Block 37 redux - "show" me the tenant!

So, more details are out on Block 37. Work from the awesome team at Crain's is that apparently Muvico walked from its anchor lease at the property but offered to come back at better (read: cheaper) terms.

In other words, it looks to me like the old tenant cramdown.

Freed, not wanting to lose the deal and presumably sensing it could still make money, takes the deal to Bank of America. Why? Because the lender as a rule in deals like this has the right to approve major leases or material modifications to existing leases. Sometimes there will also be specific criteria under which the borrower can enter into leases without lender approval. And Freed is telling us the lender said no, and did so "improperly." You can read the story to get the gory detail being alleged in Freed's motion to dismiss, the gravamen of which is that it thinks the banks wants to capitalize on Freed's work to lease up the property and profit from it.

Now, the lender can argue that it did nothing improper, negotiated for two years to modify the old Mills deal without coming to satisfactory terms and the fact of the matter is the project is millions over budget and Larry Freed has violated his net worth covenant (by pumping money into the deal?). The bank's lawyer is an old colleague (and an excellent lawyer) to whom I (indirectly) referred a case a year or two ago, so you know I think he's good too. It'll be interesting to see how this plays out next week in front of Judge Brennan. I may even have to show up for this one.

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Block 37: foreclosure, receivership and all that

Is this a classic case of no good deed going unpunished? Or is it just a lender enforcing its rights, albeit at an awkward time.

Bank of America, as the lead lender, is foreclosing on the retail portion of the long-awaited and oh so troubled Block 37 in downtown Chicago and will be in court this afternoon to have CBRE appointed as a receiver to keep the project going, including finishing construction. Unless there are some defenses sitting out there that we'll hear about, legally they presumably have that right, and even though Freed says construction could grind to a halt, surely the loan documents contain assignments of the construction contracts, architectural drawings and all that so the lender could in fact take over the project. (Hopefully none of the retail deals will allow the tenants to pull out in the event of a foreclosure or bankruptcy or something, or the project gets done in time to prevent triggering the right to walk for failing to finish landlord construction.)

Why now? No confidence that Freed could finish the lease-up, so bring in CBRE? Is there a potential here for more gain by jumping in? Interestingly, according to one Crain's story, "As an additional ground for default, Freed President and CEO Laurence Freed’s “unencumbered, unrestricted liquid assets” have fallen below $5 million, in violation of a key condition of the loan, which was issued in 2007, according to the complaint." Or is it just the fact that there have been millions in major league cost overruns has the lenders frightened?

Okay. Lots of people have taken a hit in this market. I'll take an educated guess here and say Freed may well have been pumping his own money into Block 37 to get it done, probably to the extent that his net worth has gone below the threshold for the default. So, let's nail the developer for -- gosh -- trying to do the right thing instead of walking or handing over the keys? If that is the case then I really do not know what to say. I do know that Mayor Daley wants this property opened -- or else! Since I represent developers more than lenders my sympathies lie in that direction, and I wonder if this could have been handled better, of differently. And would the old LaSalle Bank folks have done the same?

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Kiosks -- for all you microretailer wannabes out there....

Here's a neat little piece about renting kiosks in the LA Times. I don't really remember seeing them in malls as a little kid, but installing them made so much sense. By putting them in what was once common area of the center you essentially create found money. (There are also common area carts, which is a slightly different beast; contact me if you want to know more.)

It can also be a win-win for both parties. As the article says, kiosks can be a cheaper way for beginning retailers to get into the business, perhaps with a cheap(er) and short(er) term lease. And for landlords, while the rent may be cheap, on a per square foot basis the kiosk can be great.

But if you are thinking about opening a bead shop for the holidays, remember a few things. The break-even costs are not low, the hours can be brutal (you have to be open whenever the mall is, which can be 70+ hours a week), and there's plenty of competition even in a recession. But if you have an itch to do retail, are not on a huge budget, but also do not want to say to yourself, "If only I'd opened my own business..." then this is an entry-level way to do it. Just be cautious in signing anything as a tenant, and get a good lawyer to look over the mall's almost certainly one-sided lease form so you are at least aware of your obligations.

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Statistics on lender recovery by sector

Here is an interesting story citing a study by Real Capital Analytics showing that lenders might expect to recover about 60% of their investments on defaulted commercial loans that have been liquidated, with varying numbers by sector. Is that an incentive to renegotiate deals, extend and maybe pretend, or to look to sell the notes, take the 60% and run?

The 60% is before costs and fees, by the way. I think it might be a sign that everyone is going to have to take a hit in this market. But we knew that already. My one quibble with the study has nothing to do with the methodology of RCA but rather of the study sample. I think, for instance, it is hard to say that a lender on a land deal is only going to get 32% of its money back when the sample size is so small. I also do not know the statistical significance of 145 properties in the grand scheme of the market. There's also the issue of asset location.

What I really found interesting is that the "underwriting" of the newer loans being liquidated is holding up pretty well compared to older loans under supposedly tighter standards. Now, as the story says, there are many factors that could come into play here but I think it does remind us that property, as we learned in law school, is inherently unique. Nonetheless, some data is always better than none, because there is nothing worse then negotiating in a vacuum.

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CRE "failures:" A ripple, a wave or a tsunami?

Ask around. I have. Today's Journal has a story stating that Peter Cooper Village and Stuyvesant Town is in imminent danger of default (well, meaning two to four months), and that will be "signaling the beginning of what is expected to be a wave of commercial-property failures."

It could be. We keep reading and hearing about the coming crash. But then you have Harvey Green telling us that the shoe hasn't dropped and will stay on the foot, albeit unlaced. (H/T to Jeff Vinzani for pointing this out to me via Twitter.) Green's take is that lenders needs to get a little more to the center. (I agree that banks are still unwilling to lend in some cases.) That does not mean there will not be a disaster, but it does not have to be. I like his views on the state of the market.

My take? If there is no panic and people look at this smartly, then we'll have a market upset somewhere between a ripple and a wave. Many deals that "work" still need to be extended; there are plenty of good, cash-flowing assets out there (unlike sub-prime mortgages) that just need time. It isn't an extend and pretend scenario much of the time, believe it or not. And the deals that do not "work" need to be worked out sooner rather than later, one way or another. Why? Because that gets all the cash from the dry powder funds sitting on the sideline working. Everyone and his mother seems to have a vulture fund set up but nothing to buy. And I know I keep saying it, but: Lenders need to lend, with government back up on losses after a stop point if absolutely necessary. And borrowers? Let's just say everyone has to play ball.

Anecdotally, an informal poll of readers tells me that people are very busy. Now, that is admittedly self-serving. And people who are not busy are not likely to admit it to me. But I know not everyone is twiddling thumbs out there.

Yeah, there will be some pain. Of that there is no doubt. Will we have another crash a la the housing market? I doubt it and I certainly hope not. But who knows, there could be a tsunami in the commercial real estate market. Hopefully we've learned enough in the last eighteen months to keep that from happening.

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What a difference a year or two makes - random thoughts

Just a few quick observations and thoughts on the real estate market on a rainy Thursday:

• My nephew works at a bank and he tells me anecdotally that only 25% of mortgage loan applications are being approved. Is that tight underwriting, a lack of desire to loan, lack of capital, or something else?
  
• On a related note, lenders are really taking underwriting seriously. While it can be a pain, I think that is a good thing so long as the lender is actually doing deals.
  
• I'm looking at the October issue of ICSC's monthly magazine, Shopping Centers Today. At a mere 54 pages, it is a tiny fraction of the size it was even a year ago. Presumably chalk that up to a lack of advertising.
• That same issue cited a headhunter who said he hadn't seen an opportunity in development, construction, tenant coordination or acquisitions. There was also a profile of a former GGP exec, David Grossman, who is working as the Chicago master franchiser of a fresh food restaurant concept. I haven't been to Freshii, but it looks interesting and I wish him well.
• All this makes me wonder if I should do something else sometimes. Even Justice Scalia said too many smart people are lawyers, and I can't say I disagree. But I do really like being The Dirt Lawyer. :)
• Totally off topic, but this high-speed rail stuff is a complete boondoggle in its present form. The proposed speeds of up to 150 mph -- and in many cases slower -- will never get me out of my car. I totally support high-speed rail, but if we are going to do this let's think like Eisenhower. 200 mph (see here, e.g.) is more like it -- but even that should only be as a start! For instance, a French TGV train has been tested at just over 350 mph. Imagine having that regionally and then nationally in 20 years, like the interstates. Much air travel, a big carbon burner, would be rendered largely obsolete. Put rental cars and ZIPcars, etc. at the stations and you can revolutionize travel. I don't mind spending money on good, sane green projects but let's do it right. Better yet, provide tax incentives to companies that spend the capital to make this happen.
• Speaking of green, if we want clean burning fuel, why are we not investing more in nuclear energy? Even the French (OMG, I complimented France twice in one post - a new record!) have this one figured out. That could be an interesting dirt play, too.
  
• ICSC Chicago is coming in a couple of weeks. A couple readers have already expressed in getting together. Anyone else so inclined should shoot me an email. I plan to be in Chicago on that Thursday.

That's all that is on my mind and fit to print. Enjoy your day!

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What has me worried

Yesterday we saw some optimism about cap rates and interest spreads that made me feel good. But what still has me worried?

1. The dollar. We keep printing money and are running obscene deficits in the hopes that it will bring back the economy. Is the the 1970s (or even the New Deal) all over again, albeit on steroids? Remember, we are not out of the woods yet. And this story about the allegedly planned demise of the dollar as a reserve currency really spooked me. Maybe a weak dollar might encourage foreign investment in CRE in the US -- I understand that -- but that does not necessarily make it good for the future of the United States as a nation.

2. A jobless recovery. Unless you have jobs you have little need for additional office space. People can't or won't start new companies and existing employers don't want any new space. Bob Herbert at the New York Times has an excellent piece on this today. We need to find incentives for job creation. More government, regulation and taxes is not, in my humble opinion.

3. Technology. It is a great thing. But it could also mean a need for less office space and more efficient industrial space.

I am still optimistic about recovery and cycles and all that. Believe me. But that does not mean I do not have a healthy does of reality checking to do.

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Lamentable or not -- we lost. What next?

Losing the 2016 Olympics seems like a big bust for some people, including in the CRE industry. Yes, we lost a lot of potential public and quasi-public projects because the IOC decided to send the 2016 Olympics to Rio. By the way, does anyone seriously believe the 80,000 seat Olympic Stadium could have been built for $397.6 million? We all know on-budget Soldier Toile....err....Field and Millennium Park were.

But this post is not about second guessing. Instead, where do we go from here? Infrastructure improvements, to me, seem to be the most important thing to concentrate on. Let's assume we find the money. Public transit needs to be improved. Chicago once had a public transportation system that was the envy of all. Today? Not so much. We keep talking about high-speed rail. If we are going to do that to make it really work then rail lines within the city need to be upgraded to accommodate decent speeds. Maybe commuter train speeds could be improved, too. Try taking the old IC line north of 115th Street...zzzz.....

Then there is the old Michael Reese Hospital. Man, can a creative developer, perhaps in a public-private partnership, do something with that campus! How about a mixed-use development that compliments or expands even more on McCormick Place? I see tremendous potential there. Saving some of the Gropius buildings would be a big plus.

These are just two examples. I am sure others smarter than I can think of other examples.

We lost. Big deal. I really think Chicago, with some visionary planning, can take that loss and turn it into a win for everyone.

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Cap rate spreads - making sense?

I really like this analysis by David Lynn posted at NREI. Why? Because it makes sense to me.

At one point, the numbers were insane. People buying deals at a 4 cap with the unfounded expectation that the bubble would go on and on and on smelled of tulips in Rotterdam. And yes, the frost came.

But look at the charts now, if you happen to be a chart person. Add in your risk premium and real estate is slowly starting to make sense again. Buy at a 10, sell at a 8 is the maxim I have mentioned here before. And as the caps reach reasonable levels, real estate's making sense again. That is the beauty of cycles. The thing is - it could still get better. But I agree with the analysis that smart money will start jumping in again with relatively "safe" deals - reasonable interest rates, LTVs and expectations.

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Get a life? Insurance that is, for a CRE loan....

What do you think of these thoughts from Chris Vittetoe, now of HFF? (I have done deals with HFF in the past and like the way they work, by the way.)

He tells us 80% of life insurers -- an old, traditional way of getting good size deals done before the CMBS boom -- are in the market. Of course, your LTVs are at 65% but decent rates, and then some aren't really back if you read this sentence: "We just met with one lender that has allocated $30 million for LA County for the rest of the year. That is $30 million for all real estate assets including office, retail and so on." That is one decent sized deal, even in this market.

I'm also not sure that I agree with this conclusion. "A lot of people think we are still in a liquidity crisis but that was never true. There has always been plenty of money available just not at the pricing and leverage that some borrowers want."

At least in my world, I knew a bunch of lenders who were not able to lend money at any price. I suppose if you wanted to do a juice deal with insane, unsupportable rates and terms money was to be had. But almost no one was able to do those deals, of course. And given other things Chris said I think he might agree.

All that said, I think Chris has some really good things to say, especially when he talks about the pride of some developers who do not want to admit their properties have declined in value. And I would agree that the life lenders are really back in the market now in that they are lending at terms where deals work. And that is always good a good thing to hear.

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