For commercial property owners facing a loan workout: Know before you go

Imagine this scenario. A real estate holding company purchased a 15-tenant class A office building in a suburban area, near a major metropolitan city, four years ago for $21.8 million. Purchased as a value-added property, the owner invested $1.3 million to update the common areas, install new elevators and make other improvements, which helped to retain quality tenants and attract new ones. However, due to the downturn in the economy, the vacancy rate grew over the last year and the property is no longer generating sufficient income to cover the debt service. Facing foreclosure, the owner need a loan modification to preserve its capital investment and its opportunity cost in the property. Now step into the shoes of the lender which financed that property. With hundreds of properties facing similar problems, the lender must decide which properties warrant a loan modification and which should be sold or foreclosed. The challenge for the owners is to convince the lender that a loan workout for this property is in the lender's best interest. Common sense dictates that the holding company will be more likely to make the case for a loan modification if they can present a third-party, independent, comprehensive financial analysis of the property, breaking down every element of the distressed asset, than if they show up with just a rent roll in hand. Armed with data and a persuasive case, the property owner is certainly more likely to attain a favorable loan workout. In today's commercial real estate market, owners and developers of financially troubled assets are struggling to maintain the viability of their portfolios in the face of declining property values and reduced cash flow. They are contemplating pursuing a loan workout in the hopes of protecting their interests, negotiating favorable new terms and maximizing capital recovery. But confronted by a flood of non-performing loans, note holders are rigorously scrutinizing the financial health of all underlying assets or collateral and taking aggressive positions about the property's financial viability. Receiving favorable terms in a loan workout depends upon an owner being able to satisfy lender concerns by clearly conveying the property's current value and its projected future value. This means that owners must be fully aware of and able to effectively represent all the ramifications of a proposed workout before they begin negotiating with the lender. To meet the demands for accurate, up-to-date evaluations, owners are increasingly undertaking comprehensive financial due diligence property audits prior to approaching the negotiation table. In-house appraisals can help provide a reference point but since real estate trading values are difficult to determine in today's market, property owners are best served by financial due diligence specialists with deep experience in auditing distressed assets. Arriving at a property's true value demands a thorough review of its financial statements, budgets, leases, income and expenses, including the evaluation of reimbursable income and expense methodology. When hiring a due diligence specialist, owners are best served by those with the expertise to: * Accurately assess all income and expense line items; * Analyze, review and report on the financial health of the property; * Prepare operating budgets; * Update underwriting models; * Report on projected asset performance. Along with meticulously completing the complex tasks of financial assessment, an experienced due diligence specialist can help owners of distressed properties to develop positive strategies for possible workout options and resolutions. Additional assistance can include coordinating matters with foreclosure and bankruptcy counsel and negotiating with special servicers and other lender representatives. As developers and owners struggle to stay afloat in these troubled times, many understand that this type of comprehensive financial due diligence expertise is what can prevent a property asset from turning into a liability. David Tesler, Esq., is founder and chief executive officer of LeaseProbe, LLC, and chief executive officer of Real Diligence, LLC; both companies are affiliates of Madison Commercial Real Estate Services, Lakewood, N.J.