Imagine preparing a firefighter before falling asleep at night. Their equipment is organized. The truck is inflated. The keys are nearby. They are ready for chaos anytime. If the alarm sounds, an immediately executable and well-established plan is in place. In these chaotic times, commercial real estate lenders (whether they use in-house asset management or credit managers and third-party services) have to think like a firefighter.
Those of us around the great financial crisis of 2008 (and similar past events) graphically remember the horror stories between lenders and borrowers. Lessons from past crises show us that organizing operations and identifying and preparing teams for problems could mitigate future problems while preserving time and profits.
Let’s dust off our tools and put them to good use.
Become very observant with your money. Monitor your monthly operating statements and rent lists. If you have a safe deposit box or cash management account, it is important to check deposits early and often. Deposits made to a PO Box provide immediate insight. While it’s important to check the monthly statements, they arrive 30-45 days after the end of the month, which puts you at a disadvantage.
It is also prudent to ask for a report of unpaid debts from borrowers. Borrowers, especially those who are cash-strapped, may start making these payments from equity and there may be a tendency to pay slowly or to sort out other sellers of the property. An accounts payable age report can help reveal borrowers who may be trying to accumulate money.
Obtaining a 90-day debt report (or an unpaid debt report) might reveal an increase in the amount of debt that is 60 or 90 days past due, which may suggest that a borrower is using the cash flow. cash for improper purposes when such cash should have been allocated to pay obligations in the loan documents. Understanding the operational nuances, especially the sources and uses of money, will be essential when formulating a plan of action. It’s imperative that you get the full story of your borrowers – the good, the bad, and the ugly. Every bit of information helps paint a complete picture.
Before a workout can begin, it’s important to be aware of every potential defect your borrower has or may be making, including past flaws that were subsequently corrected. Understand what your borrower is going on, not only with your assets, but with all the assets where they may have economic interest. Currency defaults, as well as other large financial liabilities, can have teeth and can present immediately exploitable protections. However, technical faults can be more difficult to deal with, but should be carefully monitored. You should consult with your advisors, including your legal advisor and your entire credit management team to fully understand your options for each default scenario. Make sure your notices of default, pre-negotiation agreements, and reservation of rights letters are up to date and comply with applicable jurisdictions.
There is a wide range of preparedness measures that lenders can take to protect their options and increase their chances of investment success, even in the face of a borrower or difficult market circumstances. Scenario and sensitivity analyzes are essential; start before the going gets tough.
Based on past cycles, it is all too common for some lenders to do nothing in the face of known issues, operating with a “wait and see” mentality. Don’t confuse patience with preparation. It’s good to be patient in context, but it’s not good to run out of a plan, especially one that contemplates various future circumstances. It is also very difficult to analyze qualitatively and quantitatively your scenarios and sensitivities if you have never worked on a fault of a similar nature. Get people on your team who are not in conflict and have already done so. There is nothing like acknowledging the facts to improve your chances of success. Finally, be prepared to let your plans repeat themselves. Time is often your enemy, so don’t give up on cautious action while you strive for perfection.
Communication and market intelligence
Like a fire team at the scene of a fire, persistent communication between your entire credit management team is vital. You can’t communicate too much. However, be very careful with your communications with the borrower during these times and be sure to act with the advice of a lawyer. Vague statements, no matter how well-intentioned, can be dangerous and can have potentially negative impacts on your future options.
Assumptions and preconceptions are also dangerous. Don’t assume the worst or the best. A borrower who hasn’t submitted their month-end financial statements on time may be hiding something; they can also be simply overwhelmed or bogged down by non-compliant, elusive or similarly overwhelmed tenants, contractors and government agencies, among others. We recommend, especially early in the default process, many more questions than statements as you collect information. Even when you are stressed or angry, do your best to gather the facts without passion.
Knowledge of the market is also essential. There is a wide array of resources you can consult, including brokerage rental and sale reports, supply and demand trends, demographics, economic forecasts, costs and availability of capital. , among others. Today, many of these resources are “open source” and can often be obtained with a little investigation. When you train your credit management team, consider their resources as well. Don’t just rely on third-party data that is generically designed for large consumption. Work with professionals who understand market, submarket, and asset-level data derived from their own portfolios and experiences. Remember, you are in fact-gathering mode. The more actionable insights you can get, the better your chances of success.
Mitchell Hunter is President and Robert Brasfield is Managing Director focused on Non-Performing Assets, both Americas, at Trimont Real Estate Advisors.