Although the news changes on a
moment-by-moment basis about the
credit and liquidity crisis, there are some enduring principles that can help you
to make wise choices in this turbulent business climate.
“If you own, lease or invest in commercial
real estate for your business, you need to be
aware that commercial real estate values are
entering a period of high volatility due largely to this national credit and liquidity crisis,”
says Bill Tyler, senior vice president of debt
and equity finance at CB Richard Ellis.
Smart Business spoke with Tyler about
the current real estate investment market
and how to capitalize on these opportunities.
What are some of the causes of the current
real estate landscape?
Banks created credit velocity by periodically selling their loans through securitization.
This enabled them to make more loans with
less equity on their balance sheet. The
process of slicing commercial real estate
loans and selling them in the open market
ceased more than a year ago. This was due to
buyers’ inability to get comfortable with the
risk and associated pricing of these loans, led
primarily by residential defaults. This has
decreased the amount of available capital to
the commercial real estate market by 35 to 40
percent annually.
Without securitization, banks have become
overweighted in loans and underweighted in
equity. To solve the problem, they need to sell
loans (often at a discount), make fewer loans
and raise equity. This is called de-leveraging.
Wall Street firms have suffered from the
same securitization problems as the banks.
But due to higher leverage on their balance
sheets, they have required higher amounts of
equity to stabilize their financials, and several
haven’t been successful there. Life insurance
companies are now the primary providers of
capital for commercial real estate loans.
Why is it essential to re-evaluate current
investment strategies?
In this capital constrained environment,
equity is the key. Today, you need 30 to 40 percent equity to
purchase or finance commercial property as opposed to 10 to 25 percent
just a year ago. As a result of this lower
amount of leverage availability and potentially higher interest rates, property prices are
declining for the first time in several years.
What are some of the opportunities in today’s
market?
If you are a renter, now could be the time to
buy as prices fall. As an owner with leverage,
you need to know that commercial mortgage
capital is severely constrained, and it takes
more time to locate and negotiate leverage.
In many cases, credit enhancement in the
form of a guarantee may be required to
access affordable capital.
For a person with access to enough capital,
this could be a great time to buy reasonably
sound properties at a discount. Some owners
who are over-leveraged or just need cash
flow may be willing to sell at a previously
unacceptable price point. In the commercial
market, I think office buildings and warehouses are some of the strongest properties.
Due to the availability of capital from government agencies, multifamily properties are
also a solid option. But with reduced consumer spending, retail property is one of the
weakest real estate investments.
What other factors should contribute to
investment decisions?
In addition to a reduced supply of debt capital and potentially higher interest rates,
underwriting standards have also increased.
To ensure the best debt execution for purchase or refinance, the factors that matter the
most to lenders are the quantity, quality and
duration of the income stream. Put another
way, the best properties are those with the
highest occupancy, the strongest and most
diverse tenancy and the longest lease terms.
How can companies develop an effective
plan?
Current and correct information is paramount in this volatile environment. Seek out
professionals of all types in the commercial
real estate arena including leasing brokers,
sale brokers, appraisers and mortgage
bankers. These professionals can assist with
realistic market evaluations because they see
many transactions. Not only can they show
you the historical data but they can also tell
you what the market will say to you if you’re
looking to buy or sell.
Also, an effective plan would include finding access to the right level of capital, such as
senior, mezzanine, bridge capital or preferred
equity. Real estate professionals can help
with locating this capital and also may know
of investors interested in joint ventures.
What tactics should be avoided?
Do not be pressured or rushed in this market. This process of de-leveraging of balance
sheets will likely take 12 to 24 months.
Although the headlines will often contain stories of failure and bankruptcy, these are necessary steps and will provide positive opportunities during the process and into the
future.
Now is the time to begin your property and
market analysis. If you look at alternatives
now, you’ll be prepared to quickly and confidently make a decision when the time is
right, and properties adjust to the lower leverage environment.
BILL TYLER is senior vice president of debt and equity finance at CB Richard Ellis, Atlanta. Reach him at (404) 923-1575 or
[email protected].
