The Hospitality Borrowers' Approach to the CMBS Work-out Dilemma
By Marc Stephen Shuster Partner, Berger Singerman | May 04, 2014
Co-authored with Brian Rich, Partner, Berger Singerman, LLP
Many hotel owners and developers of multi-family projects are starting to see the value of their assets start to increase. Many of these owners have been hanging on for the past several years, managing the operations, and diligently working to enhance the value of the property and net-operating income. Just as values may be turning the corner, however, many developers who financed their projects through Commercial Mortgage-Backed Security ("CMBS") loans are likely going to be faced with a significant dilemma as their loans mature in the near future.
CMBS loans are a common form of commercial loan often utilized by developers of hospitality projects. The mortgages that were originated to finance these projects are sold to entities that package the loans into a security which is then sold to investors. CMBS loans account for approximately 25% of the total commercial real estate debt market. Numerous reports and studies indicate that there will be a wave of CMBS loan maturities in the next 2 to 5 years. Many of these loans were originated prior to the real-estate bubble bursting and, accordingly, many of these loans will not qualify for refinancing absent a significant capital contribution from the borrowers. The primary hurdle for a refinance is the decline in the value of the collateral securing the loan. Thus, the loan-to-value ratio that existed when the loan was originated is radically different in today's environment, even with values starting to increase.
Thus, the developer that has successfully completed the project, and has worked to weather the economic storm that many believe has now passed, may still be at risk of losing the project. This may seem counterintuitive at time when many borrowers are seeing numerous CMBS loan opportunities for new projects, particularly in the hospitality sector, but there remains a significant distinction between the underwriting requirements for loans that are being originated now versus loans that were originated in 2007. Additionally, the proposition that a significant number of these maturing CMBS loans, in the hotel space, will fail to be refinanced is a notion that is not met with universal agreement. Robert Barron, former Chairman of the Board of the Greater Fort Lauderdale Chamber of Commerce, and a partner at Berger Singerman, says, "On one hand, we're experiencing a hospitality boom. On the other hand, there will always be a measure of unpredictability with any sector that has a tendency to rise and fall along with the economy. With nearly $115 billion in CMBS loans coming due in 2016, a prudent borrower should at least consider the worst case scenario, evaluate its alternatives, and plan accordingly." Regrettably, when a borrower is facing the imminent maturity of its CMBS loan, the options presented to that borrower can be rather daunting.
Obviously, the best option would be to satisfy the loan at maturity. This option, however, in most instances, is not a viable alternative for the borrower. Either the borrower does not have sufficient capital to satisfy the loan, or a sale transaction that will satisfy the loan is not viable due to the decline in the value of the collateral. The next best alternative would be a refinance, especially considering today's favorable interest rate environment. But, once again, with property values and more stringent underwriting requirements, a refinance will typically require a significant cash infusion from a borrower – one that may not have the necessary financial capacity to provide such cash infusion. If either of these two alternatives does not exist, what options remain to assist a borrower facing the maturity of its CMBS loan?
In many instances, the borrower can seek to negotiate a forbearance agreement with the lender which will modify or extend the term of the loan. This option may provide the best alternative for the lender and the borrower. As set forth above, collateral values appear to be on the rise and additional time may allow for a traditional refinance or sale of the property on more favorable terms. The difficulty with respect to this type of work-out with a CMBS lender is that the securitization agreements may not allow for the extension of the term of the loan.