758252.1.01 9/24/2007 6:34:57 PM
AMERICAN COLLEGE OF REAL ESTATE LAWYERS CHICAGO, ILLINOIS
OCTOBER 12, 2001
WALL STREET MEETS THE REAL WORLD
SECURITIZED LOANS IN WORKOUT AND BANKRUPTCY
MARC B. FRIEDMAN, ESQUIRE JAMES R. STILLMAN, ESQUIRE ALAN A. LASCHER, ESQUIRE
WORKOUT OF SECURITIZED LOANS MARC B. FRIEDMAN, ESQUIRE
DECHERT PHILADELPHIA, PA
I. Introduction.
We are currently experiencing our first serious downturn in the economy since securitized lending took root in the mid-1990s. As a result, many issues regarding the utility and enforceability of the remedies and procedures provided under conduit loan documentation are being tested for the first time. There are significant differences between the workout of a securitized loan and the workout of a conventional loan. The purpose of our presentation is to highlight those differences, with emphasis on both the mechanics and the applicable legal issues.
II. Materials.
Included within our materials are the following items:
A. Power Point Slides - The basic format for securitized loans was presented in the earlier session this morning. However, in making our presentation, we thought it would be helpful to show the changes in structure that have evolved since the early 1980’s on a step by step basis, with discussion of the impact of each successive change on the workout process. The slides we have prepared show the different structures common to (1) conventional loans in the 1980’s, (2) conventional loans in the 2000’s to Borrowers which are “bankruptcy remote” single purpose entities, (3) loans to “bankruptcy resistant” Borrowers who are single purpose entities having an independent director whose consent is required to file for bankruptcy, (4) loans in which “hard” lock-boxes are utilized, (5) loans in which a single servicer is utilized, and (6) loans owned by a REMIC and under which a master servicer administers the loan prior to default and a special servicer administers the loan with respect to workout and other specialized matters.
B. An article entitled “Bankruptcy, Insolvency and Enforcement Issues Impacting CMBS Mortgage Loans” by Katherine Burroughs of Dechert. This article covers in greater depth many of the issues we will address in our presentation.
C. An article entitled “Bankruptcy Remote Structuring” by David Forti of Dechert. This is an excellent resource material to utilize in structuring and interpreting the organizational documents of SPE’s.
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Steps Required In Permitting Actions And Relevant Portions of Pooling and Servicing Agreements” by Erik D. Kolingenberg of Thacher Proffitt & Wood which is reproduced in the materials for the morning session in Tab 1. These articles provide background regarding the discretion and restrictions placed on servicers in administering and working out loans.
E. An article entitled “Precautionary Tale” by Richard Jones and William Stefko of Dechert. This case study provides valuable insight into the very complex interrelationships between various securitization related parties who are usually invisible to the Borrower, but who have profound impact on workouts of securitized loans.
III. Conventional Loan Structure (1980’s). A. Structure. 1. Lender. a. No Servicers. 2. Borrower. a. Not SPE. 3. Cash Management.
a. None - Borrower receives all property income directly from tenants.
B. Workout Issues.
1. Lender Benefits.
a. Lender has complete discretion (subject to regulatory restraints) in connection with workout to:
(1) Forbear.
(2) Forgive or modify debt.
(3) Make additional gap financing.
b. Continuity of personnel between origination, administration and workout.
2. Lender Problems
a. Non-related property performance can negatively impact subject property.
b. Borrower controls cash and may accumulate warchest.
IV. Conventional Loan Structure (2000’s). A. Structure.
1. Same as III.
2. Borrower is SPE-Bankruptcy Remote Entity. a. May not own other assets.
b. May not obtain other loans.
c. Single asset entity for bankruptcy purposes. 3. Same as III.
B. Workout Issues.
1. Lender Benefits.
a. SPE theoretically bankruptcy remote but not bankruptcy immune. b. Impact of bankruptcy “single asset rules”/benefit of being sole
creditor.
(1) Section 101 (51B). c. Cash collateral.
d. Bad faith filing defense. 2. Lender Problems
a. Judicial recognition of sale of assets to SPE (Substantive Consolidation).
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(2) Beal Bank, S. S. B., V. Waters Edge Limited Partnership, 284 B.R. 668 (D. Mass. 2000).
V. Bankruptcy Resistant Borrower. A. Structure.
1. Same as III.
2. Borrower has independent director.
a. Vote in favor of bankruptcy is condition to filing. 3. Same as III.
B. Workout Issue.
1. Lender Benefits
a. May be effective in preventing bankruptcy filing. 2. Lender Problems
a. SPE still not bankruptcy immune.
b. Issues regarding fiduciary duty of independent director. c. Credibility of director’s independence by bankruptcy court. d. In Re Kingston Square Associates, et. al. 214 B.R. 713 (Bankr.
S.D.N.Y. 1997).
VI. Hard Cash Management
A. Structure 1. Same as III. 2. Same as V.
3. Cash Management (Hard).
a. Lock Box procedure instituted.
b. Cash goes directly from tenants to cash account in Lender’s control. c. Debt Service/Reserves paid before excess goes to Borrower.
B. Workout Issues.
1. Lender Benefits
a. Importance of controlling cash in workout. 2. Lender Problems
a. Does a “soft” or “default” activated lockbox work in bankruptcy? b. Does lockbox survive bankruptcy filing?
VII. Loan Servicing. A. Structure.
1. Lender delegates Loan Servicing to servicer.
a. Usually just routine servicing and not workout. 2. Same as V.
3. Same as VI.
B. Workout Issues.
1. Lender Benefits.
a. Lesser possibility of record keeping problems. (Best evidence rules).
2. Lender Problems.
a. Greater possibility of record keeping problems. b. Best evidence rules.
VIII. CMBS Structure. A. Structure.
1. Lender.
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(1) Master Servicer - routine servicing.
(2) Special Servicer - workout and other special matters. 2. Borrower - same as V.
3. Cash Management.
a. Servicer controls Cash Management Account (see VI above).
B. Workout Issues.
1. Lender Benefits
a. Professional management b. Dedicated workout personnel. 2. Lender Problems.
a. Assignment of Loan to REMIC. (1) Incomplete loan files.
b. Discontinuity (Master/Special Servicers) - No real lender. (1) Master Servicer has no continuity or special relationship
with Borrower.
(2) Special Servicer has no knowledge of loan history. c. Political/Financial issues (Lender/Master/Special
Servicers/Bondholders).
(1) REMIC may prefer to “put” loan back to original Lender. (2) Tensions between Master and Special Servicers.
(3) Competing interests of different classes of bondholders. (4) Impact of Mezzanine Lending.
d. Authority of Special Servicer to bring suit.
(1) Suit in name of REMIC (In Re Nunez, 2000 W.L. 655983; (E.D.N.Y. 2000)).
e. Limitation on Master Servicer discretion.
(1) Prior to default REMIC restrictions prevent any meaningful accommodations - Borrower must default so Special
Servicer can intervene.
(2) Prepayment may be prohibited by Lockout Period. f. Limitation on Special Servicer discretion post-default.
(1) Cannot make additional loan advances.
