fl 2d distressed resi real estate symp 17nov08
DESCRIPTION
This was an incredible event -- the Florida Second Distressed Real Estate Symposium. I moderated one panel discussion on which Stephen Rosenberg, member of the North Carolina Banking Commission and I debated the impact of the shadow inventory on absorption, sales prices and rental rates.TRANSCRIPT
By: Scott L. Podvin, Managing DirectorThe Crest at Waterford Lakes, [email protected]: (305) 793-5762Fax: (305) 665-3971
Scott L. Podvin: 2nd Florida Distressed Residential Real Estate Symposium
Severe dislocations across most parts of the credit system – not limited to real estate
• Limited availability of debt capital
• Abnormally wide spreads
• Securitization trusts hold $1.5T of subprime and alt-A loans, $400B of which are delinquent
• Heightened risk of maturity defaults
• Dramatic reduction in transaction volume
• EU, as whole—27 countries in all, 12 of them using local currencies-- faces 1st recession & are lending less
• UK appears most vulnerable with the twin problems of having the most highly indebted consumers and business services sector
• Germany plunges into recession after a steeper-than-expected 0.5% fall in economic activity in 3rd Qtr
• Italy sees 2d qtr of economic contraction, while Spain experiences its 1st qtrly contraction
• Borrowing becomes increasingly difficult and more costly
• Japan’s Aozora Bank, 1st major Japanese bank to forecast a net loss for the full fiscal year, as Japan slides into a recession
• Global financial tsunami batters Hong Kong, as it falls in to recession
Capital Market Conditions Drive Outlook
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate [email protected]
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Scott L. Podvin IMN’s 2d FL Distressed Residential Real Estate Symposium, Dec 8-9, [email protected]
Buy a toaster and get a free Bank
PRE-CREDIT CRISIS TODAY 2008
MAX LOAN TO VALUE/LOAN TO COST 70%-75% 60%
MIN DEBT SERVICE COVERAGE RATIO 1.05x 1.20x
NOI UNDERWRITING Borrowers Pro forma NOI Current in-Place NOI
SPREADS 85-125 bps 250-350 bps
LOAN PROCEEDSSized using
I/O DSCRSized using Amortizing DSCR
AMORTIZATION 10 Years I/O3 Years I/O on 10 Year Loan
LOAN REQUIREMENTS MinimalRequires Structuring
(holdbacks, earn outs, TI escrows)
SYNDICATION RISK (Large Loans)
Underwritten, Lead Bank Lender
Best Efforts, Borrower
Spreads are widening as lenders seek to ration capital for the year
Loan proceeds reduced by as much as 30% by tightened standards
Much greater likelihood of maturity defaults
MAC and recourse are back
Scott L. Podvin: Florida’s 2d Distressed Residential Real Estate Symposium – December 8-9, [email protected]
Lender’s Brace for Global Cooling
Scott L. Podvin [email protected]
Recapitalizing the Banking System
Total losses now as big as the impact of RTC There is a difference between a lender and an
originator Desperately Seeking SWF
• Housing markets plunge – no clarity yet as to whether we’ve hit the “bottom”
• Volcker puts on superman outfit at ULI
• Consumer confidence plunges, as unemployment rises to 6.5% -- highest level since 1994-- in October and may go to 8% by year end
• Future growth: Is it a V, a U, a double-dip or a frying pan?
• Economic risks spike for Germany, Spain, UK, Ireland & certain “emerging” states
• ECB starts to ease, but more is needed
• BOE cuts rates by 1.5% to 3% earlier this month
• Europe to hit bottom? UK to go V-shaped recovery? Spain in for a U-shaped recession?
Recession is here. How deep and how long?
• Growth slows and region may fall into recession
• Is it different this time or is Asia in denial?
• Warnings signs from Hong Kong & Vietnam, slower growth showing in Australia and Japan, although China and India forge ahead
Scott L. Podvin: Florida’s 2d Distressed Real Estate Symposium December 8-9, [email protected]
6
Obamanomics Sparks Hope?
Year-Over-Year Employment Growth
Pockets of strength in Pacific Northwest, Texas and South Central
Weakness in Industrial Midwest, Southwest and Florida
Illegals leaving Arizona in response to collapsing housing markets and anti-illegal legislation
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium, December 8-9, [email protected]
7
METRO EMPLOYMENT MOMENTUM
Source: AEW Research, economy.com
Housing Is The Lynchpin To Recovery
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium December 8-9, [email protected]
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Affordability Is Barely Visible: Long Way to Go
Source: AEW Research, NAR
TARP not going as planned? See next slide
Owners have benefited from elevated values, although declining precipitously in most markets
Recent buyers are in a very bad position in many markets.
Improved land being dumped by builders in most of the “hot” markets of the past few years Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium: December 8-9, 2008
USATL
AUSBAL
BOS
CHRCHI
CIN
CLE
COS
COU
DAL
DEN
DET
FOT
FTW
HONHOU
IND
JAC
KANLAS
LOS
MIAMINNASNEO
NEY
NEAOAK
SNTORL
PHI
PHOPIT
POTRAL
RIV
SAC
SAY
SAZ
SAN
SAFSAJ
SEA
STL
TAM
WAS
WES
0%
10%
20%
30%
40%
50%
60%
70%
-50% -45% -40% -35% -30% -25% -20% -15% -10% -5% 0%
Percent Change from Maximum Affordability (Peak-to-Current)
Per
cent
Cha
nge Fro
m M
inim
um A
ffor
dabi
lity
(Tro
ugh-
to-C
urre
nt)
No Jobs, No Appreciation
Endless Land
More Price Decline Coming
Prices Adjusting, Affordability Improving
Scott L. PodvinIMN’s 2d Florida Distressed Residential Real Estate Symposium, Dec. 8-9, [email protected]
Lender’s Brace for Global Cooling
PRE-CREDIT CRISIS TODAY 2008
MAX LOAN TO VALUE/LOAN TO COST 70%-75% 60%
MIN DEBT SERVICE COVERAGE RATIO 1.05x 1.20x
NOI UNDERWRITING Borrowers Pro forma NOI Current in-Place NOI
SPREADS 85-125 bps 250-350 bps
LOAN PROCEEDSSized using
I/O DSCRSized using Amortizing DSCR
AMORTIZATION 10 Years I/O3 Years I/O on 10 Year Loan
LOAN REQUIREMENTS MinimalRequires Structuring
(holdbacks, earn outs, TI escrows)
SYNDICATION RISK (Large Loans)
Underwritten, Lead Bank Lender
Best Efforts, Borrower
Scott L. Podvin [email protected]
U.S. Sneezes, World Catches Pneumonia? Spreads are
widening as lenders seek to ration capital for the year
Loan proceeds reduced by as much as 30% by tightened standards
Much greater likelihood of maturity defaults
MAC and recourse are back
What Should An Investor Do? • Don’t panic.
• No one moves into and out of stocks and bonds in response to valuation cycles; don’t try to do it in real estate either.
• Opportunistic investing has been very difficult in recent years as the “wall of capital” overwhelmed risk pricing. There will be more ways to earn opportunistic returns going forward.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium, Dec. 8-9, 2008
13
What Should An Investor Do?• Core funds, particularly newer vintage funds, will begin to see more attractive pricing for acquisitions.
• Existing core assets will begin to see the benefit of slowing development as we move into 2009-10.
• REITs in US, Europe and Asia take a beating during 2007-08. So, we are approaching the time for pension funds, endowments, REITS, and other qualified investors to rebalance/add to positions.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium December 8-9, 2008 [email protected]
Source: Cartoonbank.com
2009 is Going to be Painful for Many
Scott L. Podvin: IMN’s 2d Distressed Residential Real Estate Symposium, Dec. 8-9, 2008
Development models
While we focus on large-scale mixed-use LEED certified communities, primarily of the following types:
City-CoreDevelopmen
t Projects
Strategically located developments, located in the centre of a city, being large-scale and multi-phase developments typically consisting of residential, office, retail, entertainment and cultural properties with a blend of historic restoration and modern architecture
Integrated Residential Developmen
t Projects
Large-scale, multi-phase urban residential developments targeted at China’s growing middle and upper-middle classes, and which offer high-quality living conditions in convenient urban locations with easy access to transport facilities
“Our vision is to become the premier innovative property developer in Florida”
Broken Condos &
Conversions or Partially Constructed Communitie
s
There will be tremendous opportunities in busted condos and conversions. Likewise, there will be many projects that where construction is almost complete that we will be able to pick up and complete the construction and reposition the asset to create a vibrant working and living community for working class people
We are now focusing on distressed real estate, opportunistic and value add opportunities
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Symposium, Dec. 8-9, 2008
Why Concern Ourselves with Non-Core Assets? Consider the explosive growth of RE-oriented private equity firms:
Apollo Blackstone Colony Capital Ramius Bain Capital SAC Capital
Source: Kingsley Associates and Institutional Real Estate, Inc.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
Dec. 8-9, 2008
BLUE HORESHOE LOVES VALUE-ADD/OPP PLAYS Consider the dramatic tilt in institutional investors’ (2007)
allocations: $44.5 billion targeted to domestic real estate $36.3 billion to private real estate
$24.7 billion to non-core (i.e., value-added and opportunistic),
$11.6 billion to core (i.e., stabilized apartment, industrial, office & retail)
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
Dec. 8-9, 2008
The Ultimate Hand: Busted Condos and Conversions- Purchase Checklist
Kick the dirtTalk to the maintenance crewUnderstand the reserve capacityReview and Revise Budget
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
December 8-9, 2008
$$$SHOW ME THE MONEY$$$ Maximize Rental Income
Run axiometrics www.rentometer.com How ‘Bout Them Comps
Create detailed Pro Forma based on foregoing variables and reserve for contingencies
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
December 8-9, 2008
:Hidden Landmines
Pre-foreclosure and Foreclosure in various stages of foreclosure process incommunity and surrounding community
Foreclosed UnitsShort Sales
Pitfalls: What To Look Out For?
ARE YOU A DEVELOPER?
The definition of “developer” in the FL Condominium Act is quite broad and appears to include any person or entity who offers condominium parcels for sale or lease in the ordinary course of business.
Rule 61B-15.007 of the FL Admin. Code provides that for purposes of filing, there are three types of developers:
1) a creating developer, 2) a successor or subsequent developer; and 3) a concurrent developer.
Scott L. Podvin: Art of the Deal:
Distressed Real Estate Summit 2008
Did you unwittingly agree
to pick up the tab? Whether a person or entity is a “successor developer” for filing purposes
has created much discussion over the past year or so within the condominium development community.
Under the Regs, a person or entity is a developer for filing purposes if the person or entity is offering condominium parcels for sale or lease in the ordinary course of business (meaning most commonly, offering more than 7 parcels within a period of 1 year), unless the person or entity falls within the exception set forth in Rule 61B-15.007(3) of the Regs (commonly referred to as the bulk purchaser exemption).
Therefore, a lender or any other entity who simply offers and conveys all units which it owns to a single purchaser in a single transaction is not a developer for filing purposes.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium December 8-9. 2008
Walk Softly & Carry a Big Stick The answer may become a bit more convoluted if the lender or
other entity, while offering all units to a single purchaser, implements or continues a leasing program while in the process of attempting to sell the asset.
It would be a reasonable position to take that the lender or other entity is not a successor developer for filing purposes if all that is being offered are short term leases which are not subject to the actual filing requirements of Section 718.502 of the FL Condo Act (entitled “Filing Prior to Sale or Lease”, which filing requirements apply to offers of condominium units for sale or for leases for more than 5 years).
This conclusion is not clearly addressed in the FL Admin Code and as such may be challenged by the Division or members of a condominium association.
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Summit, December 8-9, 2008
HOA issues – Due Diligence Review recorded Condo Docs and understand all CC&Rs
Foreclosure Sale Trigger Turnover Requirements Lender Liability Lender/Bulk Purchaser Required to Register with DBPR, if only
intent is to lease up and operate units Pension Fund/Endowment/Bulk Purchaser Responsible for
Budget Shortfalls Hedge Fund and Private Equity Liability for Warranty Claims Rental restrictions Special assessments
Scott L. Podvin: Art of the Deal:
Distressed Real Estate Summit 2008
HOA issues – Due Diligence Perform detailed review of Association financial records
and minutes from all Board and member meetings Adequacy of reserve funds? Delinquent HOA payments?
Any legal claims or threatened legal causes of action against Association?
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Summit
December 8-9, 2008
Legal Issues Negligent Conversion – Liability for not making proper repairs prior to
resale of Condo units i.e., known / should have known of construction defects, etc.
Fiduciary duty to Association WARRANTY OBLIGATIONS UNDER THE ACT TURNOVER OF THE CONDOMINIUM ASSOCIATION OBLIGATION TO PAY ASSESSMENTS Assignment of contractual rights from original converter
i.e., claims against builder or architect
Indemnities provided to original converters still in place?
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Symposium
December 8-9, 2008
Real Estate Tax Issues - Concessions Available? Given the anticipated discount on purchase of individual units,
how will local Property Appraiser value the unit?
Local assessors under pressure to reduce assessments as little as possible and as slowly as possible. To do otherwise would spell bankruptcy to the communities in question regardless of the legality of their position.
Set Your Expectations Reasonably
For example, in year 1, Buyer purchases busted condos for $75,000, but prior developer sales averaged $300K. What value will tax assessor use in calculating real estate taxes?
It may be possible to obtain a reduction of 20-33% in YEAR 2, although greater reductions often can be achieved by appeals litigation.
On the flip side of course, there are issues of cost, timing, and unpredictability when litigation ensues not to mention attorneys fees.
So, How Should I Price Non-Core Real Estate: identify the components of asset-
level returns, understand the impact of financial
leverage, examine the effects of transaction
costs, and examine the effects of JV structures.
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Symposium
December 8-9, 2008
Pricing Non-Core Real Estate Ventures: Conclusions
Understand how the property’s return is to be generated (e.g., initial cash flow yield, growth in cash flow and/or cap rate compression).
Understand how financial leverage alters the risk/return profile.
compare the non-core property’s unlevered risk/return profile to your alternatives (core and non-core real estate).
Be mindful of the “drag” of transaction costs.
Scott L. Podvin: IMN’S 2d FL Distressed Real Estate Symposium
Dec 8-9, 2008
Post-Closing Issues for Purchaseing Fractured Busted Deals
Organize maintenance providers Schedule necessary repairs Identify preventative maintenance opportunities Change locks on all units not currently occupied by owners /
tenants Arrange Leasing / Property Management duties, whether in-house
or third-party company If in-house Leasing, make sure all protections in place
regarding tenants (i.e., application form, background check, security deposit, lease agreement)
Scott L. Podvin: IMN’s 2d FL Distressed Real Estate Symposium
December 8-9, 2008
How Do I Structure The Deal – The Art and Science
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium, Dec 8-9, [email protected]
Basic Characteristics of Equity Investment
Shares in profit with NO Guaranteed return Finances the riskiest portion of the capital
structure More control over decision making Equity Investor has less protection in event of
bankruptcy Expected Equity Investor Return is Higher Than
Mezzanine Debt
Scott L. Podvin IMN’s 2d FL Distressed Residential Real Estate Symposium [email protected]
What to Look for in an Equity Partner Experience Skills Contacts Practical problem solving Reputation Team Capacity $$ Balance Sheet $$
Scott L. Podvin IMN’s 2d FL Distressed Residential Real Estate [email protected]
Alignment of Interests: Equity Source & Developer Fund Objectives Fund Life Leverage and Financing Guarantees Management Style and Control Tax Considerations Dealing with Unexpected Issues
Scott L. PodvinIMN’s 2d FL Distressed Residential Real Estate [email protected]
Key Issues in Negotiating an Equity Agreement Controls
Define Major Decisions Key persons
Performance Standards Economic Non-Economic
Economics Promote structure Management & Other Fees
Buy-Sell – Many variations of “shot-gun” and “ROFR”
Scott L. Podvin IMN’s 2d FL Distressed Residential Real Estate Sypmosium [email protected]
Joint Ventures: Some Observations &
Thoughts: Like leverage, JVs are neither good
nor bad. Like leverage, JVs reshape the
investor’s return distribution Unlike leverage, the JV concern is how
to: Protect the investor’s downside Motivate the operating partner to act
optimally
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
December 8-9, 2008
JVs impose additional costs: Monitoring and supervision, Additional legal complexities, Issues of control, Risk of a “bad” partner, and Operator’s “promoted” interest.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
December 8-9, 2008
Benefits of JVs include Access to “off-market” deals, Access to asset- and/or market-
specific expertise, and Potential for excess risk-adjusted
returns.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
December 8-9, 2008
Joint Ventures: Motivational Issues
If the operating partner has earned (but not realized) its promoted interest, they tend to make “safe” bets in the future (i.e., they become risk-averse), because of the fragile/volatile nature of the promoted interest:
• For example, execute a lower-rate lease with a strong credit tenant.
If the operating partner has not earned its promoted interest, they tend to make risky bets (i.e., they become risk-seeking), because the downside is completely underwritten by the investor:
• For example, execute a higher-rate lease with a weak credit tenant.
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
Dec. 8-9, 2008
Sharing Profits: IRR Waterfalls Objective
Reduce downside risk to equity investor Increase upside potential to developer
Example First Tier—Developer Fee Second Tier—Return of Equity and 8% Pref Third Tier—50% to Equity, 50% to Developer Until Equity
has received a 15% IRR Thereafter, 40% to Equity, 60% to Developer
Summary—Higher Pref hurdles increase risk for developer/mitigate risk for Equity
Scott L. Podvin IMN’s 2d FL Distressed Residential Real Estate Symposium
Practical implication: How To Strategically Structure Preferences and waterfalls If preference is too low, the incentive is too
generous.• If preference is too high, the operator
either:• Takes on very risky behavior, or• Places its efforts on other projects (with
better likely outcomes).
Scott L. Podvin: IMN’s 2d FL Distressed Residential Real Estate Symposium
Dec. 8-9, 2008
The Market for Private Equity Funds: Certain real estate funds use the
private equity model: “2 & 20” Promote is based on a (modified)
“catch-up” provision – see next slide Such funds look to generate 15-20%
returns to their investors
Scott L. Podvin: Art of the Deal:
Distressed Real Estate Summit 2008
Conclusions When a JV structure is used, make sure that all the
costs (including the expected value of the operating partner’s promoted interest) are identified; use the investor’s expected return net of these costs to identify favorably and unfavorably priced opportunities.
Realize that JV deals create certain motivations in the operating partner (an old economic axiom: agents respond to financial incentives).
Scott L. Podvin: Art of the Deal:
Distressed Real Estate Summit 2008
Take Care of Your FamilyContact Information
Scott L. Podvin, Managing Director of The Crest at Waterford Lakes, LLC
www.TheCrestLife.com [email protected] Cell: (305) 793-5762 Fax: (305) 665-3971