While these are uncertain and volatile times, many commercial real estate businesses should be able to maintain operations and continue to provide valuable contributions to the economy, so long as stakeholders act judiciously in the near term.
Extreme economic volatility has hit our industry before. By executing transactions and restructurings using transparent and consistent methodologies for asset valuation, history has demonstrated that owners, lenders and investors have been able to weather economic storms and maintain—and in some cases expand—their portfolios.
In coordination with capable, experienced advisors, asset owners and capital providers that now find themselves in distress should be able to withstand a disruption of revenues and identify a stable path forward by following this step-by-step playbook:
- Understand the Capital Structure and Participants—Whether you are an owner, lender or investor, you must re-examine the capital structure of each asset before proposing any transaction or restructure. This includes determining the control parties and their motivations, rights and consents. Before any party can act on next steps. the same factors should be outlined and understood for other loan participants and warehouse lenders connected to the asset.
- Reassess and Confirm Your Goals—Focus on the big picture by reviewing your original goals for each asset and consider how those goals may be affected by current volatility. Confirm which goals are no longer achievable or need to be adjusted so you can proceed with a realistic plan.
- Define Your Needs—Break down short-term vs long-term challenges for each asset and for your business plan. Establish your best and worst-case scenarios. Quantify cash needs and the overall impact of possible solutions on projected ROI for each investment asset.
- Contact the Lender or Borrower—Once you have completed a comprehensive assessment of your asset, the stakeholders, their rights and motivations, reviewed your goals and quantified your needs, you will be ready to call the lender or borrower (depending on your particular connection to the distressed asset). To avoid a contentious relationship that could result in default, borrowers and lenders must develop/solidify a healthy, positive dialogue that acknowledges and confirms each counterparty’s financial situation, concerns and short- and long-term goals. This action focuses on optimizing the alignment of all interests.
- Develop a Stabilization and Exit Strategy—While some assets may suffer long term value degradation, it is more likely that most will experience a temporary dislocation that will require an immediate focus on funding carrying costs. Investigate alternative uses and creative solutions to support the distressed asset. Also, explore short-term funding sources, including common and preferred equity.
- Review Financial Obligations—Review all major contracts, including vendor, management, labor and franchise; as well as loan document provisions, such as major covenants, recourse obligations, cash controls and consents required for changes to the capital structure or operations.
- Propose a Resolution Plan—Following this research, propose a solution to stakeholders with detailed scenarios for how these changes may affect the asset’s value and liquidity. Before proposing a solution, you must be able to demonstrate how the outcome is consistent with your revised goals for the asset. Keep in mind that thoughtful plans that are well-researched and supported are most likely to get the attention of and garner a reasonable reaction from relevant stakeholders.
- Implement Your Plan—Once a course of action has been identified for each asset, begin negotiating relief from vendors. Recognize that the best plans will falter without proper tools and realistic expectations. Owners, lenders, and investors should honestly assess whether they have the bandwidth and skillset to properly address the situation. The parties should consider engaging advisors, like Crescit Capital Strategies, who understand, as a principal, what you are experiencing and have extensive experience executing transactions during turbulent economic conditions.
From the late Great Recession to the Russian debt crises to the S&L loan scandal, many commercial real estate industry professionals have struggled but ultimately weathered what felt like insurmountable conditions. With the right team and outlook, the business obstacles owners, lenders and investors face due to the COVID-19 market dislocation can be solved and may, in fact, present opportunities for future growth.
Source: “A Playbook for Managing Distressed Assets in the Wake of COVID-19”