Evaluating the Volume of Distressed Properties in the Wake of COVID
Many in commercial real estate expected a tsunami of COVID-related distressed properties in 2020 and 2021. So far, the wave hasn’t materialized, says Jay Olshonsky, president and CEO of NAI Global. Businesses have been sustained by exogenous factors that may or may not keep them from foreclosure or receivership in the long term. In many cases, lender forbearances or flexible plans have simply extended the window in which distressed properties may eventually revert to receivership.
Olshonsky spoke to REBusinessOnline about receivership activity and what the industry expects over the next 12 months.
Delays: Lessons from the Global Financial Crisis, Plus Current Factors
As court-appointed receivers, NAI’s representatives act as the owner and operator of properties in foreclosure on behalf of the court. A receivership needs to have the capability to lease the property, pay taxes and handle accounting — basically, taking over all aspects of managing a property and keeping it functioning, Olshonsky says.
Much of how NAI Global has chosen to approach the current receivership landscape originated in the lessons of the 2007-2008 financial crisis. During the early stages of the pandemic, NAI knew there would be fallout that would force some businesses into foreclosure, servicing, note sales or similar situations.
“Because of our experience coming out of 2008, we also knew that there would be a lag effect. Even though much of the financial crisis was in 2009, it really wasn’t until about 12 to 24 months later that we started seeing property owners and lenders dealing with defaults, forbearance and all the different factors that affect people paying rent or mortgages.”
Olshonsky also knew the first signs of distress would come in two distinct forms: one, note sales, where lenders might bundle a note that wasn’t being paid and let someone else take care of the default process or the foreclosure process; and two, the appointment of court-appointed receivers.
Yet, more than a year into the pandemic, Olshonsky reports, “We have not seen the volume of note sales or receiverships that were expected.” Still, a long lag between crisis and foreclosure/receivership was anticipated. “A lot of this delay is due to factors like eviction moratoriums and forbearance of mortgage and rental payments. Plus more people than expected are still paying their rent.”
A Distress Wave for Certain Sectors
There is also discrepancy between property types: hospitality and retail have obviously been hit hard. Office (depending on location) is also beginning to experience some distress due to vacancy or slowing rental activity: “We anticipate that we will see a wave of distress in approximately 12 to 30 months, due to the lag effect.”
While some properties are stabilizing, those that have fallen behind find it difficult to return to normal. Olshonsky explains, “In general, for good properties with good tenants (and even some hospitality properties), you’re seeing stabilization. In other cases, people have decided they need that space, and they’re going to pay. But, in places where evictions are now back in effect (such as in Florida and parts of Texas), we think it’s going to be hard for people to catch up. We’re also hearing a lot of lenders and servicers getting a little impatient. However, we just had the new stimulus package passed, so there’s going to be a huge amount of money pumped into the system again.”
Despite receiving assistance, some properties will be unable to recover long-term, Olshonsky says. Some may need a new 5- or 10-year plan with fresh capital from new owners. Practically speaking, this may mean that the note has to be sold or it has to be worked at the property level or foreclosed upon.
Hotels may face long-term damage from a changing work environment. At the moment, there is hesitancy to return to conventions, and Olshonsky predicts a greater reliance on remote meetings in the future, reducing the number of business travelers that hotels can expect.
On the other hand, Olshonsky, believes the return to offices is inevitable. The question is “When?” Depending on location, office occupancy (based on card swipes) is in the 13 to 40 percent range. However, Olshonsky cautions, “We’re also hearing that companies aren’t renewing leases because people are working from home. And we’re hearing that if companies do lease, they do so for a much shorter period or much less expensive rent.”
Outlook for 2021
“I’ve been doing this long enough to know that you never say ‘No, it will never come back,’” Olshonsky says. “Things always come back. We’ve never had a pandemic, but this too will pass. The real question is: How long will it take? In New York and San Francisco, 13 to 15 percent of the office buildings are occupied right now. Even if that went up to 50 percent, can those buildings and the community support themselves at a 50 percent occupancy level? The corner grocery, the restaurant that serves salads and sandwiches, the hotel down the street? It’s a big ripple effect.”
Olshonsky counters his own concerns, saying, “There’s never been this amount of money on the sidelines, both private and institutional capital, waiting to come back in for the right opportunities to purchase at a discount or to purchase the next long-term investments. It could be a short storm, meaning that we get a wave of depressed properties that are quickly gobbled up.”
Advice for Lenders
Olshonsky offers advice to lenders that find themselves considering receivership or selling notes: “If a lender does not believe a property/borrower will recover (to pay back the principal or pay off the loan), that’s when a lender needs to mark the market and devalue their loans. Certainly, that’s an accounting hit to their operations. This all drives the decision: should I start the foreclosure? Should I start the note sale? Should I continue to work with the building owner on a recapitalization plan? Lenders need to have a plan and someone who can help them come up with that plan. Also, they need to talk to their appraisers, their accountants and their attorneys, because of tax and legal implications.”
Receivership across different property types can be particularly tricky: “Running and operating a hotel is completely different than running and operating an office building, but at NAI we have all the capabilities.”
Even while highlighting the company’s broad expertise nationwide, Olshonsky emphasizes the importance of local expertise. Varying rules across states require highly specific proficiencies, he says. “At the end of the day, the property is still going to be in Cook County or it’s going to be in Detroit or it’s going to be in LA. Our local receivership services work with all the local banks and local lenders and local attorneys and local appraisers.”
He adds, “If you’re holding paper on an asset — whether it’s a performing asset or nonperforming asset — you need to constantly talk to people like us to understand where your property fits into the marketplace.”
Learn more about NAI’s receivership services and their NAI Ready program.