direct and forth coming as to why your rate is what it is will do wonders.

Summary

Finding the RIGHT solution to a problem CRE can be difficult, but with accurate information, prudent lending methods, and a realistic long term approach solutions will almost always present themselves.

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