• Banks Provide Many Alternative Routes for Settling Debts

    Posted Nov 29th, 2010 By in Articles With | Comments Off on Banks Provide Many Alternative Routes for Settling Debts

    By David McCain and Bill Albers, MPKA, LLC

    (This is the second in a series on what builders need to know about restructuring debt and planning for surviving financial adversity in today’s real estate market.)

    You have made the decision to hire a debt restructure specialist, and the process begins.

    Your initial consultation will include spending several hours discussing your projects, company, debt and finances.

    Be prepared to share large volumes of documents, including: loan documents, appraisals, tax returns and financial statements for all borrowers and guarantors, contingent liability schedules, developer schedules, global cash flow statements, historical financial statements, cash flow statements and balance sheets, historical unit activity, projected unit activity, copies of all bank communications, and, if there is any, a summary of litigation and its status.

    You can also expect the specialist to insist on visiting and inspecting your projects to really understand your business.

    The specialist will next tell you what you can reasonably expect. Possible outcomes are discussed below.

    The debt restructure specialist will then initiate communication with the bank, first building credibility; then educating the bank about the true value of the project and the financial capacity of the guarantor; and next determining what the bank needs, whether it wants cash, performing loans or taking title.

    The remaining negotiations will largely be spent structuring a transaction and price that is acceptable to the bank, and, most importantly, arranging the capital to make the transaction work. The best negotiated transaction is worth nothing without the capital in place to execute it. This will include soliciting offers from potential purchasers of the note to determine the accuracy of the most recent bank appraisal.

    Realistic Expectations

    From the time you hire a debt restructure specialist to the time you reach a settlement can take as little as 60 days or as long as a year, but the process is typically completed within three to six months. The specialist will want to proceed as expeditiously as possible.

    It is helpful during this phase for the borrower or a financial officer on the staff to be standing by to answer questions.

    Your specialist will be negotiating with the bank on the financial capacity of the guarantor to contribute toward any potential deficiency. Payment toward the deficiency can take many forms, such as cash, unsecured notes, liens or pledges on other collateral, transfer of title to other property, cars, other items or combinations of these. Of course, there are many instances where there will be no contribution toward a deficiency.

    Most debt restructure specialists work for a modest, hourly fee for overhead and a contingent fee that is typically based on a percentage of the amount of debt or personal guaranty forgiveness the specialist succeeds in obtaining during the negotiations.

    Restructure Methods and Potential Outcomes

    These are the basic methods of restructuring debt, each with several offshoots and variables:

    • Loan extension. This is the simplest, occurring in the rare instance when the loan is not underwater. For instance, the loan has simply matured, the collateral value still supports the underwriting loan-to-value ratio, the bank has called the loan at maturity and there was no take-out lender or principal pay-down available.

    In this instance, negotiations would typically center around the fact that absent other lenders or capital, the best form of repayment is an extension, preferably without a loan fee and at a prime-based interest rate.

    • A and B note structure. This is a more complicated extension where the bank recognizes that the loan amount exceeds the collateral value and bifurcates it into two separate notes. The A note continues to be secured by the original loan collateral. The face amount of the A note allows the bank to treat it as a performing loan, or “admitted asset.” That value can be determined by statutory loan-to-value ratios, adequate reserves for taxes and insurance and the demonstrated capacity to pay, or an escrow account, for interest and principal payments. In essence, the A note reflects the true loan-to-value of the property today.

    Some portion or all of the remaining original debt would be in the form of an unsecured B note. Also known as a “hope certificate,” the B note is the amount of the original loan that has been statutorily written off. The bank hopes to collect some of this write-off if the property performs and the cycle turns positive in the future.

    For an A and B note to be truly helpful to the borrower, the amount of any potential deficiency needs to be determined up front so the borrower knows how much of the B note, if any, continues to be personally guaranteed. Also, there has to be new capital in place to service the A loan to allow the bank to ultimately categorize it as performing.

    • Discounted loan purchases. These are easy to understand. The bank agrees to sell its loan at a discount to par, or face value. The intricacies here center on who purchases the discounted note. If coordinated through the debt restructure specialist, the purchaser will be aligned with the borrower. If sold by the bank of its own accord, borrower beware.

    In a coordinated effort between the debt restructure specialist and the borrower there can be control over whether the borrower stays involved with the property to develop, earn fees or share in profits, whether the borrower gets a clean walk away from the property and, perhaps most importantly, how much, if any, of the note purchase discount the purchaser will share with or pass on to the borrower.

    An adversarial note purchaser can chase the borrower for the entire debt and the full guaranteed amount, regardless of the discounted purchase. The purchaser might also have the goal of foreclosing and taking title to the property, essentially evicting the borrower. In any case, if the bank sells the note to a party that you don’t have an agreement with, you have lost complete control of your project and that usually ends badly.

    • Deeds in lieu of foreclosure, friendly foreclosures or transfer of title. These are also easy to understand. Here, the borrower agrees to surrender title of the property to the bank unopposed. Again, as in a discounted note purchase, this effort needs to be coordinated so that any surrender of title is absolutely coupled with a full and final determination of what the contribution toward any potential deficiency may be. We strongly advise against surrendering title, having the bank liquidate or sell the property, ascertaining what the deficiency is at that time and then negotiating payment. Keep title to the property until the deficiency is resolved; having title is your best leverage for a fair resolution.
    • Liquidation of loan collateral. This is similar in concept to a deed in lieu of foreclosure. Liquidation can take several forms, but will likely occur through a short sale or auction.

    In a short sale, the loan collateral is advertised for sale at a price that is insufficient to pay off the loan balance in full. Typically, in order to expedite the sale, an initial price is set and periodically reduced, say every 30 days, until there is a contract on the property.

    In an auction, there is certainty of the date on which the property will be sold, but not on the sale price. The auction company will provide the advertising and marketing and then sell the property on a date certain.

    Either way, whether through short sale or auction, the most important aspect of liquidation is having the debt restructure specialist coordinate these efforts so that the bank agrees to accept the sale proceeds on an absolute basis and the amount of contribution toward a deficiency, if any, is known up-front before the sale occurs.

    The next article in this series will examine actual case studies of recently transacted deals.

    David McCain and Bill Albers are the principals of MPKA, LLC. They have successfully restructured more than $1 billion worth of home builder and developer debt over the last 24 months. They can be reached at, 305-439-7051, and, 214-219-1288, or by visiting

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