Some special servicers seem to have decided that it’s time to cut their losses and get out. Discounted payoffs (DPOs) from special servicers—where a lender basically sells the loan off at a discount—are on the rise.
In 2008, special servicers agreed to $590 million in discounted payoffs in the multifamily sector, according to New York-based Trepp, a provider of CMBS and commercial real estate information. In 2009, that number rose to $891 million. But in a sign that the market may be thawing, discounted payoffs in the first six months of 2010 have come in at $855 million and are on track to nearly double the 2009 figures.
“The fact that lenders are now beginning to sell re-valued debt back to the original buyer is a great sign for the industry as a whole,” says Matt Wanderer, principal of Miami-based Alterra Capital Group. “The DPO truly is in both parties’ best interests. It signals a major shift in the commercial real estate industry that CMBS investors have begun to willingly work with the existing owners toward discounted payoffs instead of hanging onto troubled assets through foreclosure.”
There are a number of reasons behind this new stance by servicers. And even the increase in DPOs isn’t as significant in the multifamily sector, which indicates there’s still room for growth. But one thing is clear: The payoffs will clear out distressed assets, go a long way to cleansing the troubled CMBS market, and, ultimately, set the bottom in a way that will hopefully expedite recovery in a number of troubled markets. Here’s a look at the three key factors to recognize in the unusual new world of how special servicers are handling DPOs.
1. Understand payoff pricing.
On the surface, it may appear that special servicers—limited by the stringent terms of CMBS documents—wouldn’t be agreeable to a discounted payoff. But Brock Andrus, a senior director at Dallas-based 1st Service Solutions, a borrower advocacy firm specializing in loan restructuring and assumptions, says that isn’t the case. The only real issue is that servicers need to be certain that they’re getting market pricing.
“Special servicers are open to any type of proposal,” he says. “But they generally have preconceived ideas of what will and won’t work. Some borrowers think they’ll get a sweetheart deal. But special servicers are sophisticated. They’re real estate guys; they have a lot of assets; and they have a pretty good idea of where values are on those assets.”
Spencer Levy, head of the restructuring and recovery services team at New York-based CB Richard Ellis (CBRE), says DPOs are more likely to happen in situations where a servicer is contemplating some type of note sale. “Rather than taking it to market, the borrower is willing to pay something at the high end of the range of what the servicer is looking to accomplish,” he says.
Usually, the buyer doesn’t have the cash on hand to make the deal. So they are required to bring in a partner. “They’ll find somebody that can write a big check and partner up as part of a DPO,” says one apartment owner in the Western United States who did not want to be identified for this story. “I’ve heard of rescue equity groups coming in and giving the borrower a back-ended participation in order to get them into the deal. It’s a win-win for both sides right now.”