CRE FinanCE W Rld

A publication of CRE Finance Council
CRE FinanCE W
The Voice of Commercial Real Estate Finance
Rld
Winter 2017
Volume 19 No. 1
HIGHLIGHTS:
CREFC Leadership Talks Markets, Mandates,
and Muddled Regulations
Conversation with Lisa Pendergast and Mike Flood,
CRE Finance Council Leadership Team
BANKER ROUNDTABLE
Moderated by Lisa Pendergast, Executive Director, CREFC
and Stephanie Petosa, Managing Director, Fitch Ratings

A publication of CRE Finance Council
Winter 2017
Volume 19 No. 1
CRE FinanCE W
Rld
Contents
3. Letter from the Editor-in-Chief
Paul Fiorilla, Associate Director of Research, Yardi Matrix
4. CREFC Leadership Talks Markets, Mandates,
and Muddled Regulations
Lisa Pendergast, Executive Director, CRE Finance Council
Michael Flood, Deputy Executive Director, CRE Finance Council
BANKER
ROUNDTABLE
page 8
Moderators
Lisa Pendergast, Executive Director, CRE Finance Council
Stephanie Petosa, Managing Director, FitchRatings
The Roundtable
Clay Sublett, Sr. Vice President and Regional Executive, KeyBank
Jay Wardlaw, Managing Director, Regions
Peter D’Arcy, Area Executive, M&T
Andrew Siwulec, Executive Vice President, PNC
14. Our Expectations for the Coming Congress – Could Go Extra Innings
Marty Schuh, Vice President, Legislative and Regulatory Policy, CRE Finance Council
16. CREFC Policy Outlook: Capital and Liquidity Remain Key Focus in 2017
Christina Zausner, Vice President, Industry Policy and Analysis, CRE Finance Council
20. What’s To Be Done about a Rule That Doesn’t Work? The CRE Finance Council Launches
a High-Volatility CRE (HVCRE) Working Group
David McCarthy, Director, Policy and Government Relations, CRE Finance Council
Marci Schmerler, Shareholder, Carlton Fields
Krystyna Blakeslee, Partner, Dechert LLP
22. Challenges and Opportunities of Brexit: Where Do We Go From Here?
Sean Donovan-Smith, Partner, Investment Management and Public Policy, K&L Gates
24. Post Judgment Receiverships: A Creditor Tool to Collect on Judgment
David Wallace, General Counsel, Trigild
26. New National Standard for Reporting Rent Rolls Elevates Loan-Market Transparency
Jim Flaherty, CEO, Backshop/CMBS.com
27. Sharing the Experience-As co-Working Grows, the Office Isn’t Necessarily an Office Anymore
Steve Jellinek, Vice President, Research, Structured Finance, Morningstar Credit Ratings
Edward Dittmer, CFA, Vice President CMBS, Morningstar Credit Ratings
Lea Overby, Managing Director of Research, Structured Finance, Morningstar Credit Ratings
30. Market Disruptors—Commercial real estate: Innovations That Are Changing the Industry
Lauren Foley, Financial Specialist, Federal Reserve Bank of Atlanta
34. Lurking Behind the CMBS Maturity Wall in 2017, Interest Shortfalls
Eric Thompson, Senior Managing Director, Kroll Bond Rating Agency
Larry Kay, Director, Kroll Bond Rating Agency
38. Benchmarking CMBS Maturity Performance and Loss Severities with an Eye Toward 2017
Dennis Q. Sim, Director, S&P Global
James M. Manzi, CFA, Senior Director, S&P Global
Deegant R. Pandya, Senior Director, S&P Global
Darrell Wheeler, Managing Director, S&P Global
Previous issues of CRE Finance World
are available in digital format on our website.
41. The Las Vegas Metamorphosis – From Gaming to Entertainment Destination
Stewart Rubin, Senior Director, New York Life Real Estate Investors
46. Blockchain: The Future of Real Estate Finance?
Lewis Rinaudo Cohen, Partner, Hogan Lovells
Lee Samuelson, Partner, Hogan Lovells
Hali R. Katz, Professional Support Lawyer, Hogan Lovells
CRE Finance World Winter 2017
1

CRE FinanCE W Rld®
The Voice of Commercial Real Estate Finance
CRE Finance Council
Officers
Mark Zytko
Chairman
Mesa West Capital
Gregory Michaud
Immediate Past Chair
Voya Investment Management
Richard Jones
Vice Chairman
Dechart LLP
Jack Cohen
Secretary
Shirlaws Group
Daniel Bober
Treasurer
Wells Fargo
Nik Chillar
Membership Committee Chair
Western Alliance
Robert Brennan
Long Range Planning & Investment
Committee Chair
Guggenheim Partners
Kim Diamond
Program Committee Chair
Brian Olasov
Policy Committee Chair
Carlton Fields
Samir Lakhani
Executive Committee Member
BlackRock
Paul Vanderslice
Executive Committee Member
Citigroup Global Markets
CRE Finance World Winter 2017
2
CRE Finance World
Editorial Board Roster
Jun Han
Editor Emeritus
TIAA-CREF
Paul Fiorilla
Editor-in-Chief
Yardi Matrix
Joseph Philip Forte, Esq
Publisher
Kelley Drye
Dr. Victor Calanog
Co-Managing Editor
Reis, Inc.
Krystyna Blakeslee
Co-Managing Editor
Dechert LLP
David McCarthy
Publication Manager
CRE Finance Council
CRE Finance World is published by
CRE Finance Council
900 7th Street NW, Suite 501
Washington, DC 20001
202.448.0850
28 West 44th Street
New York, NY 10036
www.crefc.org
Patricia Bach
Genworth Financial
Jeffrey Berenbaum
Citi
Stacey M. Berger
PNC Real Estate/Midland Loan Services
David Brickman
Freddie Mac
Sam Chandan, Ph.D.
Chandan Economics
James Manzi
S&P Global Ratings
Jack Mullen
Summer Street Advisors
David Nabwangu
Brian Olasov
Carlton Fields
Caroline Platt
Steven Romasko
Nomural
Stewart Rubin
New York Life Real Estate Investors
Peter Rubinstein
Daniel B. Rubock
Moody’s Investors Service, Inc.
Clay Sublett
KeyBank Real Estate Capital
Eric B. Thompson
Kroll Bond Ratings
Harris Trifon
Western Asset Management
Darrell Wheeler
S&P Global Ratings
Publisher: Joseph Philip Forte, Esq.
Editor-in-Chief: Paul Fiorilla
Co-Managing Editors: Victor Calanog &
Krystyna Blakeslee
Publication Manager: David McCarthy
Design: D. Bruce Zahor
Production: Kristin Searing
CRE Finance Council Staff
Lisa A. Pendergast
Executive Director
Michael Flood
Deputy Executive Director
Ed DeAngelo
Vice President, Technology & Operations
Elizabeth Janicki
Accounts Receivable Associate
David McCarthy
Director, Policy & Government Relations
Meghan Roberts
Executive Assistant & Member Services Manager
Martin Schuh
Vice President,
Legislative and Regulatory Policy
Sara Thomas
Director, Education Initiatives
Christina Zausner
Vice President,
Industry and Policy
Mariquit Ingalla
Director, Conference Programming
Julia Byrne
Administrative Assistant
Nina Fazenbaker
Isabelle Marques
Executive Assistant
CRE Finance Council Europe
Peter Cosmetatos
CEO, Europe
Carol Wilkie
Managing Director, Europe
Volume 19, Number 1, Winter 2017
CRE Finance World ® is published by the
Commercial Real Estate Finance Council (CREFC ® ),
900 7th Street NW, Suite 501, Washington, DC 20001
email: info@crefc.org, website: www.crefc.org.
© 2017 CREFC - Commercial Real Estate Finance Council,
all rights reserved.
This publication is provided by CREFC for general information
purposes only. CREFC does not intend for this publication to be a
solicitation related to any particular company, nor does it intend to
provide investment advice to investors. Nothing herein should be construed
to be an endorsement by CREFC of any specific company or its products.
We advise you to confer with your securities counsel to determine
whether your distribution of this publication will subject your company
to any securities laws.
CRE Finance World assumes no responsibility for the loss or damage
of unsolicited manuscripts or graphics. We welcome articles of interest
to readers of this magazine. Opinions expressed are those of the author(s)
and not necessarily those of CREFC.

Editor’s Page
2017: Buckle Up Your Seatbelts
Paul Fiorilla
Associate Director of Research
Yardi Matrix
T
o me, “uncertainty” is one of the most overused words
in the financial market lexicon. In the 20 years I’ve been
in this market, I’ve heard a virtually unbroken amount of
talk about how the upcoming period features heightened
levels of uncertainty.
When I hear that, I usually think: the market is always uncertain.
If it wasn’t, then mistakes in investments and strategy would be
a heck of a lot less frequent. And we all know that mistakes and
surprises are not uncommon in the world of finance, even in our
little corner.
To be fair, when people typically refer to “uncertainty,” they often
mean “predictability.” What they usually are saying is that the
market is going to change directions, but they just aren’t sure
which way. Of course, it often doesn’t work out that way. For
example, a lot of people have spent a lot of time preparing for
the coming increase in interest rates ... since 2010.
Why blather about this now (as if you need to ask)? Well, the U.S.
and world is about to have a change in governance unlike any we
have seen in recent times. Whether one agreed with the policies of
the presidents elected during recent decades, they have all been
within a certain range of the policy spectrum and all have observed
a certain level of decorum. As we watch the president-elect get
into tweet wars with CEOs of major corporations and the cast of
“Hamilton” and “Saturday Night Live,” (did I just write that?) I think
it is fairly certain that governance over the next four years will be
fundamentally different.
When all is said and done, will that change the performance of the
economy, or the demand for real estate? Probably not, hopefully
not, but when you add wholesale changes in health care policy,
bank regulations, GSE structure, trade, immigration, taxes and
whatever Vladimir Putin wants (that’s a joke, right?) into the mix,
the answer is that 2017 could be a little bit more … uncertain.
I’d like to congratulate CREFC’s new Executive Director, Lisa
Pendergast, who was among the first people I met in this market
nearly two decades ago. Lisa knows the market — and its people
and issues — inside and out, making her uniquely prepared to lead
the organization at a time when the industry faces a number of
daunting challenges.
It’s also great to have Mike Flood back in the fold at CREFC,
even if he does root for the wrong NHL team. Be sure to read the
discussion between Mike and Lisa in which they outline their vision
for the organization, and plans and initiatives that will make the
organization an indispensable part of the commercial real estate
finance industry’s future.
That’s not all, the issue is packed with a great deal of superb content.
CREFC’s Marty Schuh, who called the election better than anybody
I know, has a roundup of the impact, CREFC’s Christina Zausner
has an overview of policy issues the organization is working on, and
Lisa and Stephanie Petosa of Fitch lead a roundtable discussion
of bankers.
Plus, there are a host of articles on issues of import to the industry
such as Brexit, the Wall of Maturities, how co-working affects the
office industry, post-judgment receiverships rent roll standards and
more. Enjoy the investors’ conference and have a great start
to the year.
Regards,
Paul Fiorilla
A publication of CRE Finance World Winter 2017
3

CRE Finance World
CREFC Leadership Talks Markets, Mandates,
and Muddled Regulations
Lisa Pendergast
Executive Director
CRE Finance Council
Mike Flood
Deputy Executive Director
CRE Finance Council
MF: Lisa, welcome to CREFC. You’ve been a member, CREFC
President, and in the industry since the beginning. What’s it
like to run CREFC, and why make the change?
LP: It was the Commercial Mortgage Securities Association when
I first got involved in the organization back in the late-1990s. Prior
to focusing on CRE and multifamily securitizations, I spent time in
the residential MBS marketplace. Back then, private-label RMBS
deals were few and the market was comprised largely of Ginnie Mae,
Freddie Mac, and Fannie Mae RMBS. Frankly, it was a bore — all
you needed to know was where rates, market volatility, and the
single-family housing market were going — and you had all the
answers. I jumped at the opportunity to focus my career on
commercial and multifamily real-estate related securitizations as
the various asset classes and economic drivers that affect them
were far more interesting. I started early on with the Resolution
Trust Corporation transactions that came out of the failed S&Ls,
and then moved onto the early days of the CMBS marketplace. It
was CMSA back then that helped me to better understand the ‘ins
and-outs’ of the burgeoning CMBS marketplace. I’ve enjoyed every
minute I’ve spent in this sector ever since– okay maybe not in
2009 when 10-year AAA CMBS spreads gapped to 1,500+
over and the DJIA fell around 6,300 points.
The opportunity to serve our community today not just as a business
unit head and analyst but also as an advocate called out to me.
CREFC is a special organization, and this is a case where the
moment for the organization and for me personally converged to
create an opportunity I couldn’t pass up the chance to help not
just the organization but the industry evolve to the next level.
The commercial real estate finance sector is as vibrant as it has
ever been, but it is not without its challenges. I’m excited to help
lead the organization — and be led by the industry leaders who are
our members — to ensure that this important sector of the U.S.
economy continues to thrive in the years and decades ahead.
LP: Mike, you are also back at CREFC. What’s it like to return
to the association as a senior member with a keen focus
on advocacy?
MF: First off, I’m so excited to be back. CREFC is home to me. The
CRE finance industry, and therefore CREFC, has always felt like
a family to me. We may fight amongst ourselves from time to time
about what is best, but at the end of the day everyone knows that
we are all trying to do the right thing, and we come together as an
industry to help move CRE finance forward. That said, of course it
is a huge change and learning experience for me personally. Much
like many of our members who have made the jump to a larger role,
I’m learning the right way to delegate! Thankfully we have a great
team in Lisa, Ed, Marty and Christina, who can both bear with and
CRE Finance World Winter 2017
4

teach me while I learn and grow. But there is one main similarity
between my former role and my new job. Both are all about
communication, making sure the message accurately reflects the
direction the membership wants CREFC to take, and is understood
by all. I believe that same process can be used to keep the entirety
of our membership informed of our efforts on their behalf, and
more importantly, make sure we as a staff are well representing
the membership and the market.
MF: CREFC began as a way to educate investors and policymakers
about the value of CMBS. Today, the association has
grown to represent all forms of CRE finance. What are your
plans for serving this expanded member base?
LP: The addition of new constituents to CREFC makes tremendous
sense in that it unifies the CRE and multifamily lending universe
and provides all CREFC members a holistic view of CRE finance.
Working within CREFC’s Forum dynamic, we can provide all of
our members with insights into what’s driving borrower decisions
when seeking debt finance via portfolio, CMBS, GSE, or high-yield
alternative lenders. As a former research analyst, I’m hoping to
introduce a CRE Finance Sentiment Index that considers all CREFC
constituents and provides not only our members but also policy and
other decision makers with insights on the state of the CRE finance
markets not available from sources with a more singular focus.
Having all CRE finance providers under one roof and prudently
regulated allows borrowers the opportunity to choose best execution
and ultimately supports a more liquid market regardless of the
point in the real estate cycle and the prevailing economic winds.
Incoming CREFC Chairman Mark Zytko from Mesa West Capital
chairs our High Yield Investments Sub-Forum and hails from the
West Coast. I am looking forward to working with Mark for his
unique insights into the high-yield markets, as well as with eye
toward increasing CREFC’s breadth of educational offerings and
after-work seminars in California and beyond. The key to CREFC’s
success is that it has always been member driven by design to
represent all forms of finance through our Forum process, and
raise and resolve issues through cross-forum process.
MF: You mentioned that communication is key with the
membership for many reasons – from keeping members
aware, informed, involved, to communicating what CREFC
is doing with members’ hard earned dollars. What are your
plans to communicate with your members?
LP: It’s always about communicating, but it’s also about connecting.
The plan is to utilize the CREFC Forum structure to not only
communicate and report key events and developments in CRE
finance, but also to connect all CREFC constituents in a way that
allows the entirety to weigh in, be heard, and have an opportunity
to consider issues 360 degrees around. Under one scenario that
dynamic leads to a unified conclusion on the issue at hand, under
another it highlights and enunciates different views, providing
CREFC with an opportunity to respond accordingly.
The actual exercise of communicating with our members will
take various forms. The first is a monthly newsletter that outlines
new CREFC initiatives, provides viewpoints from our Government
Relations staff, and highlights key upcoming events; expect to see
articles from CREFC’s chairman and Forum chairs as well. Most
importantly it will be a resource for our members, whether they
seek increased involvement with CREFC or simply want to keep be
up to date. We’ve also recently initiated a CREFC advocacy blog
and plan to reinstate our Weekly GR Briefing; this was a good idea
in late October but became an even better one post November’s
surprising election results.
What surprised me most upon joining CREFC as executive director
was the incredible uptick in CREFC member programming. CREFC
After-Work Seminars not only increased in number and expanded
across the U.S., but also continued to deliver high-caliber content
that serves to make us smarter about the industry.
I suspect many would be surprised to learn that CREFC’s Young
Professionals Network is now almost 1,800 strong and growing.
It is these young professionals who have helped CREFC to grow
its educational offerings with CMBS 101s happening all over the
country and CMBS 201s expected to follow later in 2017. CREFC’s
YPs represent the future, not only for CREFC, but more importantly
for the industry.
MF: What are the headwinds and the tailwinds facing the
industry and CREFC in the year ahead?
LP: On a macro perspective, the current real estate cycle is getting
a bit long in the tooth. The good news is that the economy is
picking up steam, with GDP growth in 3Q16 rising to 3.2%; its
strongest read in two years. However, such growth suggests the
Federal Reserve will begin raising rates as early as December.
Higher benchmark rates will certainly cause mortgage rates to
rise, and also suggests increases in cap rates. The hope is that
an improving economy will increase demand for commercial real
estate assets, pushing up rents and net operating incomes.
The implementation of Dodd-Frank risk-retention rules on December
24 already has begun to change the market significantly, and risk
retention comes despite considerable uncertainty as to what it
means to be risk-retention compliant. Add to that pending new
rules relating to capital and liquidity, not only for CMBS lenders,
but also bank portfolio lenders, and the outlook gets cloudier.
The significant shift in the CMBS business model and a more
complicated and constraining bank capital regime has opened the
CRE finance markets to new participants, with private equity and
debt capital now squarely focused on the sector. In the end, 2017
may be year in which the confluence of new rules — from both
U.S. and international policymakers — create further uncertainty
as to not only how to operate within a single regime, but also how
A publication of CRE Finance World Winter 2017
5

to each of these new rules fit together for individual businesses.
Those market participants least affected by the new rules are likely
to benefit the most in 2017.
CREFC’s goal this year is to continue to serve our long-standing
members, while embracing our new ones with increased programming
that helps everyone to navigate in an environment that many didn’t
expect. Mr. Trump’s win in the presidential election and then the
carry through for the Republican Party in both the House and the
Senate suggests that CREFC and all of our constituents will be
busy this year.
MF: How is the January Conference shaping up?
LP: The January CREFC Conference in Miami is always a fantastic
way for the industry to kick off a new year. Over three days, panelists,
guest speakers, and CREFC’s Forum leadership lay out the year’s
anticipated developments, opportunities, and concerns as it relates
to both macro-economic forces in the market and CRE finance. This
January’s CREFC conference comes with its own special attraction
in that we will soon have a commercial real estate professional
in the White House with President-Elect Donald Trump. And,
Republican majorities in both the House and Senate mean that
the U.S. now has an undivided government for the first time in
eight years, and thus opens up the possibility of reduced gridlock
and more action on the part of our legislators.
CREFC’s lobbyist Martin Schuh is on tap to open the Conference
on Monday afternoon with his views on what’s to come over the
next 12 to 18 months in Washington, D.C. and will be followed by
Market Strategist David Zervos, former economist at the Federal
Reserve and frequent CNBC commentator, on future Fed rate
hikes and the direction of the economy and interest rates.
CREFC’s growth over the last several years reflects its growing
member base, and the addition of bank and life company portfolio
lenders, alternative lenders, and high-yield debt investors. Our
panels at this year’s conference reflect this expanding investor
base, covering the borrower perspective, alternative lending,
current stress points in loan servicing, new risk-retention rules,
and a panel that I’m moderating that explores today’s topics with
all seven of our forums.
MF: Coming out of the conference, what do you believe
CREFC’s top priorities will be for 2017?
LP: I am very excited about the possibilities for CREFC in 2017
and beyond. At its core CREFC is about sharing knowledge, be it
with others in our business or with legislators and regulators so
they understand how our marketplace works including the impact,
for better or for worse, of laws and regulations.
Changes afoot in our nation’s capital suggest advocacy issues will
play a significant role at CREFC this year. We are committed to
advocating on issues of broad concern to the market around which
our membership finds consensus. Where consensus is more elusive,
CREFC is more likely to play the role of educator by identifying
critical issues facing the industry and ensuring the impacts of
those issues are understood by regulators and legislators. Today,
we know we have general consensus on issues such as capital
and liquidity and high-volatility CRE loans, as examples. CREFC
is leading on those issues.
Also in 2017, CREFC will continue to be a constant source of
information and educational programming for those in and outside
of the association. In 2016, CREFC held over 60 different events —
led by our large January and June conferences, and the March High
Yield & Distressed Realty Assets Summit in New York and May
Commercial Real Estate Finance Summit in Santa Monica. The
balance of our offerings were spread across the country and
consisted of after-work seminars, and Young Professional and
Women’s Network events. We are most proud of our continued
educational efforts, including the popular CMBS 101 Series, which
was offered throughout the country this year, including to a real
estate finance course at New York University. Each section of
CMBS 101 was recorded and is now available via the CREFC
website. In addition, we recently updated the CREFC CMBS
E-Primer. Go forward, we plan to unveil a CMBS 201, covering
such topics as underwriting across various lender platforms,
appraisals and valuing commercial real estate, analyzing CMBS
bonds, and current regulatory and legislative issues.
Servicing has become an important industry issue for both CMBS
borrowers and investors. Toward that end, CREFC launched a
servicer and issuer task force charged with simplifying and refining
the servicing process. This initiative will play out in 2017.
I also think it’s time to work more closely with our borrowers, be they
the clients of CMBS, portfolio, or alternative lenders. Understanding
their point of view is important to evolving our market’s products
and services in the right direction.
MF: How do next year’s goals fit into the 5-10 year/overall
strategy for CREFC?
LP: The more things change, the more things stay the same.
CREFC’s goal is to be an important resource for CRE finance
professionals and for those outside of the industry who oversee
our businesses. The most unique and endearing aspect of CREFC
is that is has always been member driven, which ensures we are
focusing on the right issues at the right time. Toward that goal, we’ll
focus more this year on ensuring that we are meeting the expectations
of all our members. And we want to hear from all of them. We
consider ourselves stewards of their investments, and plan to
provide them with a return for their faith in the association.
CRE Finance World Winter 2017
6

JOin uS in WAShingTOn, DC FOR OuR AnnuA l COnFEREnCE
CRE Finance Council
Annual
Conference
June 5–7, 2017
Marriott Marquis Washington, DC
Sponsorship Opportunities Are Available.
Contact Sara Thomas 202.448.0857 or Julia Byrne 202.448.0858 sponsorship@crefc.org

BANKER ROUNDTABLE
MODERATORS
Lisa Pendergast
Executive Director
CRE Finance Council
Stephanie Petosa
Managing Director
Fitch Ratings
THE ROUNDTABLE
Clay Sublett
Sr. Vice President and Regional Executive
KeyBank
As Senior Vice President and Regional Executive, Clay is
responsible for balance sheet loans originated with clients in
the central region of the country. He manages offices in Dallas,
Denver and Salt Lake City with a direct staff of six commercial
real estate lenders plus support staff.
Peter D’Arcy
Area Executive
M&T
Peter D’Arcy currently serves as Area Executive responsible for
supervising the bank’s activities in New York City, Long Island,
Philadelphia and the State of Delaware. In addition, Peter is the
head of the Commercial Real Estate Segment for the Bank.
Jay Wardlaw
Managing Director
Regions
Jay Wardlaw is a Managing Director in the CMBS group
at Regions Bank and is responsible for overseeing the
CMBS platform.
Andrew Siwulec
Executive Vice President
PNC
Andrew Siwulec is Executive Vice President and Manager Real
Estate Banking for PNC Bank. Real Estate Banking, with over
$50 billion in commitments, provides credit and other financial
services to public, private and institutional real estate developers,
owners and investors nationwide.

Banker Roundtable
Stephanie Petosa: Our first question
is very macro in nature. From a bank
perspective, what are the factors that go
into the decision to participate in CRE
debt and how does the process work at
your banks?
Clay Sublett: Key has been active in the
real estate space for a long time; which
is both good, in some instances, and bad
in others. It’s always been a core area of
lending for the bank and will continue to
be so. We try very hard to stay in the
markets for the good times and bad.
Jay Wardlaw: Regions has been in the
commercial real estate space for a long
time too. We primarily compete in the real
estate space through our long-standing
banking relationships. The view is that CRE
is a core industry and one in which we plan
to be a more viable player going forward.
Andy Siwulec: Over the years, PNC
bought a number of institutions and took
on more real estate exposure. We have
since refined our lending profiles to a
larger client target. CRE debt is a very
large segment of our wholesale loan book
and will continue to be so. It’s actually
become a more important segment in the
last five years.
Peter D’Arcy: Commercial real estate is
one of M&T’s core businesses as well, and
as a percentage of commercial banking
outstanding, our CRE exposure is higher
than most banks with greater than $100
billion in assets. We’ve been very consistent
and it is a business that we’ve excelled at.
We are comfortable being involved in a
slightly more concentrated way than most
of our peers as a percentage of capital or
percentage of total outstandings given our
low volatility and conservative approach.
Lisa Pendergast: Andy, you said that CRE
lending has become more important
over the past five years, which I’ll take to
mean post-crisis. What are the drivers of
business today and how do they compare
to pre-crisis activity and volumes?
Andy Siwulec: Yes, coming out of
the downturn, we had very good capital
levels and had purchased National City.
We essentially took advantage of the
opportunity, somewhat countercyclical,
as Peter pointed out for M&T. During this
period we grew our book strongly, to the
point that CRE is now a very large portion
of our wholesale banking book…maybe
not as large in real estate as M&T proportionately,
but much larger than it had been.
Clay Sublett: So, Andy, is your real estate
book bigger now than what it was in 2007,
2008?
Andy Siwulec:
Yes, we have
grown substantially
even after
the acquisition
of Nat City.
Clay Sublett:
Really? At Key,
we’re probably
comparable to
what we were
pre-crisis, but
it’s been a slow
rebuild. We exited the homebuilder area
completely; we were very active building
up in 2005, 2006, and 2007 and we’ve
certainly tried to remember the lessons
learned in the 2007/2008 crash. I think
it’s important to have dry powder available
for when you can take advantage of a
tighter market.
Stephanie Petosa: As a follow-up to the
volume question, can each one of you
address any constraints there are to your
exposure to the sector?
Jay Wardlaw: At Regions, there is a welldefined
capital-allocation process and
concentration policy. From a commercial
real estate exposure perspective, we work
to stay within those allocations and limits.
We’ve seen a decrease in our real estate
production from 2014 to 2015 and again
here in 2016. And that is by design.
Clay Sublett: Both the external constraint
and internal constraint represent a
conscious effort to limit the construction
book having learned the lessons of the
last cycle. Most of the banks have shifted
toward stabilized properties but not
necessarily Key. There certainly is talk
about banks competing effectively with
life companies and CMBS on stabilized
properties as opposed to construction,
which is our value-add.
Peter D’Arcy: At M&T, we didn’t contract
at all after the last downturn. In fact we
“We’ve taken a countercyclical
approach; our growth rates tend
to exceed that of the industry’s
after downturns and level
off when there’s more robust
liquidity in the sector.” Peter D’Arcy, M&T
grew throughout it; reflecting the countercyclical
growth narrative noted earlier. Our
real estate exposure, as a percentage of
capital, however, is down quite a bit. This
is primarily because capital requirements
have increased so much in the system …
not just at M&T. New capital requirements
make it a lot harder to return capital to
shareholders. This leaves most banks
exceeding the higher minimums that have
been outlined and seeking approval to
return excess capital to shareholders
which takes time.
So capital — which typically represents the
biggest constraint on portfolio growth —
has not been an issue for us nor our peers.
It is the return environment on those higher
levels of capital that is posing more of a
governor, as the traditional banks more
frequently compete with the shadow banking
system, which does not operate within the
same regulatory framework.

Banker Roundtable
Andy Siwulec: Yes, we have internal limits
for both exposure to and capital for real
estate, and those limits are refined down
to property types and geographies. We
manage all of this based on our own estimate
of economic capital.
“It’s not entirely capital
allocation as much as it
is risk rating.” Clay Sublett, KeyBank
Lisa Pendergast: What are the variables
that determine whether you focus more
on locking in longer-duration loans
on stabilized CRE assets in the 3% to
4% rate zip code or turn your focus to
HVCRE loans?
Jay Wardlaw: Regions doesn’t have a
ten-year on-balance-sheet product; that’s
where our CMBS product comes into play.
Clay Sublett: This is a frequently asked
question in the industry. I recently attended
the ‘Dutch Treat’ life company lending
meeting as a panelist. One of the questions
asked was how some of the banks are
lending at these longer durations? In the
case of Key, we’re not. It’s a mismatch
of assets and liabilities. Yet, while I can’t
speak to what’s going on in all 7,000 banks,
it does seem that some of the smaller
banks are making longer-duration loans,
fixing the rate. Do they know what they
are doing as it relates to hedging? I don’t
know. What we do know is that some are
choosing to compete with the life companies
on longer-duration strategies.
Peter D’Arcy: It is something that doesn’t
work well, particularly at the rates you
suggested. Such loans comprise a very
small component of our originations,
generally around 5% to 7%. And usually,
these longer-term loans are done at variable
rates loans and priced with a liquidity
premium that reflects the longer duration.
Stephanie Petosa: How do you compete
for loans? Is it leverage? Service? Term?
Relationship? All of the above?
Andy Siwulec: We focus on relationships
and service. We have a fairly consistent
credit box that we don’t
deviate from. And we
continue to try to service our
customers so that we get
whatever added advantage
that gives us in terms of
winning their business
and keeping them as a
relationship client.
Peter D’Arcy: Historically, we’ve experienced
very low losses in our commercial real
estate business and that’s allowed us to
be active and open. For example, in 2008,
we were not exiting business at all. We
were open for business. It could have been
a construction loan or something that had
very little liquidity, but we were willing to do
it in that marketplace. Those are the things
that fuel our relationship model, long-term
relationships where clients know they are
going to get an execution.
Jay Wardlaw: Regions has a fairly tight
credit quality box with respect to its
balance-sheet loans. There is some flexibility
to that, but that flexibility is driven by our
relationship and history with a given client.
That’s how we try to differentiate ourselves
from others.
Lisa Pendergast: Where are you finding
the competition the toughest? Is it pricing,
property type, location, or dollar amount?
Clay Sublett: We find that the level of
competition oftentimes differs by region
or even market.
Competing for a loan in Dallas is different
from competing against lenders in Atlanta
or Southern California. The competitive
points can be all that you mentioned, recourse,
proceeds and structure. Borrowers
by nature want it all but generally have one
or two hot buttons. We do a good measure
of business in Texas, where we ask for
partial recourse. Yet, there are an awful lot
of Texas banks that would make a loan on
a totally non-recourse basis.
Jay Wardlaw: Clay, I think you hit the nail
on the head. It really is market and asset
specific. We are seeing different competitors
within individual markets that are willing to
do things that are outside a larger bank’s
credit comfort.
Peter D’Arcy: I would say pricing tends to
be the most difficult competitive factor
because structures have held up well.
So there is bit more discipline this cycle
for sure.
Stephanie Petosa: Let’s turn to what
you see from CMBS lenders. Are they
tough to compete with? Has the decline
in CMBS loan originations this year due
to a variety of factors — market volatility,
risk retention, higher capital charges —
opened up certain markets and borrowers
to the banks?
Jay Wardlaw: I’m running the CMBS
Group here. The answer is ‘Yes.’ That’s
not necessarily because we are directly
competing with balance-sheet lenders, but
because prior CMBS 1.0 borrowers are
not looking to re-up with a CMBS loan. We
have found opportunities with clients who
are looking for more flexibility rather than
locking down a longer-term loan.
Not the entire decline in CMBS originations
is attributable to these factors, but I think
that they certainly have played a role.
Another factor is the growing role of
non-bank finance companies, who have
stepped up to offer longer-term loans with
more favorable conditions that do compete
with the CMBS product.
Clay Sublett: Key has an interesting vantage
point as well, as we’ve been involved in
CMBS originations, life company business,
and a substantial amount of Fannie Mae
and Freddie Mac multifamily lending. We
see CMBS currently as one of the least
attractive executions for a combination
of reasons.

Banker Roundtable
Lisa Pendergast: Is the preference for bank
versus CMBS loans because borrowers
are less focused on the added leverage
they might get from a CMBS loan? Or is it
that CMBS lenders are not providing the
leverage they once were?
Jay Wardlaw: I think it’s both. I think you’re
seeing, with respect to (Reg AB) and
ahead of risk retention that the leverage
CMBS lenders are willing to offer has
declined. It’s not your stereotypical 75%
leverage deal; it’s closer to 70%, which is
now in the same ballpark as the leverage
points offered by balance-sheet lenders,
albeit, maybe not for ten years. The clients
we are finding are willing to sacrifice the
additional three- to five-year terms for the
flexibility afforded by balance-sheet lenders.
Peter D’Arcy: I would add that in markets
like New York City and maybe Washington,
there are some very large single-asset
loans for which we see CMBS filling an
important void. When the deal size gets
over $250 million, the long-term CMBS
product often provides a compelling
execution compared to a syndicate of
banks providing the debt. That’s where
CMBS is most impactful as a competitor.
Clay Sublett: I think that a lot of the smaller
banks doing the on balance-sheet stuff
are sucking up some of the volume that
would normally go to CMBS lenders. We’re
seeing some opportunities in maturing
CMBS loans, but in most instances, those
are assets that have some lack of stability
in them and the borrower is looking to
park them for a period with floating-rate
bank loans until they have re-stabilized the
property. After that, those borrowers will
at least look at the market in terms of a
CMBS or life-company execution.
Andy Siwulec: I certainly agree that the
larger deals will probably get the better
execution. We’ve not benefitted much from
the pullback of CMBS lenders as most of
our clients were never CMBS borrowers
to begin with and after 2007 they decided
they didn’t want to be. Most of the smaller
loans are being addressed by smaller
banks, but the larger deals tend to get
recapitalized with structured debt in order
to repay the CMBS loan.
Stephanie Petosa: Outside of first
mortgages, please comment on where
else in the capital stack you participate?
Do you do mezzanine or bridge loans?
Andy Siwulec: We do first mortgages
primarily; a mezzanine or second mortgage
would be very rare. We do a fair amount of
construction lending; I would say it’s about
20% of our total real estate exposure.
As for returns, construction loans still do
fairly well given where rates are. However,
concerns over HVCRE loans and capital
charges may impact that go forward.
Jay Wardlaw: Regions only does first
mortgages, no mezzanine loans or second
liens. We also do bridge and construction
lending and have had a fairly healthy
construction book. Like everyone else, that
is shifting away. We’re slowly decreasing
our construction book, primarily due to
HVCRE and
other regulatory
capital issues
that are going
against us.
Peter D’Arcy:
We are primarily
senior lenders,
so whether it’s
a first or second
or third, we need
to be senior in
the capital stack.
We need to be
comfortable with
the ultimate
basis. We do
the occasional mezzanine loan, but it’s
not the traditional mezzanine debt one
envisions. Maybe it’s a lockout on the senior
loan and/or the debt has a very low LTV
and other enhancements. We’re active in
the bridge and construction lending spaces
and we have a realty capital corporation
where we place off-balance-sheet debt and
originate for the Agencies and other partners.
Clay Sublett: Whatever exposure we had
to junior debt ended poorly last cycle.
So today, we’re a first-mortgage lender.
We manage the construction book very
carefully, with exposure there holding
around the 20% to 25% range of our total
real estate book. We’ve been a significant
player in the bridge or what we oftentimes
call an acquisition rehab because there’s
less risk from the standpoint of construction
and delivery, especially for multifamily
projects that are delivering new units. This
is one area we’ve been very, very active in
through this most recent cycle.
Lisa Pendergast: Is it safe to say you
are all fishing in the same pond? Can
you describe your typical borrower,
what they’re looking for in terms of size
and term, and whether most of these
borrowers are working with you due to
a long-term relationship?
Andy Siwulec: PNC is national and when
we go out of market, we are always looking
for larger, well-capitalized relationships.
“One-time CMBS borrowers are
now looking to balance-sheet
lenders even if it means a
shorter term just because of
the flexibility they are afforded
by the banks, particularly as it
relates to servicing issues.”
Jay Wardlaw, Regions
Our borrowers tend to be institutional,
public corporations or high net-worth
individuals or builders who can bring in a
large amount of equity capital into deals.
Our average loan size is probably about
$30 million.
Peter D’Arcy: We skew more toward
the private, well-capitalized owners than

Banker Roundtable
does PNC and Key who seem to focus
on a higher mix of institutional and REIT
business. At M&T, while we do have a fair
amount of institutional or public entities
that we deal with, our bread-and-butter
tends to be large family owned and operated
long-term generational real estate owners
in the markets that we serve.
Jay Wardlaw: Regions focuses on the
same borrower types as Key and PNC; we
have a fairly active REIT book and presence.
That said, Regions also focused on the
owner-operator for whom we provide a full
suite of products. Our average loan sizes
trends toward the $25 million area.
Clay Sublett: In the case of Key, we have a
middle-market lending area where we deal
with more regional players, family money,
“Even a syndicated bank deal
might not be as attractive to
borrowers as getting a low
leverage CMBS loan.” Andrew Siwulec, PNC
high net worth individuals and small funds.
We have a different group within the bank
that we call our institutional group and
they’re dealing with REITs and larger funds.
And then health care related borrowers
are managed by our Healthcare group.
We’re dealing with clients with assets of
generally $100 million to $500 million;
our average loan size is about $15 million
within the middle market space.
Stephanie Petosa: How have borrower
asks changed over the past two years?
Peter D’Arcy: A lot of active owners in the
market have sensed changes in the capital
markets, mainly around reduced liquidity and
a pullback for certain things like construction
lending or general tightening in credit
availability. They’re a bit more focused on
making sure that they’ve aligned themselves
with the relationship that will rise above or
help them maintain access to financing,
especially as the cycle matures further.
Lisa Pendergast: To what extent have you
tightened your credit standards over the
past six months or so?
Peter D’Arcy: As demand for construction
loans continued to expand and disruption
in the capital markets become more
apparent, we carefully scrutinized our
approach to make sure our credit standards
such as equity, LTV, and returns were
sufficiently protective and could sustain a
substantial correction. That volatility hasn’t
taken us out of the market, but it has
shifted our bias toward tightening versus
a year ago and making sure that we are
supporting the
right deals in the
right way.
Clay Sublett: I
don’t think we’ve
tightened our
standards. I think
we’re focused on
maintaining the
discipline. The goal
on a national basis
is to examine the lending opportunities in
front of us and not just deploy capital and
write a loan because it meets minimum
standards.
Stephanie Petosa: Let’s continue talking
multifamily. The GSEs are going full
throttle and have been for a while. How
do you compete when looking to add
multifamily exposure and do you have
components of your businesses that
originate loans for the GSEs?
Clay Sublett: We occasionally lose deals
to Fannie and Freddie, even on nonstabilized
assets. These loans were
traditionally a bank product. A few years
ago, Fannie and Freddie rolled out their
non-stabilized asset programs. We also
originate for both Fannie and Freddie.
Jay Wardlaw: Surprisingly, we’ve lost a
couple multifamily CMBS loans to the GSEs,
but Fannie Mae has a 12-year product that
is much better than what we could offer
on the CMBS side. And, the HUD Project
Loan sector, which we do as well, also has
a construction-to-perm program that takes
away from the traditional bank balance
sheet multifamily construction loan.
Andy Siwulec: Last year when the agencies
were still trying to figure out how to
execute under FHFA’s capital limits, we
saw a lot of requests from borrowers for
ten-year fixed-rate debt from our bank,
much of which we did. These borrowers
were unsure that Fannie or Freddie would
be there for them, and wanted to diversify
their funding sources. That has not been
the case this year. Fannie and Freddie
have been in the market the whole way
and now have started to compete more
on spread.
Lisa Pendergast: Let’s turn our attention
to servicing. How does CMBS servicing
compare to bank portfolio servicing?
Is that a competitive advantage for you
when competing?
Jay Wardlaw: For Regions, all of our
servicing is done either in-house or with
third-party providers. As an example,
Berkadia does our term lending servicing
for us. That’s a real positive when speaking
with borrowers — we provide clients with
a point of contact that they know they
can go to and it provides them with an
opportunity for flexibility. The ability to talk
to someone and get a quick response is a
great competitive advantage relative to the
CMBS product.
Clay Sublett: The surveys definitely show
that borrowers prefer to deal with a bank
when it comes to flexibility and servicing.
Clients really like the fact that they have a
relationship manager who is handling their
loan on an ongoing basis and are involved
in their business model as opposed to
being purely transactional on that individual
piece of real estate.

Banker Roundtable
Peter D’Arcy: I’d like to pick up on Clay’s
comment. Our relationship managers are
quarterbacking everything — from sourcing,
structuring and originating the loan to the
administration of that credit thereafter.
They have direct responsibility and
accountability to the client to resolve
issues and solve problems.
Andy Siwulec: We all know that CMBS
servicers don’t get paid much. So their
business is all about how efficient they
can be. We own Midland Loan Services;
which is one of the larger CMBS servicers.
It’s a difficult business as the servicing on
CMBS transactions gets bid out.
Stephanie Petosa: What’s your view
on the 2017 wall of maturities in the
CMBS market? Do you view this as an
opportunity or a risk?
Peter D’Arcy: I view it more as an opportunity
than a risk for our particular institution
(M&T). But I do think the wall of maturities
has been overhyped. What we saw after
the downturn was that a lot of CMBS loans
hit their maturity dates with too much
leverage. These loans didn’t get flushed
out into the system via foreclosures or
distressed sales. Instead, they saw loanterm
modifications for the most part. The
2007 loans maturing in 2017 may meet
with heightened difficulties as they are
hitting at a time when underwriting standards
are growing more conservative and leverage
in the system is more measured. Additionally,
any further move up in interest rates certainly
won’t help.
Andy Siwulec: For us it tends to be more
of an opportunity. Some of our borrowers
are recapitalizing other people’s deals and
bring them to us for financing. You’ve got a
lot of private money that’s been raised out
there and just waiting for this to happen.
Obviously the private money is more
expensive than bank money and it tends
also to be a little more aggressive.
Jay Wardlaw: We have a significant client
base that is well capitalized and looking
for opportunities coming from the Wall
of Maturities. They are working on the
assumption that the existing loan’s going
to get refinanced and the borrower is
looking for partners. Or they work to pick
up these assets opportunistically in a
distressed sale situation. The strategy
is not without some risks, as any market
disruptions could lead to a liquidity crunch
that negatively impacts asset values.
Lisa Pendergast: What about the refinance
risk on loans originated post crisis with
coupons in the 3% to 5% range, some of
which are interest-only for term and thus
enjoy no benefit from amortization?
Andy Siwulec: We do sensitize our loans
to higher interest rates based on how long
they go out. As far as IO goes the lowerleverage
loans will always have some IO on
them. Most of the loans we do tend to be
for institutional borrowers. So we do take
some comfort that they have the liquidity
in the future to solve problems if it occurs.
I think some of the bigger issues that I
have today are based on what’s happening
in retail. And even in some office markets
— who knows what your tenancy will look
like in 5, 7 or even 10 years.
Peter D’Arcy: We focus on debt yields at
maturity and try to make sure to maintain
proper cushion. Understand that we’re in a
very low interest-rate environment and we
get as much cushion as we can on the exit
debt yield.
Jay Wardlaw: We look at the exit balance
based on a stress loan constant (that’s
asset and geographic specific). Our loan
constants are now in the 6.00% to 6.75%
range, based on current rates and future
expectation of rate increases.
Stephanie Petosa: Will loan volume be
higher or lower this year than last and
what do the next two years portend for
deal volume? Does the sudden and
dramatic shift in the Washington, DC
landscape change your view on the level
of business go forward?
Andy Siwulec: As far as politics are
concerned, I think it’s very hard to tell
what impact this election will have. I do
think a more pro-business stance would
be helpful for us and for real estate. So at
this point we’re cautiously optimistic. We
certainly like what it’s done to financial
stocks. Our production this year and over
the next two years is likely to be stable. I
think our portfolio is going to grow slowly
and certainly not at the rate it did from
2012 until 2016.
Jay Wardlaw: I think the Trump administration
will be pro-business, and likely to be
helpful for the banks. Hopefully real estate
goes along with the increases in financial
stocks, etc. Loan production at Regions
fell in 2014 and 2015 but stabilized in
2016 to where we think it is going to be
going forward. We think that’s a healthy
level for real estate on the balance sheet.
Peter D’Arcy: At M&T, volumes will be
up slightly year-over-year, very modestly,
in the low single digits. But loan volume
has been up over the last three years. On
the political front, policies are likely to be
inflationary (if they’re executed the way
they’ve been laid out). They may lead to
better economic activity, especially if we
repatriate capital to the country, cut taxes,
and offer out other forms of stimulus — all
of that would have a favorable, short-term
impact on real estate fundamentals,
slightly offset by higher rates. The concern
here is whether that will create a short-term
gain but larger intermediate- or longerterm
risk.

Our Expectations for
the Coming Congress —
Could Go Extra Innings
Marty Schuh
Vice President, Legislative and Regulatory Policy
CRE Finance Council
B
ack in October, we previewed the possible outcomes for
the Presidential election. As you know, the House and
Senate as well as the White House are back in Republican
hands. This changes the dynamic on Capitol Hill to a
“what’s possible?” perspective. Given the strong majority
in the House and Republicans retaining their majority in the Senate,
we expect significant activity this year legislatively. Of course, first
priority will be given to President-elect Trump’s signature issues —
chief among them health care and border security. While the first
100 days might be tangential to commercial real estate, we expect
progress later in 2017 on the regulatory, and possibly the legislative,
fronts that will lessen confusion and enhance liquidity. Yours truly
was one of a handful of DC insiders who believed that Trump had
the inside path to victory. (My picks were posted on Twitter Friday
prior to the election.)
The legislative agenda now will be driven be three things:
• Trump’s historic win and his populist mandate;
• Senate Democrats now running for reelection in Trump states; and
• Speaker Paul Ryan’s ability to hold his rowdy caucus in line.
Batter Up. The first major legislative “at bat” will be the party-wide
effort to repeal and replace the Affordable Care Act (“ObamaCare”).
We’ve heard that effort could occur during the first quarter of
2017. While the political will is certainly there, absent a suitable
alternative that would not disrupt healthcare access or delivery, we
don’t see an easy path. We look for several fits and starts for the
“replace” product before it’s generally saleable to a more skeptical,
populist base than in years past. If we’ve learned one thing, it’s
the irony of people wanting “government hands” out of their social
programs like Medicaid and Medicare.
There’s No Place Like Home. While Trump rode the “build-that-wall”
mantra all the way to the White House, we have a hard time seeing
Congress giving him a blank check for construction and see Trump
finding his inner pragmatist in taking something resembling a “wall”
with at least one “beautiful, huge” section in a highly visible swath
of America to drive home the point. Other early 2017 items will
include the Trump infrastructure plan. He campaigned on a $1 trillion
package (paid for, conceivably, by tax repatriation — see below)
and we suspect he will rely on many of the same tactics that drive
municipal public-private partnerships via tax incentives and profitsharing
arrangements.
Republicans seem generally supportive of the infrastructure proposal.
Some top Democrats (not the 25 rank-and-file defending their
seats in 2018) also initially seemed supportive of it. Yet Vermont
Independent Bernie Sanders, recently appointed to the Senate
Democrats’ leadership team, recently criticized the plan as a “scam”
that would give massive tax breaks to corporations. Sanders said
he will introduce his own five-year, $1 trillion infrastructure plan.
Bleacher Seats. The above brings us to the second driver:
Democrats up for election in 2018. Ten of them are from states
that Trump won convincingly, and will undoubtedly need to tack to
the middle to retain their seats. This includes the current Ranking
Member of the Senate Banking Committee Sherrod Brown (D-OH)
and three others on the committee running this cycle (Tester of
MT; Donnelly of IN; and Heitkamp of ND). The stars have aligned
in a very lucky way for the incoming Chair Mike Crapo (R-ID), who
is very savvy on commercial real estate finance and authored an
amendment during Dodd-Frank that allowed for B-piece horizontal
risk retention. His hometown paper just profiled him, and he
expressed support for rolling back certain parts of Dodd-Frank
(a bill that he ultimately opposed) and stopped short of endorsing
Trump’s call for reinstating the depression-era Glass-Steagall Act.
A big wildcard in the first session of Congress will be their invoking
what’s known around town as the “CRA”, or the Congressional
Review Act. The CRA gives Congress a final say in finalized
regulations promulgated by the Administration. Using this maneuver,
Congress may overturn a rule issued by a federal agency (subject
to the President’s signature). In the formal process, the CRA
requires agencies to report on their rulemaking activities to
Congress and provides Congress with a set of procedures under
which legislation is considered to overturn those rules. Analysis
suggests that more than 150 “significant” rules that were published
since mid-May 2016 could be subject to CRA disapproval next
year, as well as any new regulations issued between now and
January 20, 2017. Of the approximately 72,000 final rules that
have been submitted to Congress since the CRA legislation was
enacted in 1996, it has been used to disapprove one rule: the
Occupational Safety and Health Administration’s November 2000
final rule on ergonomics, which was overturned in March 2001.
How Much That Beer Really Costs You. We remain bullish at the
prospects for corporate tax reform in the next Congress. For the
most realistic blueprint we looked to Speaker Paul Ryan’s (R-WI)
“A Better Way” proposal for 2017. In fact, Trump modeled his
proposal in similar fashion during the campaign for personal tax
reform. For corporate taxes, Ryan’s blueprint aspires to 20%,
while President-elect Trump proposed a 15% corporate tax rate
(with a 10% deemed repatriation tax). We believe that the first
rewrite of America’s tax system in over 30 years has aligned with
the political landscape. (For a marker, see House Republican plan
summary below).
CRE Finance World Winter 2017
14

Our Expectations for the Coming Congress — Could Go Extra Innings
Balk. While we are bullish, we are not giddy. As our friend Isaac
Boltansky from Compass Point points out, there are significant
headwinds, including:
• The 1986 tax reform bill took approximately two years to write,
and it wasn’t in the lens of today’s hyper-focused media outlets
highlighting threats to embedded tax breaks or a 24-hour
news cycle;
• There is general agreement on framework between Congressional
leaders and Trump, but there are meaningful differences on
specific issues like the top corporate rate, deficit-neutrality, and
the use of repatriated funds; and
• The sweeping transition coupled with the expansive policy
agenda increases the potential for legislative delays.
NL vs AL. Speaking of not giddy, our third driver of Congress is
the ability of Speaker Ryan to keep his caucus in line. There are
a host of early year activities that will no doubt test his patience.
While the repeal of ACA will be catnip to many in the caucus,
certain provisions have become popular and may prove to be
proverbial “third rails” if the push to repeal gets overly zealous.
Additionally, the bill to keep the government open will expire
between March and May 2017 (timing uncertain as of this writing).
Couple this with the required extension of the debt limit (a
perennial slugfest) in summer or early Q3 and you have the
makings of a ripe family drama. Readers will recall it was these
types of showdowns that ultimately cost Boehner the Speaker’s
gavel, and a very unwilling Paul Ryan stepped up to prevent a
party meltdown.
Other Wildcards. With such an ambitious agenda, we will need a
productive lineup for teams being fielded in January. But, as usual,
party dynamics, external factors and “over-legislating fatigue” have
been known to set in and quell progress. Massive legislative efforts
such as those described above are subject to a certain amount of
decorum in both chambers and we caution that it only takes one
toxic package (see: immigration reform, trade agreements, GSE
reform, etc.) to derail future progress.
introduced a bill to undo some of the more controversial parts of
the Dodd-Frank Act. Called the “Financial Choice Act”, it contains
myriad provisions, but those directly affecting CRE are the repeal
of risk retention; repeal of the “Franken Amendment” for credit
ratings agencies; repeal of the “Volcker Rule”; the requirement for
Congressional approval for major rulemakings; and finally an “off
ramp” for well-capitalized banks to avoid many of the regulatory
burden that resulted from Dodd-Frank, including Basel compliance.
On the tax front — given much attention during Election 2016 —
Trump and Speaker Ryan are in about 80% agreement. Of course,
details will need to be fleshed out during the next Congress, but
the underlying principals in the House Blueprint are:
• Reduce the top C-Corp tax rate from 35% to 20% and cap the
S-Corp tax rate at 25% — individual tax rates are the same for
both Trump and Ryan plans at 12%, 25% and 33%; (Trump’s
plan has C-corp rate at 15%);
• Allow for the full and immediate depreciation for cap-ex; shifts
U.S. to a territorial tax system; and
• Carry forward Net Operating Losses (NOLs) indefinitely.
We are more bullish on the corporate side than on the personal
income tax side where there are vested interests to overcome in
such a short time horizon.
We think that both initiatives have the potential to gain major
traction in 2017. Speaker Ryan has made tax reform his personal
crusade, and we believe that the stars are aligned for not only
the Chicago Cubs, but also major corporate tax overhaul, if not
personal as well.
Summarized below are two of the reference bills that came under
consideration last Congress. We believe that these will bear
some resemblance to what is ultimately considered by the Trump
administration and the new Congress, albeit with a few signature
tweaks from the Donald, of course.
The most relevant bill to commercial real estate at the moment
appears to be from many months back, where the Chairman of
the House Financial Services Committee, Jeb Hensarling (R-TX),
A publication of CRE Finance World Winter 2017
15

CREFC Policy Outlook:
Capital and Liquidity Remain
Key Focus in 2017
Christina Zausner
Vice President, Industry Policy and Analysis
CRE Finance Council
A
t the same time that the last major round of regulations
mandated by the Dodd-Frank Act (DFA) and Basel III are
moving through the rulemaking pipeline, Congress will be
contemplating upending those and other policies. While
writing this article over Thanksgiving week 2016, there is
more speculation than concrete facts available regarding the incoming
Administration and the 115th Congressional agenda, but we know
and accept that this will be a year full of potential.
Based on the tea leaves that are available five weeks before this
magazine goes to print, CREFC believes that the regulators will
continue apace and that certain members of Congress will build
toward a package of revisions to DFA as well as general changes
to the overall Federal rulemaking procedures, such as requiring
cost-benefit analysis. 1 We also expect policymakers to put forward
tax reforms with features that will impact commercial real estate
(CRE) lending. Assuming that debate about financial and tax
reforms extends into 2018 and that there will be positives and
negatives for the CRE sector, the greatest game changing policy
shift in 2017 may be monetary. Even though the market is expected
to absorb increased rates without dislocating, any change in
benchmark rates still has the potential to add stress into market
dynamics, especially as refinancings mount.
Here are the pieces of the puzzle CREFC sees in play in 2017:
1. SEC/CFTC Market Oversight Agenda Will Likely Align More
with the Administration’s Agenda. With five of ten commissioner
roles vacant at the Securities and Exchange Commission and the
Commodity Futures Trading Commission, the complexion of market
oversight is bound to shift and mirror the Trump Administration’s
more closely in 2017 and beyond. If new leadership so desires, it
could tackle reforms to transparency and disclosure, as well as
rating agency and other rules that fall more exclusively under their
purview. To date, however, the incoming Administration has not
expressed an interest in these issues, and we do not expect them
to be targeted for reform at this time. Instead, we expect to witness
a greater level of resistance to new rulemaking in the realm of
market oversight.
2. …. But the Banking Agencies’ Course Depends on Early
Retirements/Vacancies. The banking agency agenda may remain
on its current path until 2018, unless sitting officials elect to retire
early. Assuming that Fed Chair Janet Yellen and Vice Chair Stanley
Fischer remain in place through their terms, agenda change would
need to be driven by other Fed Governors, particularly Dan Tarullo
(the Fed’s lead Governor on regulation), and the leadership at the
Federal Deposit Insurance Corporation (FDIC) 2 and the Office
of the Comptroller of the Currency (OCC). If current leadership
maintains its majority through 2017, critical issues for the industry,
including capital, liquidity, risk retention and the Volcker rule, are
unlikely to be changed without Congressional intervention.
There is one exception to the status-quo scenario on the banking
side. No matter who changes seats, the Too-Big-to-Fail (TBTF)
discussion is certain to be forced more to the center as Neel
Kashkari, President of the Federal Reserve Bank of Minneapolis,
joins the Federal Open Markets Committee (2017). After more
than a year of building a case that large banks should be broken
up, Kashkari is ready with research and a plan. Whether in the
context of FOMC meetings or more broadly in the public eye, the
Minneapolis bank president has made it clear that this is a topic
he will press. Remembering that President-Elect Trump added
Glass-Steagall to the Republican National Convention’s roster of
issues, Kashkari could possibly find sympathy for his views from
the Trump Administration that he does not currently have. Such
support depends on appointments for Fed governorships and the
Secretary of the Treasury. 3 Unless the Minneapolis Fed President
can build a coalition of like-minded officials, the Agencies (Fed,
FDIC and OCC) may debate, but will continue to address TBTF
through their current plan.
3. Financial Legislative and Tax Reform May Not Gain Momentum
until 2018. CREFC expects that both Houses of Congress will
conduct hearings, if not actually propose, some form of relief from
financial services regulation in 2017. It will likely be contemplated
as a stand-alone piece of legislation and not as part of this year’s
budget plan; the Affordable Care Act or tax reforms are expected
to occupy the 2017 and 2018 budget package slots.
Because the European Commission (EC) favors less burdensome
treatment for derivatives, wholesale funding and securitization
under capital and liquidity regulation, we believe that Congress
may have additional reasons to try to influence capital and liquidity
rulemaking in the U.S. The EC is actively adopting certain exclusions
and mitigations, as in the “Simple, Transparent and Standardised”
(STS) measures that apply to securitizations. 4 The EC’s November
2016 version of the Net Stable Funding Ratio is another important
example of divergence between the regions. If the European
Union continues to move toward lower level thresholds, then it
is in Congress’ interest to try to align our regulation with theirs.
Currently, Congress does not have a say in the process, but certain
features that were offered in the CHOICE Act could allow for
broader consideration of goals and consequences.
CRE Finance World Winter 2017
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CREFC Policy Outlook: Capital and Liquidity Remain Key Focus in 2017
4. International Rulemaking Bodies Tending to Final Banking
Requirements; Still Determining Key Positions on Market
Oversight and Nonbank Supervision. International rule-setting
bodies are in the end-game of most bank-related requirements, but
are also continuing to build their non-bank and markets frameworks.
• Financial Stability Board will give greater weight to non-banking
and technology issues in its 2017 work plan (available at www.
fsb.org), including working groups dedicated to asset management
and technology.
• The Basel Committee on Banking Supervision (BCBS) has
targeted year-end 2016/early 2017 for adoption of critical
banking requirements, including final changes to risk-based
capital (also known as Basel IV) 5 , which represent the last major
thrust of bank regulation that will apply broadly to the industry.
• The International Organization of Securities Commissions
(IOSCO) is pursuing an agenda that we believe will revolve
around transparency, disclosure and rating agency issues. Because
the U.S. is far ahead of other Group of Twenty (G20) nations in
its market oversight framework, IOSCO’s standard-setting push,
though vast, probably will not materially alter U.S. rulemaking. Of
particular interest to the CREFC community, IOSCO has been
developing a set of policies and principles that address securitization.
At this time, we believe that they will coordinate with the BCBS
on the “Simple, Transparent and Comparable” framework (which
corresponds to the EC’s STS program) and they will independently
continue to perform peer reviews and assessments of G20
countries’ market oversight.
• The International Association of Insurance Supervisors (IAIS) will
continue to focus on the capital and supervisory requirements for
internationally active insurers. It is anticipated that the IAIS will
continue its work on the supervisory model for larger insurance
companies and its capital framework.
5. Significant Capital and Liquidity Rules Set to be Adopted in
2017. Assuming that the principals at the banking Agencies remain
in place, we believe that the Basel rules slated to be finalized
in 2017, including the Net Stable Funding Ratio and extensive
changes to the risk-based capital regime, will proceed on target.
This means finalization of U.S. rules this year and conformance
targets set for the following year, 2018.
These extensions of the existing regulatory framework have
implications on an absolute and relative basis. We know that
requirements are increasing; that is the absolute case. As to issues
of relativity, we expect to see obligations for U.S. participants
increase compared to those applied in foreign jurisdictions. U.S.
authorities have long outlined a high ground in regulatory thresholds,
including tougher treatment broadly and tighter deadlines. European
officials have vocalized serious discontent with the U.S. (and Basel
stances) and have pursued a less restrictive set of standards in
recent months.
6. Business as Usual Legislative Renewals and Revisions Also
in Play. Other legislative issues, such as EB5, the Terrorism Risk
Insurance Act (TRIA) and the National Flood Insurance program,
will return to the stage for reauthorization.
What Is CREFC Doing?
Our first order of business after the election was to start assessing
potential policy shifts and the attitudes of members to these
potential changes. CREFC has undertaken months of outreach
to members and has support for advocacy measures to mitigate
the impacts of forthcoming Basel capital and liquidity rules.
Other potential advocacy positions must be assessed for member
support and viability going forward. As of this writing, CREFC is
actively addressing the following issues:
• Basel IV: One and half weeks after the election and a week
before the Basel Committee’s annual year-end summit, CREFC
sent a letter to the U.S. banking agencies (Fed, OCC, FDIC)
outlining concerns regarding the proposed changes to risk-based
capital rules collectively and informally known as Basel IV (BIV).
BIV covers traditional lending and trading books, effectively
addressing all facets of CRE finance by banks. It includes the
Fundamental Review of the Trading Book (FRTB) and other
concepts, which are expected to impact capital availability,
market liquidity and the competitiveness of the U.S. financial
sector. In January when this article is published, CREFC expects
to be working with other trade associations to raise awareness
on the Hill in anticipation of a financial reform package.
• Net Stable Funding Ratio: The Net Stable Funding Ratio (NSFR)
is one of two liquidity ratios mandated under Basel III and that is
expected to be finalized in the U.S. in 2017 for implementation
in 2018. The rule requires large banks to maintain a significant
level of stable funding (e.g., equity, debt with maturities of more
than one year and some deposits) relative to the liquidity of their
assets, derivatives, and commitments, over a one-year period. It
is considered by industry participants to represent a new “binding
constraint” (most severe of the capital and liquidity thresholds),
A publication of CRE Finance World Winter 2017
17

CREFC Policy Outlook: Capital and Liquidity Remain Key Focus in 2017
depending on the composition of a bank’s balance sheet at the
time. It largely treats CRE and CMBS products similarly to other
wholesale asset classes, but it is also redundant in many ways.
Moreover, it is considered to be particularly onerous in its treatment
of short-term/repo funding, which will further compromise CMBS
market liquidity.
In July, CREFC signed an industry letter along with The Clearing
House and SIFMA, and also led a group effort with other CRE
trade associations in the drafting of an industry-focused letter.
The central issue in both letters that is of most importance to the
CREFC community was the treatment of credit products, which
we recommended be recalibrated. We have, and will continue to
participate in conversations with the U.S. regulators and monitor
European implementation, which appears to be tracking a more
flexible set of standards. We will also begin to educate the new
Congress and Administration regarding the harsh treatment of CMBS
products under Basel III in comparison to both their performance
during the crisis, and their performance relative to other asset
classes that were treated less harshly under the new Basel rules.
• HVCRE: The High Volatility Commercial Real Estate rule is
the piece of Basel III that covers acquisition, development and
construction (ADC) lending and has been in effect since January
2015. CREFC has formed a working group to address some of
the many challenges of the HVCRE rule, which requires that
1.5 times the capital historically required be held against ADC
loans. Other issues that CRE members have faced with the rule
include several necessary clarifications of the definition of equity,
conditions under which capital can be removed from a project,
and also when a loan can be reclassified as a permanent facility.
If you have any questions or want to get involved regarding the
regulatory issues facing CRE finance, please contact Christina
Zausner (czausner@crefc.org) or David McCarthy (dmccarthy@
crefc.org). For more information on the legislative agenda, please
see Marty Schuh’s article in this edition. For a comprehensive
reference regarding regulation affecting the CMBS sector, please
see Patrick Sargent’s publications page to view “The Dawn of
CMBS 4.0: Changes and Challenges in a New Regulatory Regime”,
available at Alston.com/professionals/Patrick-sargent.
1 Chairman of the House Financial Services Committee, Jeb Hensarling
(R-TX), introduced the CHOICE Act in May 2016, which included
several provisions that would subject rulemaking procedures to certain
standards (e.g., cost-benefit analyses), in addition to the Administrative
Procedures Act, which provides little room for stakeholder engagement
with the Agencies around the goals and design of new rules.
2 Chairman Martin Gruenberg of the FDIC announced that he intends to
stay in office through his tenure in 2018.
3 As of this writing, Steve Mnuchin, the nominee for Secretary of the
Treasury, has not yet shared his specific views on TBTF and/or breaking
the banks up. He has said that the regulatory framework is too complex,
specifically mentioning the Volcker rule, which is often cited as the
modern version of Glass-Steagall. While Treasury itself wields no direct
regulatory power over banks outside of money-laundering, the Secretary
of the Treasury wields tremendous influence over the process as (a)
chair of the Financial Stability Oversight Council and (b) as manager of
the regulatory process when multiple regulators are involved, such as
risk retention.
4 STS is a package of mitigations allowed under Basel III for securitizations
that meet certain criteria that together favor large and granular securitization
pools. The U.S. regulators rejected the idea, whereas the Europeans
are adopting it. One area where there is divergence in treatment
between the two regions due to the difference of opinion about the STS,
is in the implementation of the Liquidity Coverage Ratio. The Europeans
allowed for less stringent treatment of certain securitization asset
classes than is the case in the U.S. CMBS, however, is excluded from
benefits under the STS program in Europe and under the BCBS model,
mostly because CRE and multifamily mortgages do not fully amortize.
5 The Basel IV package includes many measures that directly impact the
CRE sector, including the risk-based capital treatment of stabilized loans
(BCBS 347), ADC loans (BCBS 347), loans to financial institutions
(BCBS 362), securitizations held in the trading book (e.g., Fundamental
Review of the Trading Book, BCBS 352) and investment books (BCBS
303), and warehouse lines (BCBS 303). In addition, there are other features
included in Basel IV that are expected to drive capital requirements
higher broadly across business lines, such as changes to operational risk
measurement (BCBS 355)and a new capital floors framework (BCBS
306).
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What’s To Be Done about a
Rule That Doesn’t Work?
The CRE Finance Council Launches a High-Volatility
CRE (HVCRE) Working Group
David McCarthy
Director, Policy and
Government Relations
CRE Finance Council
Marci Schmerler
Shareholder
Carlton Fields
Krystyna Blakeslee
Partner
Dechert LLP
CREFC’s David McCarthy: We are happy to have you both
co-chairing CREFC’s HVCRE Working Group. Can you briefly
explain what HVCRE is and why we need a working group?
Krystyna Blakeslee, Partner (effective as of January 1, 2017) at
Dechert LLP/Marci Schmerler, Shareholder at Carlton Fields
(KB/MS): Thanks David, let’s take that in a few parts. Firstly,
HVCRE is a classification under Basel III requirements for Risk-
Based-Capital (RBC) rules. The intent behind the rule is presumably
to reduce the volume of riskier exposures in the banking system
by requiring larger capital requirements for loans classified as (or
having elements of) Acquisition, Development or Construction
(ADC) that are not permanent financing. This broad definition
means that any ADC loan (including acquisition loans with no
construction or development features) may be covered by the rule
if not a “permanent loan”.
As it stands, the industry has no consistent official guidance to
square the difference between risk, which is generally interpreted
as some sort of temporary, revolving or construction aspect to the
deal, and the broad reach of the literal definition.
These inconsistencies, starting with the definition of HVCRE loans,
between regulatory intent (the reduction of risk in the construction
market) and the way the rule actually functions in real life, exist
throughout the rule. Even two years after implementation (January 1,
2015), the industry is looking for ways to resolve the issues,
whether they be through education or advocacy for clarifications
and/or possibly revisions to the rule.
The HVCRE Working Group (WG) was initiated in response to
requests from industry members to provide a platform upon which
industry participants most affected could discuss their experiences
and practical applications of the rule, in the face of an ambiguous
rule with little or inconsistent official guidance.
DM: When you say more capital, how different is the current
regime from the historical treatment of ADC loans?
KB/MS: For the loans that fall into this HVCRE bucket, and again,
there is debate about what that universe is, the risk weight increased
from 100% (which equates to 8% of the value of the loan)
to 150% (or 12% of the value). We hear from lenders that this
increase in capital costs translates into 20 to 150 additional basis
points in the loan’s coupon.
This particular capital rule is much more potent in many ways — not
the least of which is that it applies retroactively. Most capital rules
allow for a grandfathering phase, but this one forces bankers to apply
the higher capital charge to all HVCRE loans on balance sheet, as
of the implementation date. That means that, in effect, the collective
balance sheet the banks had to put to work in the ADC markets
was reduced materially and abruptly beginning in January 1, 2015.
The administrative costs of compliance are also burdensome.
DM: What about exceptions? Most capital rules include those,
but oftentimes they are limited.
KB/MS: There are four total exceptions or safe harbors under
HVCRE. Three are clear: these apply to 1-4 family properties,
community development properties and purchase and development
of agricultural land. There is a fourth exception that is much harder
to interpret and satisfy. The fourth safe harbor may be granted
to ADC loans that meet the following conditions: loans that, at
origination, have a stated (supervisory standard by property type)
loan-to-value (LTV), an up-front cash equity contribution of 15%
of the completed value of the project and a contractual provision
prohibiting distributing contributed capital or internally generated
capital. If a lender chooses not to classify the loan as HVCRE and
the only applicable exception is this one, then compliance with all of
these conditions is necessary. The conditions must be complied with
for the life of the loan, or until it is converted to a permanent loan.
DM: It sounds like there are a number of options for lenders.
What about these options do you think lenders are having
trouble structuring?
KB/MS: There are all sorts of ambiguities in the rule (and the
exceptions), which make the practical application of the exception
conditions difficult. For example, the related terms — “permanent
financing”, “life of the loan” and “conversion” — are not defined in the
rule, nor has any consistent official guidance as to the appropriate
definitional parameters been provided (other than as it relates to
the bank’s internal policies).
If you consider the term “permanent financing” in conjunction with
the fact that the HVCRE universe is some subset of ADC loans,
you see there is a mixing of temporary/transitional assets and
cash-flowing, stable assets. You could easily have an asset undergoing
rehab or renovation that is also cash flowing at reasonable
coverage levels.
Yet, if there is construction and development involved (whether
ground up construction or renovation or rehab), and the ADC loan
does not meet one of the three clear exceptions, then in order to
meet the conditions for the fourth exception and be exempted from
the HVCRE classification, distributions of “internally generated
capital” must be contractually prohibited during the term of the
loan. Among others, this raises a number of structural and cash
management issues, including what is “internally generated capital”
and how and when it can be used. This suggests perhaps that the
rule makers didn’t intend to include ADC loans secured primarily by
stable cash-flowing assets as HVCRE and were instead concerned
CRE Finance World Winter 2017
20

What’s To Be Done about a Rule That Doesn’t Work?The CRE Finance Council Launches a High-Volatility CRE (HVCRE) Working Group
about more risky ground-up construction projects. With that said,
at a minimum, this ambiguity contributes to a structuring dilemma
(think, for example, how and when are mezzanine lenders paid
when there is a prohibition on distribution of cash?) if banks want
to ensure compliance with the safe harbor exception.
A related issue is the “life-of-the-loan” reference. Again, it is difficult
to understand what the regulators intended here particularly in the
context of the distribution prohibition. Did they consider that largerscale
projects typically have multiple components? Even ground-up
construction projects (whether or not phased) function differently
at the point the projects becomes income producing. Or again were
regulators focused solely on the construction phase not the cashflowing
phase? Or was something else entirely going on? In any event,
all we know for certain is that there is still no certainty on this point.
“Conversion” too is a hot topic of debate within the industry. There
is little to no guidance on what conditions satisfy the “conversion”
point (e.g., Do lenders actually need to make a whole new loan?
Can they build in the conversion conditions like you would build
in loan extension or assumption conditions or frankly, as more
traditional, convert from construction to perm? Can “conversion”
be automatically triggered on some sort of LTV, DSCR or DY
test that must be satisfied in order for a loan to be successfully
converted from an HVCRE loan to a non-HVCRE loan and if so,
how and by whom is satisfactory criteria determined?)
We have found that even those banks that simply elect to classify all
ADC loans as HVCRE (e.g. to avoid the structural and administrative
costs surrounding interpreting and complying with the safe harbor
exceptions) and to accept the higher capital charges (or pass them
on to borrowers) still have to answer the question about when to
reclassify those loans as a permanent facility. It is not clear that the
regulators (who we understand anecdotally are not consistent in
their application among regulatory agencies or even within individual
regulators) are even achieving their presumed intended outcome
of better credit underwriting or mitigation of riskier loans, though
they seemingly have been successful in forcing some of the more
subordinated interests outside of the banking system.
Because of the ambiguities and issues already mentioned (and
many more…we could probably talk for hours about this and have),
we see an opportunity for the WG to help crystallize how or why
many of these loans could or should be treated differently than
riskier loans. In other words, an important question is should many
of the loans that fall literally within the broad ADC category be
classified as HVCRE loans?
DM: Why is it important to establish a working group now, two
years after implementation?
KB/MS: We are at the beginning stages of the WG, and, in fact, are
still taking names of interested parties. In broad brushstrokes, we
plan to build on the work of other trade associations (Mortgage
Bankers Association and The Real Estate Roundtable). As a baseline
goal, we plan to develop educational materials to assist stakeholders
of all types with a practical understanding of the rules and
the range of interpretations. If our membership is in agreement,
we could move to develop some kind of advocacy campaign to
again try to extract clarifications, if not revisions to the rule. That
could be effectuated through a legislative and/or an administrative
approach (going directly to the regulators). In fact, we believe we
will have an opportunity to provide feedback to a draft bill that Rep
Robert Pittinger (R-NC) has been working on for some time now.
DM: As one of the CREFC staff liaisons to the HVCRE WG, I
know that the membership is varied. Can you describe what
that means for the agenda?
KB/MS: This is an interesting rule, because, while the bank portfolio
lenders are the only group that is directly impacted, nonbank
lenders are also interested in similar outcomes (think, for example,
non-bank lenders with repo/warehouse lines provided by regulated
banks and non-bank mezzanine lenders). Banks (and non-banks)
need to know how to interpret the rule in order to remain compliant
and/or to optimize their lending strategies and pricing. Part of that
equation is knowing what structures fit neatly under the rule. One
of the keys to that determination is in how to count preferred equity
and sub-debt, a topic which remains a subject of debate today.
Additionally, there are so many other confusing aspects of the rule’s
exceptions (or application) that are critical drivers of the economics
of these deals. One of the more critical of these, which comes into
play when calculating the amount of contributed capital — is how
contributed land is valued. The rule (together with the only official
guidance) only allows the value at the time of purchase to be
counted as eligible contributed equity and would preclude use of
current appraisals for land if previously owned. This we understand
deviates from customary underwriting and raises a host of other
issues depending on how and when the land is acquired.
DM: Does the election change the WG’s agenda?
KB/MS: It does not necessarily impact the direction of the WG.
It may impact the success of advocacy efforts, though. The early
skepticism expressed by President-Elect Trump and the nominee
for Secretary of the Treasury, Steve Mnuchin, toward regulation in
general, and more particularly, those requirements developed by
global governance groups, such as the Basel Committee on Banking
Supervision, suggests that Congress may have an opportunity to
successfully force clarifications of and even possibly revisions to
capital rules, like HVCRE.
DM: One last question….Do you foresee construction lending
volumes rising or falling next year based on the pipeline of deals
you are seeing?
KB/MS: It is difficult to say, and there is a myriad of other issues
in play, but the HVCRE rule is creating serious headwinds not just
for banks but for nonbanks working with banks and borrowers and
equity stakeholders. Whether banks treat construction loans as
HVCRE or try to structure around it, construction loans from banks
will likely be more expensive, which means borrowers will need
additional capital to fill the gap. Even if non-banks step in, costs
of funds will likely be higher as well. Construction projects are
generally very time sensitive and delays typically result in higher
costs. That means, at a minimum, real costs (overall construction
budgets) will increase. That potential increase in overall cost
combined with the confusion over application, structuring delays
(and existing backlog on banks’ balance sheets) caused by the rule
may play some role in slowing down the volume and pace…. Only
time will tell.
A publication of CRE Finance World Winter 2017
21

Challenges and Opportunities of Brexit:
Where Do We Go From Here?
Sean Donovan-Smith
Partner, Investment Management
and Public Policy
K&L Gates
O
n June 23, 2016, voters in the United Kingdom chose to
leave the European Union (“EU”) with 51.9% voting to do
so, amounting to some 17.4 million people. The turn out
was high at 72.2% making the result, “Brexit”, impossible
to ignore.
Despite continued attempts to overturn the referendum result, the
current UK Government is committed to implementing the result.
As such, it is becoming clear that we should be thinking in terms of
the opportunities created by Brexit and dealing with the inevitable
challenges along the way.
Brexit must be seen as a process, not a single event — a process
that will dominate UK and European politics for years to come.
The UK is likely to exit sometime in early 2019, although there is
increasing pressure to exit as swiftly as possible to avoid continued
uncertainty over the UK’s future relationship with the European
Union. However, it is not in anyone’s interest to have a disorderly
exit and it is important that there is a managed exit. The UK
Government has publicly stated that this is its intention — seeking
the best outcome for the UK that it can obtain, which may result in
continuing payments to the EU to maintain access to the EU single
market and the rights of UK expats that now live and work in other
EU Member States.
The UK’s new Prime Minister, Theresa May, who replaced David
Cameron after he resigned immediately following the Brexit result,
has set four “bright lines” for her government: control of the UK’s
borders, no further contributions to the EU’s budget, sovereignty of
the UK and the UK no longer being subject to EU courts. The UK
Government’s position is being rapidly developed through two new
departments, the Department for Exiting the EU and the Department
for International Trade, together with the Foreign Office, HM
Treasury and a new internal “Brexit” Committee of key ministers.
51 specific sectors are being reviewed as part of the development
of the UK’s position and the work of the new Departments will also
be scrutinised by two new House of Commons Select Committees.
The key EU negotiators are insistent that the UK must accept
freedom of movement of people and it hard to see how these two
opposite positions will be reconciled. In fact, many in the EU want
to make an example of the UK to avoid encouraging others to
leave. However, the ability of the EU27 (the remaining EU Member
States) to agree a common position may become more challenging
as the European Commission, European Council and the European
Parliament each have their own negotiator. Broadly, the European
Commission will take the lead on the exit arrangements and the
Council will take the lead on the EU27’s future relationship with
the UK. Nevertheless, most observers expect some form of market
access to be agreed before the UK exits the EU.
We must bear in mind that the position is not static and continuing
world events will have an impact on the exit process. For example,
the result of the U.S. elections may mean that the Trump Administration
is very much in favour of a bilateral trade deal with the UK (which it
has already publicly supported). This would change the negotiation
strength that the UK has vis-à-vis the EU27. Other events, such
as Italy’s referendum in December 2016 (in which Italian Prime
Minister Matteo Renzi was defeated) and France’s elections in
Spring 2017 may also weaken the EU’s position and have an impact
on the future not just of the UK’s relationship with the EU, but of
the EU itself. At the same time, the economic prospects of the
Eurozone countries remain precarious and the wider EU27 are too
dependent on bank led financing for continued investment, which
was under pressure even before the Brexit vote last June.
Clearly the most immediate challenge is navigating the uncertainty
that has been created. This not the first time the global economy
has faced significant uncertainty so it in itself is not unprecedented.
While it continues, there will be a drag on inward UK investment
that is already now being seen in OBR and OECD forecasts for the
UK growth published in November 2016.
Another immediate challenge is related to the process that Brexit
will adopt. The UK Government intends to formally notify the EU of
its intention to exit by March 2017, but the authority of government
to do so has been challenged and is pending the result of a UK
Supreme Court hearing held the first week of December 2016.
That decision is expected in January. There have been other court
actions launched as well that may impact on the timings of Brexit.
It is possible that the UK’s notification to the EU will be delayed
beyond March 2017, but it is likely to be made before the end
of June in any event even if a further Act of the UK Parliament
is ultimately required to give effect to Brexit. In the beginning
of December, the UK’s House of Commons passed a resolution
by 448 to 75 to adhere to the proposed notification by the end
of March, which appears to indicate that even if a further Act of
Parliament is required to commence the process, that Act will
be obtained.
In the meantime, the UK Government is clearly sensitive to the
possibility of an economic downturn, which it wants to avoid. As such,
it is open to ideas and suggestions as to how to make the UK a
more attractive place to do business and create jobs. In connection
with this, Prime Minister Theresa May added an industrial strategy
division to the Department for Business, Innovation and Skills that
is now called the Department of Business, Energy and Industrial
Policy. This new industrial policy mandate is not expected to pick
winners and losers per se, but to focus on creating the environment
and framework for economic growth.
CRE Finance World Winter 2017
22

Challenges and Opportunities of Brexit: Where Do We Go From Here?
The UK Government is increasingly looking to areas that are
under its control given the difficulties in negotiating with the EU27.
Chancellor Philip Hammond’s budget statement on November 23,
2016 made a number of announcements aimed at infrastructure
spending, research and development and investments targeted at
productivity improvements. Hammond calls these “double impact”
investments as they are intended to create a short-term benefit
from the immediate spending together with long-term benefits to
the UK economy.
Housing is another area that is very much in focus with continued
support and expansion of a number of initiatives aimed to foster
residential property development, which will eventually lead to
demand for new commercial premises as well.
The Chancellor also expressly left open the possibility of further
fiscal stimulus if it was required to manage through the challenges
of the UK’s exit from the EU.
Turning to the opportunities being created, industry participants
are broadly focussed on the following key areas:
• Access to key skills and people with a focus on quality not
just quantity.
• Working with national and local government to take advantage
of favourable conditions outside of London and the South East
of England.
• Improving capital markets and capital formation, including further
pension fund reform to create larger pools of capital.
• Ensuring common standards/equivalence for cross-border
services and goods.
• Having certainty of applicable law and regulation.
• Minimising the impact of Brexit on business/operating models.
The next key points in the process will be the outcome of the
various UK court challenges and the exact timing of the formal
notification for the UK’s withdrawal from the EU. Following this,
the UK’s and the EU27’s negotiating positions will become clearer
and business will be able to start taking more informed decisions
in respect of their operations and future investments.
Even now, key elements of the respective negotiating positions
are starting to be publicly disclosed. On November 21, 2016,
the House of Commons published a briefing paper entitled:
“Legislating for Brexit: the Great Repeal Bill” which discusses
the manner in which the UK will achieve its exit by repealing the
European Communities Act 1972 and incorporating EU law into
UK domestic law “wherever practical”.
As the Brexit process continues, the UK Government will continue
to seek opportunities to strengthen and stimulate the UK domestic
economy, largely via infrastructure spending and encouraging more
property development as both of these have immediate impacts
on the UK’s employment levels and contribute immediately to UK
GDP growth. The focus on residential property and infrastructure is
likely to also create demand for commercial real estate developments
to serve new or expanded communities. One area that is likely to
be immediately affected is the further expansion of a private rental
sector that is appealing to institutional investors. Opportunities will
also exist in the EU27 countries as they remain reliant on non-bank
finance for key projects, business expansion and developments.
The ability for the UK to be successful with this strategy is dependent
on external events, both positively and negatively, and more challenges
and opportunities are likely to arise throughout 2017.
What is also clear is that the UK’s future model is almost certainly
going to be a bespoke solution, not an “off the shelf” solution using
previous models (for example, Norway, Switzerland or Turkey).
Looking forward, it is likely that the UK will commence the formal
exit process Spring 2017 with a view to completing the exit prior
to June 2019 (once the formal notification is made there is then
a 24 month period after which the UK is out of the EU even if
there has been no agreement with the EU27). It is possible that
an earlier date could be agreed with the EU27, although it appears
more likely at this point that the process will complete without an
agreement between the various parties.
A publication of CRE Finance World Winter 2017
23

Post-Judgment Receiverships:
A Creditor Tool to Collect on Judgment
David Wallace
General Counsel
Trigild
S
ometimes it is necessary to take unique or atypical
measures to collect a debt.
Our industry has recently seen a number of cases —
involving both lenders with money judgments as a result
of foreclosure litigation as well as property owners with judgments
against former tenants or other parties — in which creditors request
help collecting on those judgments.
An emerging option such creditors can use to assist in collection
of their judgments is that of a post-judgment receiver, which is
available in many — but not all — states.
There are numerous advantage to this remedy, but it is important
to understand its implications and ramifications. Whereas a
traditional receiver is appointed during the pendency of litigation
and is charged with maintaining the asset and preserving value, a
post-judgment receiver is appointed by the court with the purpose
of liquidating assets until the judgment is satisfied. Moreover, a
traditional receiver is typically appointed as an arm of the court for
the benefit of all creditors of the receivership estate, not just the
party that nominated the receiver. As such, the receiver operates
as a neutral party and not under the direction or control of any
of the creditors. In contrast, a post-judgment receiver is working
for the direct benefit of the judgment creditor that sought the
appointment. This distinction is critical and allows the receiver
to focus on maximizing collection and liquidation efforts without
regard to maintaining the status quo of the assets or satisfying
the competing interests of other creditors.
Appointment of a post-judgment receiver provides a judgment creditor
with a number of benefits not available to traditional collection efforts.
First and foremost, a post-judgment receiver can get immediate
access to a debtor’s bank accounts by presenting the bank with
the appointment order. The receiver not only can immediately seize
the available cash in the accounts, but also can obtain the banking
records, which may ultimately lead to discovery of other assets or
accounts. This is a huge advantage, as it can take months to go
through a formal garnishment process with a bank as a judgment
creditor. Likewise, subpoenas for documents and records can
take months before bearing any fruit, giving a debtor the time and
opportunity to transfer assets and further hinder collection. The
speed with which a post-judgment receiver can obtain access to
accounts and cash will certainly put a debtor on notice that the
creditor is serious and gives the creditor enormous leverage. If a
judgment debtor actually has the assets to satisfy the judgment,
seizing and freezing bank accounts are good ways to get them
to the bargaining table and have some say in which assets get
liquidated. Otherwise, the receiver will choose to liquidate the
assets that have the most equity first and continue on until the
judgment is satisfied.
As an example, our firm was recently appointed to collect on a
judgment in which the debtor was hiding assets. The debtor had
transferred his assets into other entities, making the sale of such
assets difficult without the creditor going back to court for more
litigation (and more expense) and getting a court to find that the
transfers were fraudulent. Upon appointment, we were able to get
bank records for this debtor. Although the accounts had already
been depleted, the statements showed the debtor had safe deposit
boxes at one of their locations. The receiver was empowered to
take possession of the contents of those boxes under the court
order and was able to seize enough cash and precious metals to
allow for a sizeable recovery for the judgment creditor.
Without the appointment of a post-judgment receiver, the creditor
could have spent years of additional litigation and chasing assets
that had been transferred with no guaranty of anything ever being
recovered. Instead, the creditor made a good recovery without
having to advance additional funds, as the receiver’s fee was taken
out of the proceeds that were recovered and the rest was distributed
to the creditor.
Another significant advantage of a post-judgment receiver is the
ability to sell assets through a traditional sales and marketing
process. Absent a receiver, a judgment creditor is relegated to
recording the judgment and placing liens on the debtor’s assets
(the ones they are aware of and can locate). A creditor can seek
to execute a sheriff’s sale of certain of the debtor’s assets, but the
process is often cumbersome and time-consuming and fraught
with bureaucratic and legal technicalities that are difficult to
navigate successfully. Also, a sheriff’s sale deprives the creditor of
the ability to traditionally market the property in hopes of obtaining
the highest and best value. In many states, if the purchase offers at
the sheriff’s auction do not reach or exceed a very high percentage
of the appraised value (90% in some instances), by law the sale
cannot be consummated. In contrast, a post-judgment receiver
can immediately take possession of an asset once appointed and
CRE Finance World Winter 2017
24

Post-Judgment Receiverships: A Creditor Tool to Collect on Judgment
begin a thorough sales and marketing process through a traditional
broker. Moreover, the receiver is not obligated to obtain any particular
price to complete a sale. If there is equity in the property sufficient
to pay any prior liens or encumbrances, the receiver can complete
the sale and capture any remaining proceeds. This allows the
post-judgment receiver to obtain the highest and best price
available on the open market and captures maximum equity for
the judgment creditor.
Another benefit of using a post-judgment receiver is the ability
to defer costs of collection. Although costs can be added to a
judgment and ultimately collected by a creditor, typical collection
efforts can require advancement of funds for attorneys’ fees and
other costs of collection. As in the example earlier with the safe
deposit box, expenses can be paid out of the receivership estate
and obviate the need to advance funds. Also, many receivers will
agree to be paid as a percentage of recovery, if allowed in that
particular jurisdiction. Many courts encourage such arrangements
with regard to fees, as the receiver is incentivized to liquidate assets
with maximum efficiency, ultimately benefiting both the debtor and
the creditor.
Requirements for getting a post-judgment receiver vary by state
law. Texas has a specific statute allowing for the appointment
of a “turnover receiver” to aid in the collection of a judgment. All
that is required is for a creditor to have a valid judgment and for
the debtor to have non-exempt property that “cannot readily be
attached or levied on by ordinary legal process.” A bank account
qualifies, so appointment in Texas is almost a sure thing. In other
states, however, the appointment of a receiver is considered an
extraordinary remedy, and, therefore, a creditor may need to make
a showing to the court that would necessitate the appointment of
a receiver. Examples of such circumstances may include a debtor’s
attempt to hide or transfer assets, the wasting of value of particular
assets, or previous bad actions by a debtor such as misappropriation
of a lender’s collateral.
Factors and laws vary widely from state to state, but if the
appointment of a post-judgment receiver is an option, creditors
will be well served by exploring such a remedy.
David Wallace is the general counsel of Trigild, a San Diego-based real
estate services firm specializing in property management and receivership/
bankruptcy services.
A publication of CRE Finance World Winter 2017
25

New National Standard for
Reporting Rent Rolls Elevates
Loan-Market Transparency
Jim Flaherty
CEO
Backshop/CMBS.com
T
he commercial arm of the Mortgage Industry Standards
Maintenance Organization (MISMO) in November
released for industry comment proposed standards
for the maintenance and sharing of commercial and
multifamily real estate rent-roll information. The standards
include 87 fields of property and financial data as well as an easy
way to maintain and share the data through widely used, secure,
Internet-based technology.
This is a first-time industry standard that is expected to be
embraced widely. Fannie Mae, which has been active in creating
the standard, already has endorsed it for all multifamily originations
and asset management.
The importance of transparency relative to rent rolls cannot be
overstated in the context of commercial and multifamily real estate.
Rent rolls are a critical piece of information at the origination of
a loan, during the ongoing asset management of a loan, and in
valuing a commercial or multifamily investment throughout its
lifecycle. To date, there has never been a generally accepted
industry standard for the collection and reporting of commercial
and multifamily rent-roll data, making it more challenging to value
and transact assets.
87 Fields in Eight Data Containers
The draft reporting standards were devised over the last year
by Commercial MISMO, which develops, promotes and maintains
voluntary standards for the real estate finance industry to enable
consistent loan information to be obtained and exchanged efficiently
and securely between mortgage lenders, investors, servicers,
brokers, appraisers, analysts, agencies and others.
The new standards are designed to support all types of incomeproducing
property, including office, industrial, retail, multifamily,
assisted living, self-storage, mobile home parks and hotels. There are
87 fields in eight data containers that make up the MISMO standard
for a rent roll. Specific data fields at the property level include:
Data required for the standard was sourced from multiple lenders,
vendors and industry participants, who referred to various rent-roll
templates currently utilized by asset and property managers. The
standards contain the most commonly utilized data points.
The standards can be viewed online at www.mismo.org. Industry
members and the public are invited to comment on the draft, with
final adoption expected in February 2017. The standards are
dynamic and have the potential to evolve further over time.
Also included as part of the standards are a Logical Data Dictionary
with updated rent-roll dictionary definitions, sample XML for Internetfriendly
data reporting and sharing, the rent-roll data model (XSD),
and business use cases that demonstrate the efficacy of the
standards in multifamily, retail and senior housing scenarios.
Implications for Valuing and Transacting Assets
The standards for the collection and reporting of rent-roll data
promulgated by Commercial MISMO are meaningful and have the
potential to improve the valuation and transaction of assets at
every phase of their lifecycle.
Industry participants including investors in commercial mortgagebacked
securities (CMBS) and other real estate investment products
all benefit from consistent, transparent reporting standards.
While the standards are a big step forward for the industry, voluntary
compliance is insufficient to assure the degree of transparency
needed to value and manage assets with surety. Compliance with
the standards should be mandatory at least for all public CMBS
loan transactions as it provides a strong mechanism to reduce risk
and volatility, in the view of this author.
Jim Flaherty, a CREFC member, was chair of the working group that
developed the Commercial MISMO rent-roll standards. He is the founder
of mortgage originations platform Backshop and CEO of CMBS.com.
• Tenant Name
• Tenant Contract Rent Amount
• Unit Number
• Tenant Type
• Lease Begin Date
• Lease End Date
• Lease Status Type
• Unit Size
• Currency Code
CRE Finance World Winter 2017
26

Sharing the Experience — As Co-
Working Grows, the Office Isn’t
Necessarily an Office Anymore
Steve Jellinek
Vice President Research,
Structured Finance
Morningstar
Credit Ratings
Edward Dittmer, CFA
Vice President CMBS
Morningstar
Credit Ratings
Lea Overby
Managing Director
of Research,
Structured Finance
Morningstar
Credit Ratings
F
ueled by structural changes in the workforce and
mainstream companies looking for more flexible expansion
options, co-working — another facet of the sharing
economy — will play a more significant role in commercial
real estate, posing challenges to underwriting and valuation
standards for the commercial mortgage-backed securities market.
While loans with exposure to co-working account for a small portion
of the CMBS universe, office loans with exposure to co-working
spaces could become a significant part of the CMBS universe
as this business evolves.
Since co-working’s inception with executive suite giant Regus
PLC, the number of co-working spaces climbed to about 7,800
globally, a 36% rise between 2014 and 2015, according to a
survey conducted by Deskmag, a co-working magazine. Even with
this rapid growth, these companies lease roughly 1 million square
feet backing just 1.1% of the $139.32 billion in outstanding CMBS
office loans, as of November 2016. That’s a small portion of the
849.9 million square feet of leasable office space that secures
these loans. Nevertheless, co-working, which typically involves
individual members or member businesses paying a fee to share
office space, is spreading quickly, evolving with pioneering rental
models and innovative service offerings.
That’s not to say that co-working will expand unabated. We believe
growth will come in fits and starts, as factors such as unpredictable
revenue streams, lack of long-term commitments, and economic
uncertainty will play a role. Additionally, fixed costs can be high
because co-working providers usually rent their space upfront
and must build out the space and amenities before they can lease
space to tenants. Furthermore, volatility may be high because of
the lack of barriers to entry and a fragmented customer base, with
niche players coming and going to serve everyone from healthcare
technology to writers and designers.
To protect investors from increased cash flow volatility, underwriting
and valuation standards must evolve. In this regard, identifying
organic demand is critical. A building with a co-working company
as a tenant may have strong leased occupancy, but that may not
paint an accurate picture of how much that space is being used. To
gauge demand, Morningstar Credit Ratings, LLC looks at the property’s
historical occupancy and occupancy within the collateral’s
market. If these rates are lower, then we would assume for underwriting
purposes that less space may be used than what current
leased occupancy rates would otherwise suggest. Likewise, we
may temper our occupancy expectations in areas showing signs of
a bubble, where demand is outpacing supply and rents are rising.
Shared Workspaces Offer Flexibility
A typical co-working space is a site where independent professionals,
freelancers, and even corporations — anyone with workplace
flexibility and mobility — can come to work on a shared floor. The
co-working sponsor leases space from the primary landlord and
then subleases to individuals or corporations by desk, private office,
or suite. The operator provides flexible terms, various amenities,
and building programs to create a strong sense of collaboration
and synergy.
Co-working spaces have been largely occupied by independent
workers seeking a cost-effective place to work outside the home,
but corporate occupiers are showing increased interest in shared
workplaces. Although millennials, which we define as those born
between 1980 and 2000, are major influencers of office design
and will most likely factor into how companies address co-working,
they are not solely behind this trend. According to CBRE Group,
Inc., 63% of workers using these spaces are between the ages of
31 and 50, and less than 25% are millennials.
Largest Players
While there are numerous co-working companies, most are too
small to be among the five largest tenants at a property backing
a CMBS loan. However, we found six co-working companies, the
largest of which is Luxembourg-based Regus, that are one of the
five largest tenants for CMBS collateral. Although not a traditional
co-working company, Regus is gradually expanding into co-working.
For 2015, the company reported more than 2,700 locations
worldwide and more than 46 million square feet of office space,
which it subleases through a business model similar to co-working;
however, most of it is traditional office space. In 2016, Regus
expanded on its co-working format, called Spaces, in the U.S.
Regus leases more than 545,000 square feet in 27 properties
securing $867.8 million in U.S. CMBS loans, but tenant risk is low,
as it has more than 20% of the gross leasable area at just one
property, which backs a $5.7 million loan. The workspace provider,
which reported a healthy pretax profit of £84.3 million for the first
half of 2016, up from £79.1 million for the first half of 2015, has seen
revenue increase at an average of 15.3% per year from 2011-15.
WeWork, which opened its first location in 2010 in New York City,
operates 128 co-working locations in 39 cities and 12 countries
with plans to expand into India, according to its website. The
company has become one of New York City’s largest occupiers
of commercial real estate, with roughly 2.8 million square feet as
of January 2016, according to Newmark Grubb Knight Frank, a
meteoric increase from 42,000 square feet in 2010.
A publication of CRE Finance World Winter 2017
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Sharing the Experience — As Co-Working Grows, the Office Isn’t Necessarily an Office Anymore
However, WeWork appears to have grown too large, too fast. In
June 2016, Bloomberg and other news organizations reported that
WeWork cut 7% of its workforce and implemented a hiring freeze.
CMBS exposure to WeWork is small, as the company leases a
little more than 500,000 square feet in eight properties that back
$514.1 million in loans. But any problems could be magnified
because of concentration risk—the company occupies more than
40% of the space at six properties backing CMBS loans with a
$162.6 million combined balance.
Other co-working companies have had their struggles as well,
underscoring the fact that co-working isn’t always profitable.
In October 2016, Sunshine Suites, one of New York City’s first
co-working companies, which opened in 2001, shuttered its last
location, and five-year-old New Work City closed its doors in June
2015. Both faced declining tenant retention rates amid increased
competition from WeWork.
Corporate Demand
Despite WeWork’s pullback, the trend in co-working appears to
be poised to enter a new growth phase. Large employers make up
the fastest-growing market for WeWork, according to Bloomberg.
Corporate demand drivers are as varied as those of entrepreneurs
and independent workers and range from cost savings and labor
skill shortages to the need to satisfy the requirements of specific
departments and project teams that may not fit the cultural mold
associated with legacy office space. Additionally, co-working allows
corporations flexibility to expand and cut space requirements
according to business demand, while a conventional office lease
does not typically have that flexibility.
Facing the challenge of rising wages and rents in urban areas,
where companies must compete to secure the best talent,
companies are exploring co-working space to attract and retain
millennials. According to a study conducted by HOK, an architectural
and engineering design firm, large and midsize businesses are
embracing workplace flexibility to attract and retain talent as well
as increase employee engagement.
As co-working spaces go corporate, larger companies have discovered
that co-working also fosters connectivity. With their employees
working side by side with startups, large businesses hope to be
better-equipped to spot emerging trends, continue innovation, and
identify opportunities to sell services. For example, Verizon has
teamed up with Regus to provide its employees a network of flexible
space, taking advantage of cost savings and being closer to
customers. In Los Angeles; New York City; Tucson, Arizona; Texas;
and other locations, the telecom company could reduce some of its
2 million square feet of its leased space and use more co-working
space over the next five years, according to CBRE. WeWork
tenants include KPMG and Microsoft Corp. KPMG, for instance,
provides business services to startups while sharing space
alongside the young entrepreneurial crowd.
Co-working is also a useful way to manage real estate costs,
because the shared space is not always more expensive than
traditional office space. According to a CBRE report, in the
Washington, D.C., market, the average annual cost for 10 desks
in a co-working space is $52,000-$84,000, which compares
with $72,000-$92,000 for traditional leased space. Co-working
companies are able to make this differential work because they
can spread their costs out over a greater volume of tenants than
traditional landlords.
Furthermore, co-working allows employees to work independently
without having to consolidate remote or satellite offices. For
example, Miami-based homebuilder Lennar Corp. rents space in
Chicago and Minneapolis from co-working company Industrious
so it can hold meetings near construction projects, according to
Bloomberg.
Rolling Leases, New Business Models, and
Unconventional Workspaces
As interest ramps up, corporate tenants may consider switching to
co-working space as economic uncertainty and tightening markets
are compelling companies of all sizes to better manage expenses
and space. In particular, there will soon be many corporate tenants
who signed inexpensive, 10-year leases after the financial crisis
that will face a potentially higher price tag when it’s time for renewal.
As of November 2016, we found that leases on 182.2 million
square feet of office space, which back $74.94 billion in CMBS,
expire through year-end 2018. If just 1% switched to co-working,
the amount of co-working space in CMBS would double.
According to online news outlet Bisnow, two former WeWork
executives and a partner are developing what they term “co-working
in a box.” The plan is to allow office landlords to turn their vacant
space into a co-working environment and turn a profit themselves.
The trio will provide design, construction, and engineering to turn it
into a viable co-working space. Landlords can choose to manage
the co-working space themselves or use a third party.
Since co-working emerged as an option for office space, competition
among co-working companies has revolved around different rental
models and new service offerings. Recently, these companies
are thinking outside the proverbial cubicle to expand demand.
CRE Finance World Winter 2017
28

Sharing the Experience — As Co-Working Grows, the Office Isn’t Necessarily an Office Anymore
According to an October article from The Real Deal, WeWork
is preparing to launch an investment vehicle to buy its own real
estate properties then sell and lease the space back, which would
bring in more outside investors through a dedicated investment
fund with outside capital. Through this plan, WeWork would directly
compete with some office landlords it partners with. Additionally, a
person familiar with WeWork told The Real Deal that the company
is exploring managing headquarters or large office campuses for
corporations.
Although most co-working environments are in office buildings,
Workbar, a Boston-based company, recently partnered with
Staples to fill vacant or underused retail space and opened shared
workspace locations in three of Staples’ suburban stores. The
concept provides Workbar with a partner in case of an economic
downturn and access to tenants who want to escape their home
offices but would find the commute to the nearest city onerous.
However, it may not be the big money making answer to the glut
of retail space on the market left by the ongoing consolidation of
big-box stores.
Even restaurants double as a shared workspace. Spacious, a New
York City startup, offers restaurant space to freelancers and others
during empty hours, which serves as an alternative to busy coffee
shops. Unlike the typical co-working model, Spacious does not
sublease space from the landlord. Rather, the company charges a
monthly fee for access to all locations and shares the profits with
its partner restaurants.
Investment in properties with a focus on shared workspaces
has generated interest from REITs. For example, Resource Real
Estate Innovation Office REIT Inc. acquires buildings that provide
a collaborative office space environment. It looks to buy existing
creative space and traditional office space that it would renovate.
Its offering prospectus says it is interested primarily in markets
that attract young, creative, and educated office workers, which
are the types of employees for whom creative space has the
greatest appeal.
The Bottom Line
In today’s fast-changing and uncertain business environment,
flexibility and agility are priceless. As companies of all sizes are
tightening expenses and space, we expect co-working to expand
because of enduring trends that are shaping workplaces. We
also do not believe co-working threatens the traditional landlord
business model. Rather, shared workplace offerings can be an
important part of a landlord strategy to attract and retain tenants.
CBRE forecasts that traditional workspaces will be in the minority
by 2030.
As co-working evolves, so must CMBS underwriting and valuation
standards. Larger, better-capitalized companies will make up a
large part of co-working spaces. However, given the fragmentation
in the market, investors may have to become more accustomed to
cash flow volatility as smaller players in the marketplace come and
go. Lenders may have to seek additional security in CMBS loans
that are backed by co-working spaces to account for this volatility.
In addition, leased occupancy may not always be the true barometer
of how much space is being used. Demand, as measured by
occupancy at a property within the collateral’s market, is a better
indicator.
We expect growth to be uneven, however, adding another layer
of risk to commercial real estate. With its unpredictable revenue
streams and high fixed costs, the shared-space concept is difficult
to successfully pull off. Co-working has yet to be tested in a
downturn; a bear market would suppress office space demand
from freelancers and small businesses that have short-term leases
and larger businesses that have sizable leases with co-working
providers. Operators that focus on membership diversity are likely
to have more stability through the next economic downturn.
DISCLAIMER
The content and analysis contained herein are solely statements of opinion
and not statements of fact, legal advice or recommendations to purchase,
hold, or sell any securities or make any other investment decisions. NO
WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELI-
NESS, COMPLETENESS, MERCHANTABILITY OR FITNESS FOR ANY
PARTICULAR PURPOSE OF ANY SUCH RATING OR OTHER OPINION
OR INFORMATION IS GIVEN OR MADE BY MORNINGSTAR IN ANY
FORM OR MANNER WHATSOEVER.
To reprint, translate, or use the data or information other than as provided
herein, contact Vanessa Sussman (+1 646 560-4541) or by email to:
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A publication of CRE Finance World Winter 2017
29

Market Disruptors — Commercial
Real Estate: Innovations That
Are Changing the Industry
Lauren Foley
Financial Specialist
Federal Reserve Bank of Atlanta
R
apid technological developments are upending traditional
business models across industries. The commercial real
estate industry is no exception. From E-commerce to
sharing economy companies like Airbnb and Uber to
online FinTech companies, commercial real estate firms
are faced with adapting to the increasingly popular innovations
of the recent decade. This article explores various CRE market
“disruptors”, how they have already impacted the industry and the
potential effects to come.
Table 1
Disruptors
E-commerce
Crowdsourcing Networks
Vacation Rental Platforms
Ride-hailing Services
Fintech/Online Banking
Data Science
Automation
Autonomous Cars/Electric Vehicles
3D printing
Table 2
Themes
Cheaper
Faster
Safer
More efficient
More convenient
Market Disruptors
For our purposes, a market disruptor is an innovation that creates
a new market or value network that disrupts the current market,
improving efficiency and opportunity, while potentially displacing
products, firms, and partnerships. Typically, these disruptors
originate outside the market from entrepreneurs who recognize an
opportunity for enhancement in the market. Since technology is
always evolving, so is the possibility of new disruptive innovations.
Disruptors are innovators, but not all innovators are disruptors. The
simple development of a new product will not necessarily bring
about significant changes in the way a market works.
E-Commerce
The impact of technological innovation in CRE markets is most
evident in the changes that have occurred in the wake of the
e-commerce explosion. The e-commerce platform has disrupted
the dynamics of how we purchase and receive goods. As commerce
has moved out of the mall and onto the internet, the demand
for traditional retail space has fallen. At the same time, meeting
customers’ needs and expectations in the new e-commerce
market is leading to changes in distribution models, which, in
turn has increased the demand for warehouse space.
With the more recent onset of same-day or two-day delivery,
consumers are wrapped up in the “need it now” mentality. This is
causing retailers to adapt to the changing demands through new
supply platforms. A concept called the omni-channel is especially
important for bricks and mortar companies that are trying to
compete with the innovative and speedy delivery services provided
by firms such as Amazon. Using the omni-channel concept, firms
can offer consumers numerous, easy channels through which they
can purchase products. Adopting these types of arrangements
will require companies to enhance their logistics. In a recent study
of retailers, approximately 37 percent said they were beginning to
consider shipping goods from retail locations (rather than industrial
centers) to provide same-day delivery options to their nearby client
base. If the demand for significantly reduced delivery times becomes
the norm, new retail space may need to include an industrial element
to house additional stock.
The Sharing Economy
The sharing economy, also called the collaborative economy, is a
peer to peer economic model in which individuals rent or purchase
goods and services from other individuals in a mutually beneficial
manner, typically through online marketplace platforms. Examples
of sharing economies are alternative financing, vacation rental, and
transportation platforms. Let’s take a closer look at how aspects of
the sharing economy are shaking up commercial real estate norms.
Crowdsourcing Networks
Crowdsourcing networks are platforms that connect parties
seeking funding with parties willing to provide funding, offering
increased flexibility and opportunities for both. These networks
provide developers in the commercial real estate business with
additional options for financing new projects, especially when
compared to banks which may have stricter lending standards
and regulatory requirements. One such company, Fundrise, focuses
on making commercial real estate investment opportunities
available to anyone by sourcing and underwriting deals. Another
platform, Kickstarter, allows entrepreneurs to present startup and
CRE Finance World Winter 2017
30

Market Disruptors — Commercial Real Estate: Innovations That Are Changing the Industry
project ideas to a community of potential investors. These networks
also include peer to peer lending platforms for consumers, such as
Lending Club and Prosper. By going outside of traditional financial
intermediaries, innovative deals can be considered and agreements
reached in a more expedient manner.
Vacation Rental Platforms: Airbnb and Homeaway
Airbnb (founded in 2008) and Homeaway (founded in 2005) are
the two most popular online marketplaces that specialize in travel
accommodations, allowing people to list and rent places to stay.
These companies use algorithms to help travelers find the best
short-term rental to meet their needs. Since its inception, Airbnb
has quickly become a major player in the travel accommodations
market. Euromonitor International, a London-based global market
research firm, projects Airbnb to be the world’s second largest travel
accommodations provider, in terms of total room sales, by 2020.
years; however, hotel companies are already considering the
footprint of these short-term rental companies when looking at
new developments.
Ride-hailing services: Uber and Lyft
Ride-hailing services like Uber and Lyft seem to be challenging
traditional taxi services. These companies, accessible through
mobile applications, provide a quick and convenient way to
arrange transportation.
Table 4
To Rent or Ride?
Professionals are choosing Uber and Lyft over renting a car when traveling
on business.
Table 3
Top Hotel and Short-Term Rentals Value Sales 2011–2020
Source: Certify
Source: Euromonitor International
Note: 2016–2020 data are forecast. Agreed mergers at time of writing are taken into consideration,
further consolidation can change forecast.
Airbnb’s success doesn’t stop at short-term rentals: the San
Francisco-based company has also delved into longer-term rentals
through sublets for monthly stays. Interesting consequences have
come from Airbnb’s popularity, from regulation to outright bans in
some communities. Despite these roadblocks, Airbnb continues to
move forward as a dominant market presence.
As Airbnb and Homeaway increase in popularity in the travel and
vacation rental space, hotel chains may see a decrease in room
rentals. If demand for traditional hotel accommodations drops,
hotel chains may be forced to limit new construction and reduce
rates to stay competitive with alternative options provided by on-line
rental platforms. It remains to be seen how much momentum these
alternative accommodation companies will gain over the next few
Certify, the second-largest provider of expense software in North
America, recently released the adjacent graph depicting the steady,
strong increase in rider preference for ride-hailing means of
transportation. In just two years, ride-hailing services have grown
from about 8% of total business travel car transportation to 46%,
surpassing the already declining taxi rides and car rentals in
the last quarter of 2015. Certify looks at business professionals
in particular, but a very similar trend can be seen in personal
transportation preferences.
Table 5
Uber: Key Data Points
App availability 60 countries and 300 cities worldwide
Daily rides
One million
Total riders
Over eight million
Active drivers Over 160,000
Source: Uber
A publication of CRE Finance World Winter 2017
31

Market Disruptors — Commercial Real Estate: Innovations That Are Changing the Industry
As ride-sharing increases, it is possible that the amount of parking
required will decrease. A reduced need for parking would allow
for alternative land use. As new CRE developments are planned,
developers may also have the opportunity to reduce construction
costs and improve green space in some projects.
Technology-focused Market Disruptors
In addition to effects of the sharing economy, other advancements
in technology in recent years have expanded the capabilities
previously known to businesses and consumers and are impacting
the CRE industry.
Workforce Expectations
Technological advances in communications allow employees
to work efficiently from remote locations. Employees favor the
flexibility provided by such arrangements and demand for off-site
work is growing. As companies revamp their business models to
accommodate employees, office space is being redesigned to
foster more creativity and collaboration. As a result, the demand
for traditional office space is falling.
“Disruptors are innovators, but not all
innovators are disruptors.”
Fintech/Online Banking
The Fintech world, short for financial technology, has exploded
within the past five years. Fintech refers to new applications,
processes, products or business models in the financial services
industry that enhance consumers’ access to data, debt, asset
management, and other financial services. This innovation in
financial services is creating a vast number of improvements (and
challenges) in the financial industry. The adaptation of mobile
applications by existing banks increases the ease through which
customers interact with the bank, particularly to perform simple
tasks such as depositing a check or transferring money. New
financial entities that provide bank-like services, with a fully mobile
presence, are also being created. Access to equity, data, and asset
management assistance has expanded dramatically and is available
through a smartphone, allowing for a widespread disruption of
activity in the financial industry.
Fintech disruptions may have consequences for the demand for
bank branch space and other office space. Fintech startups do
not need the same workforce as a traditional bank and likely favor
creative-concept office layouts over standard layouts, also impacting
the type of space needed.
Data Science
Data science is an interdisciplinary field with the main goal of
extracting knowledge or insights from data for analysis and to
better inform decisions. As is the case in many (if not all) industries,
data driven analysis and models are being used to generate key
conclusions within the CRE space. From this analysis, CRE-focused
companies can understand market trends and develop new metrics to
quantify particular market conditions. Analysts interpret the outcomes
to inform decisions on the areas and types of development needed
in the market place.
Automation
The Future of Employment, published by Frey and Osborne in late
2013, explores the “probability of computerization”, the idea that
technological advances could begin replacing certain types of jobs
in today’s society. The authors made note of three job performance
aspects unique to human intellect and cannot be replaced with a
computer: perception, creative intelligence, and social intelligence.
Surprisingly, the study revealed a high probability of automation
for: Property Association Managers (81 percent), Real Estate
Sales Agents (86 percent), Real Estate Appraisers (90 percent),
and Real Estate Brokers (97 percent). So although real estate is
for people (where we live, work, shop, play, store things, etc.),
according to this study, there is a high chance that humans could
be replaced in part of the real estate equation. In terms of actual
CRE space, computer replacement of human jobs would most directly
affect the office sector, for obvious reasons. Not only could the
demand for office space decrease, the functionality and internal
design of the remaining space would likely need renovation.
Autonomous Cars and Electric Vehicles
Both electric and autonomous cars continue gaining popularity.
If this continues, the CRE space may need to adapt accordingly.
Additional charging stations might be needed for electronic vehicles,
passenger pick up and drop off (at offices or retail spaces) lanes
may be added, and, especially if coupled with implications from
further development in the sharing economy, fewer parking spaces
may be required.
3D Printing
The concept of 3D printing, also known as additive manufacturing,
is straight-forward: successive layers of a particular material are
set under the control of a computer to create an object. Plans for
pretty much any object can be made with almost any material that
can be inserted into a printer. As 3D printing becomes more readily
available, there could be a shift in the production of goods. New
companies may emerge that specialize in 3D printing production,
CRE Finance World Winter 2017
32

Market Disruptors — Commercial Real Estate: Innovations That Are Changing the Industry
further reducing the need for retail space and significantly changing
the way industrial space is used. These companies may look more
like manufacturing plants — warehouse space filled with 3D printers
and raw materials. In such a scenario, orders would come in via the
internet, be produced by the printers, dropped in a box and shipped
via a drone — talk about fast delivery!
Summary
The market disruptors explained here are but a fraction of all of the
new and innovative changes occurring today. Supervised institutions
should be aware that these changes are occurring and, in some
instances, may want to reflect such considerations in their
underwriting of CRE credits. A common theme with respect to
the impact of technology on CRE is the change in property usage,
which can already be seen as a result of e-commerce. As the
necessity of face-to-face interactions with customers continues to
decrease as new technologies enter the market, the potential for
retail space to be overtaken by industrial space persists. Technology
driven changes to company structures and workplace expectations
are reducing the need for traditional office space and creating a
demand for more creative- and collaborative-concept layouts. As
innovation continues, the demand for traditional office space may
continue to drop.
Shared or collaborative economies, enabled through network
platforms, are also affecting CRE in multiple areas. Crowdfunding
platforms are providing firms and individuals with a range of options
for finance and investment, outside of the traditional banking sphere,
giving impetus to more creative CRE endeavors that traditional
lenders could/would not consider. In the hotel industry, alternative
lodging options have introduced a new element of competition, which
could result in reductions in room revenue and slower growth.
Shared ride platforms, along with other technological changes like
autonomous cars, may reduce the need for parking and allow
more productive use of space. While adapting to the rapid pace
of change may be challenging, the opportunities provided are
exciting, particularly to those firms that can quickly adapt.
References/Further Reading
Airbnb/Homeaway
https://skift.com/2016/06/17/the-business-of-hotels-vs-short-termrentals-in-4-charts/
https://www.airbnb.com/sublets
http://blog.airbnb.com/economic-impact-airbnb/
http://www.usatoday.com/story/tech/news/2016/09/22/airbnb-hasraised-555-million-30-billion-valuation/90850984/
http://nreionline.com/multifamily/some-apartment-managers-willingpartner-airbnb-price?NL=NREI-21&Issue=NREI-21_20160927_
NREI-21_173&sfvc4enews=42&cl=article_3&utm_
rid=CPG09000005673573&utm_campaign=7185&utm_medium=email
&elq2=6d41dad9d69e4159a54c88f966167402
Uber/Lyft
http://www.bloomberg.com/news/articles/2016-04-21/uber-overtakesrental-cars-among-business-travelers
http://www.businessofapps.com/uber-usage-statistics-and-revenue/
http://www.nytimes.com/2016/09/02/business/big-decline-in-us-autosales-may-signal-end-of-six-year-boom.html?_r=0
http://www.zipcar.com/
Crowdsourcing Networks
http://www.moneycrashers.com/sharing-economy/
https://www.kickstarter.com/help/stats
https://fundrise.com/
http://knowledge.wharton.upenn.edu/article/is-crowd-sourced-fundingfor-commercial-real-estate-the-next-big-disruptor/
http://www.naiop.org/en/Magazine/2016/Spring-2016/Business-
Trends/Four-Key-CRE-Disruptors.aspx
Autonomous Cars
http://www.marketwatch.com/story/uber-drivers-wont-accept-autonomous-cars-without-a-fight-2016-09-15
http://www.driverless-future.com/?page_id=384
https://www.wired.com/tag/autonomous-vehicles/
(This link relates to a number of topics here): http://gppreview.
com/2016/09/01/announcing-spring-2017-theme-disruption/
Drones/E-commerce
http://www.forbes.com/sites/gregorymcneal/2014/07/11/six-thingsyou-need-to-know-about-amazons-drones/#598a3d1c5a0a
http://www.logisticsmgmt.com/article/25th_annual_masters_of_logistics
3D Printing
https://www.engadget.com/2015/12/10/adidas-futurecraft-3d-closerlook/
FinTech/Online Banking
Data Science
http://www.naipartners.com/Portals/248/DATA_SCIENCE_BRO.pdf
Automation
http://www.oxfordmartin.ox.ac.uk/downloads/academic/The_Future_of_
Employment.pdf
More interesting topics not mentioned above
Trucking industry disruption: http://www.engineeringnews.co.za/article/
barloworld-transport-to-embrace-trucking-disruptors-2016-09-01/
rep_id:4136
A publication of CRE Finance World Winter 2017
33

Lurking Behind the CMBS
Maturity Wall in 2017,
Interest Shortfalls
Eric Thompson
Senior Managing Director
Kroll Bond Rating Agency
Larry Kay
Director
Kroll Bond Rating Agency
A
s we approach 2017, the long-awaited final chapter
of the CMBS Wall of Maturities trilogy is upon us. The
maturing loans that come due next year currently total
approximately $102 billion and were largely originated
at the height of the last market peak, between 2005
and 2007. While the sheer volume of these loans has been well
publicized, there has been less focus on the amount of workout
fees that will be associated with the large volume of corrected
mortgage loans (mostly 2007 originations) that come due in 2017.
To the extent market constituents aren’t already doing so, CMBS
investors should brace themselves for the consequences of these
fees, which generally cause certificate interest shortfalls.
The 2007 originations were made during the best of times, including
peak real estate prices and abundant liquidity. With credit widely
available, aggressive underwriting also prevailed during this period,
raising the question ‘were the worst loans made during the best
of times?’ Based upon the amount of loans that were corrected,
the answer to this question in many cases is ‘yes’. Based on
information from our KBRA Credit Profile Portal (KCP) and Trepp,
LLC, there are currently $8.62 billion of corrected loans (351
loans) maturing next year, which currently serve as collateral in 83
securitizations. We’ve included the top fifty corrected 2017 mortgage
loan maturities by current principal balance in the appendix. These
loans ($5.75 billion) account for approximately two-thirds of the
corrected 2017 maturities total principal balance.
Typically, the special servicer receives a workout fee for a corrected
loan equal to 1.0% of each payment of interest and principal
(including the balloon balance) for as long as the loan remains
a corrected loan. If a 1.0% fee (most common percentage) on
the balloon balance of all 2017 corrected loan maturities were
assumed, the aggregate interest shortfall amount across all of
the related trusts is sizeable, at $86.2 million.
Correcting a Non-Performing Loan
Underperforming loans are generally transferred to the special
servicer due to a 60-day delinquency, a maturity default, as well as
an imminent or material non-monetary default, or bankruptcy event.
Once a loan is transferred to special servicing, the special servicer
may be entitled to receive various fees including a workout fee
or a liquidation fee. Generally, a specially serviced mortgage loan
achieves “corrected” status if and when the circumstances that
caused such loan to be transferred to special servicing have been
cured or otherwise addressed. For example, a specially serviced loan
would typically be considered corrected in the following cases:
if the borrower makes three consecutive debt service payments
after a payment default; if the circumstances cease to exist in the
servicer’s judgment with respect to an imminent default; or there is
a cure of the related material non-monetary default, or bankruptcy
event. Once a loan is corrected, it will be transferred back to the
master servicer; however, if the loan is subsequently transferred back
to special servicing, the special servicer will no longer be entitled
to a workout fee. Instead, if the loan is liquidated, the special servicer
will be eligible for a liquidation fee.
In CMBS 1.0 conduit transactions, liquidation and workout fees were
generally equal to 1% of the disposition proceeds or subsequent
collections of principal and interest, respectively. In CMBS 2.0
and 3.0 conduit transactions, liquidation and workout fees are
typically equal to the lesser of $1.0 million and 1% of the disposition
proceeds or subsequent payments of principal and interest,
respectively. The special servicer can receive either a liquidation
fee or workout fee, but not both. The fees are supposed to help
incentivize the special servicer to successfully workout, or liquidate
a defaulted loan.
Corrected Mortgage Loans Can Generate Significant
Interest Shortfalls
Interest collected on the underlying loans is typically passed through
to certificateholders after certain amounts are netted out at the
top of the waterfall, including fees payable to the master and
special servicer. The remaining interest is then typically distributed
to the certificateholders on a sequential basis, from the senior (pari
passu among the most senior classes, if applicable) to subordinate
classes. It is possible that, once servicing fees are netted out,
there may not be sufficient interest available to make scheduled
distributions on a class or classes of certificates. This will result
in interest shortfalls on these classes.
A workout fee can be significant in any one transaction and,
depending on the size of the fee relative to the outstanding
transaction balance, could potentially generate interest shortfalls
throughout the capital stack, including senior classes that are or
were originally rated investment grade. One example is in the Bank
of America Commercial Mortgage Inc. (BACM) Series 2007-2
transaction. In this transaction, there are eight corrected mortgage
loans with an aggregate outstanding principal balance of $309.4
million. Of these loans, the second largest is the Beacon Seattle
& Washington D.C. Portfolio ($128.6 million) loan which matures
in May 2017. With a 1.0% workout fee, interest shortfalls on the
Beacon loan’s current outstanding balloon balance would be $1.29
million and would cause shortfalls in the capital stack up to the AJ
class. Based on our understanding of the modification terms, the
borrower is not responsible for reimbursing the trust for these fees;
and as a result, the fees will be additional trust fund expenses. The
Beacon Seattle loan is part of a whole loan combination with a
current outstanding balance of $920.5 million that was split
into seven pari passu notes. The six other pari passu notes with their
respective current outstanding principal balances are as follows:
CRE Finance World Winter 2017
34

A Different Kind of
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Lurking Behind the CMBS Maturity Wall in 2017, Interest Shortfalls
MSC 2007-IQ14 ($264.0), BSCMS 2007-PW16 ($158.3),
WBCMT 2007-C31 ($158.4), WBCMT 2007-C32 ($152.1),
MSC 2007-HQ12 ($31.6), and MSC 2007-HQ12 ($27.5).
The Fee Evolution
While the workout and liquidation fee percentages have remained
consistent since CMBS 1.0, certain constraints on fees have been
imposed. In CMBS 2.0, a provision was introduced in the servicing
agreement whereby the amount of workout or liquidation fees
that the special servicer can collect be offset by the amount of
modification fees previously received from the borrower. Another
change from CMBS 1.0 was the addition of a provision in loan
agreements in CMBS 2.0 and 3.0 that requires the borrower to
reimburse the trust for trust expenses including special servicing
fees, liquidation fees and workout fees. Also in CMBS 3.0 deals,
the amount of workout fees and liquidation fees that the special
servicer can receive is generally capped at $1.0 million per mortgage
loan. However, as some of these provisions have not been universally
adopted, they can vary among originators and transactions.
The CMBS industry continues to look at ways to improve the
workout fee arrangement and minimize the impact on distributions
to certificateholders. For example, in the recent JPMCC 2016-JP3
transaction, two of the conditions for transferring a defaulted loan
to special servicing were modified under the pooling and servicing
agreement (PSA). Previously, a loan was transferred to special
servicing if the master servicer made a judgment or received a
written determination from the special servicer (with the consent
of the directing holder) that a payment default is imminent and not
likely to be cured by the borrower within 60 days of the default.
Under revised language, an imminent loan transfer will be based
solely upon the master servicer’s determination, which essentially
limits the number of parties that can trigger an imminent default
transfer. The second change to the servicing transfer provisions
is that if a loan is in maturity default but the borrower provides an
executed refinancing commitment that is scheduled to close within
120 days, a special servicing transfer event should not be triggered.
This modification lengthened the time generally from 60 to 120
days before a transfer to special servicing due to a maturity default
could occur. These provisions may limit the number of loans that
ultimately end up as corrected loans.
Absent other mechanisms to compensate or incentivize special
servicers, we expect that workout fees and their resulting interest
shortfalls will continue to be part of the CMBS landscape, but
hopefully to a lesser extent than in 2017.
Thank You to CREFC PAC’s Sustaining Donors.
Malay Bansal
Kevin Blauch
Daniel Bober
Kent Born
Larry Brown
Bob Cherry
Nik Chillar
Daniel Choi
Richard Coppola
Margie Custis
John E. D’amico
Kim Diamond
Annemarie DiCola
Eric Draeger
David Durning
Jeffrey Fastov
Michael Flood
Robert Foley
Jospeh Forte
Drew Fung
Anand Gajjar
Timothy Gallagher
Anna Glick
Larry Golinsky
Merrick L Gross
J. Christopher Hoeffel
Guy Johnson
Richard Jones
Robert Kao
Robert Karner
Stephen Kraljic
Larry Kravetz
Charles Lee
Michael May
William McPadden
Gregory Michaud
Bruce Morrison
John Mulligan
David Nass
Gregory Null
Robert O’Connor
William O’Connor
Brian Olasov
Kathleen Olin
Dan Olsen
Cory Olson
Issac Pesin
Michael Pettingill
Kurt Pollem
Mitchell Resnick
Joseph Rubin
S&P Global PAC
Matthew Salem
Gerard Sansosti
Patrick Sargent
Richard Schlenger
Marci Schmerler
Ronald Schrager
Martin Schuh
Jonathan Schultz
AJ Sfarra
Scott Sinder
Jan Sternin
Jonathan Strain
Clay Sublett
Laura Swihart
Michael Syers
Brian Tageson
Kenda Tomes
Richard Trepp
William Trepp
U.S. Bancorp Political
Participation Program
Paul Vanderslice
Greg Winchester
Kevin Wodicka
Randolph Wolpert
Kelly Wrenn
Christina Zausner
Mark Zytko
CRE Finance World Winter 2017
36

Lurking Behind the CMBS Maturity Wall in 2017, Interest Shortfalls
Appendix
Top 50 Corrected 2017 Mortgage Loan Maturities
Deal
Loan Name
Current Pooled
Balance ($)
% of
Pool
Master
Servicer
Transfer
Date
Special
Servicer
Return
Date Property Type State
GSMS 2007-GG10 Wells Fargo Tower 550,000,000 11.2% 4/5/11 6/23/11 OF-Urban CA
LBCMT 2007-C3 237 Park Avenue 419,600,000 21.7% 1/14/10 5/16/12 OF NY
LBUBS 2007-C2 Sears Tower 333,042,650 21.1% 5/23/14 1/27/15 OF IL
GSMS 2007-GG10 400 Atlantic Street 265,000,000 5.4% 10/14/14 6/9/16 OF-Urban CT
MSC 2007-IQ14 Beacon Seattle & DC Portfolio Roll-Up 263,952,972 10.3% 4/7/10 5/18/12 OF-Urban DC
MSC 2007-IQ14 PDG Portfolio Roll-Up 200,014,424 7.8% 10/28/10 2/28/12 RT AZ
GSMS 2007-GG10 Tiaa RexCorp Plaza (A/B) 187,250,000 3.8% 10/14/10 3/21/12 OF-Suburban NY
CWCI 2007-C2 The Woodies Building 161,186,268 10.2% 3/31/11 11/17/11 MU DC
CSMC 2007-C3 Main Plaza 160,678,388 11.3% 7/20/10 6/7/11 OF-Urban CA
WBCMT 2007-C31 Beacon D.C. & Seattle Pool 158,409,650 4.1% 4/7/10 5/17/12 MU VR
BSCMS 2007-PW16 Beacon Seattle & DC Portfolio 158,285,960 9.5% 4/7/10 5/18/12 OF VR
WBCMT 2007-C32 Beacon D.C. & Seattle Pool 152,112,352 6.2% 4/7/10 5/17/12 MU VR
BACM 2007-2 Connecticut Financial Center (A/B) 130,400,000 10.8% 6/8/12 1/17/14 OF-Urban CT
BACM 2007-2 Beacon Seattle & Washington D.C. Portfolio 128,604,137 10.6% 4/7/10 5/17/12 OF VR
WBCMT 2005-C21 Metropolitan Square 124,144,153 32.0% 8/17/12 3/21/13 OF-Urban MO
BSCMS 2007-PW17 DRA / Colonial Office Portfolio 123,651,076 6.2% 8/21/12 5/29/13 MU VR
MLMT 2007-C1 DRA / Colonial Office Portfolio 123,651,076 5.7% 8/21/12 5/29/13 MU VR
WBCMT 2007-C31 Los Angeles International Jewelry Center 117,740,239 3.1% 4/17/09 7/12/11 MU CA
CSMC 2007-C1 Koger Center 115,500,000 8.0% 2/10/12 4/10/13 OF-Urban FL
LBUBS 2007-C6 Greensboro Park 106,926,767 7.4% 2/11/15 8/24/15 OF VA
BSCMS 2006-PW14 One Newark Center (A/B) 91,700,000 12.6% 10/17/12 9/26/13 OF-Urban NJ
JPMCC 2013-WT Willis Tower (A-3-A-2-B) 90,607,192 100.0% 6/23/14 1/27/15 OF-Urban IL
CSMC 2007-C4 Meyberry House 90,000,000 9.3% 10/8/09 5/23/11 MF NY
GMACC 2006-C1 Design Center of the Americas 87,707,264 32.4% 1/24/12 9/25/12 RT FL
GECMC 2005-C4 Design Center of the Americas 87,707,263 19.0% 1/24/12 9/21/12 RT FL
MSC 2007-IQ13 Gateway I 85,884,214 10.4% 11/22/10 7/18/11 OF-Urban NJ
BACM 2008-1 IBP 71,525,377 9.1% 6/4/14 2/2/15 OF-Suburban TX
LBUBS 2005-C5 270 Corporate Center (A/B) 69,593,843 33.8% 1/25/13 9/29/14 OF MD
WBCMT 2004-C11 Four Seasons Town Centre 66,080,410 71.0% 4/21/09 8/26/10 RT-Anchored NC
COMM 2007-C9 Congressional Rollup 65,181,694 2.9% 9/22/15 8/12/16 RT-Shadow Anchor MD
MSC 2007-HQ12 Beacon Seattle & DC Portfolio 59,072,585 9.1% 4/7/10 5/18/12 OF DC
LBUBS 2007-C7 Ritz Carlton Bachelor Gulch 58,124,033 2.8% 4/10/13 7/13/16 LO-Full Service CO
MLCFC 2007-7 10 Milk Street* 58,000,000 3.7% 12/21/12 2/25/14 OF-Urban MA
MSC 2007-HQ12 Four Seasons San Francisco 56,000,000 8.3% 6/4/09 10/24/11 LO-Full Service CA
LBUBS 2007-C2 Marriott Suites - Garden Grove 53,300,000 3.4% 4/6/10 3/24/11 LO-Full Service CA
MSC 2007-HQ13 Two Buckhead Plaza 52,000,000 9.5% 9/24/12 1/13/15 MU GA
LBUBS 2007-C7 Sears Tower 48,805,265 2.4% 5/26/14 1/27/15 OF-Urban IL
BACM 2007-5 Sherman Oaks Marriott 48,389,977 4.3% 8/30/10 3/15/11 LO-Full Service CA
BSCMS 2007-T26 909 A Street 48,000,000 3.5% 2/9/12 8/15/13 OF-Urban WA
JPMCC 2007-LD11 101 West Ohio Street (A/B) 47,231,792 1.7% 3/7/12 12/19/13 OF-Urban IN
WBCMT 2007-C32 Roosevelt Square 46,000,000 1.8% 11/19/10 3/13/14 RT-Anchored FL
MLCFC 2007-9 Cayre Portfolio 45,478,440 3.2% 1/26/11 10/4/12 MU VR
WBCMT 2007-C33 San Palacio Apartment Homes 45,000,000 2.0% 5/12/10 5/24/11 MF AZ
JPMCC 2007-CB18 Southside Works/Quantum Roll-Up (Crossed) 44,798,505 2.2% 4/13/12 10/30/13 MU PA
JPMCC 2007-CB20 Clark Tower (A/B) 43,500,000 3.0% 9/5/13 3/25/16 OF-Suburban TN
GSMS 2007-GG10 Riverpark I & II (A/B) 42,927,058 0.9% 7/8/10 5/20/14 OF-Suburban VR
WBCMT 2007-C30 Gateway Crossing Center 42,299,015 0.9% 4/18/12 7/16/13 RT-Anchored AZ
BSCMS 2007-PW18 Marketplace at Four Corners 41,771,128 3.2% 6/5/09 6/23/11 RT-Anchored OH
CSMC 2007-C5 Mystic Marriott 41,473,114 3.4% 4/28/09 7/30/10 LO-Full Service CT
WBCMT 2007-C30 NJ Office Pool (A/B) 40,500,000 0.8% 10/21/11 8/23/13 OF-Suburban NJ
Total 5,748,808,279
*The defeased loan is subject to workout fees as it was previously corrected.
Loan information as of 3Q 2016
A publication of CRE Finance World Winter 2017
37

Benchmarking CMBS Maturity
Performance and Loss Severities
with an Eye Toward 2017
Dennis Q. Sim
Director
S&P Global
James M. Manzi,
CFA
Senior Director
S&P Global
Deegant R. Pandya
Senior Director
S&P Global
Darrell Wheeler
Managing Director
S&P Global
W
ith $119 billion in performing commercial mortgages
scheduled to mature between now and the end of
2018, conditions in the economy and real estate
market will play a big role in the performance of those
loans. Refinancing conditions have been benign over
the past few years, but we expect payoff performance to deteriorate
next year, when roughly 77% of those loans come due.
The severity of the deterioration will depend on many factors. On
the positive side, moderate economic and job growth continue to
drive gradual improvement in fundamentals in most property types,
while demand for properties that is fueled in part by low available
yields has supported valuations.
Other factors engender caution. A higher proportion of loans
maturing through 2018 have lower debt yields (DY) than in previous
years, and a potential increase in interest rates or signs of slowing
growth could easily hamper refinancings. Also, U.S. risk retention
regulations set to go into effect on December 24, 2016 may add
uncertainty to refinancing loans in secondary/tertiary locations,
especially combined with regulators’ focus on bank lending in
those locations.
Overall Results Reflected A 77% Successful Payoff Rate For 2014 Through Third-Quarter 2016…
Table 1
Overall Payoff Performance Summary, 2014–Third-Quarter 2016
Debt yield range 2014 2015
Amount resolved (bil. $) Payoff %, including prepays* Term defaults (%) Maturity defaults (%)
Through
Q3 2016 2014 2015
Through
Q3 2016 2014 2015
Through
Q3 2016 2014 2015
Through
Q3 2016
No debt yield 9.3 4.0 1.2 56 72 55 39 25 37 4 4 7
8% < 18.4 22.3 24.0 32 48 46 57 41 42 11 12 12
8%-10% 9.9 20.9 18.1 71 84 77 19 10 13 10 6 10
10%-12% 11.6 21.8 18.2 86 91 85 7 4 7 7 5 8
> 12% 29.2 44.3 30.6 94 96 92 3 2 5 3 2 3
Total 78.3 113.3 92.1 71 82 75 23 12 17 6 5 8
Prepays (% of total) 58 54 62
*We define a prepay as a loan that paid off more than 30 days before its maturity date.
CRE Finance World Winter 2017
38

Benchmarking CMBS Maturity Performance and Loss Severities with an Eye Toward 2017
To provide a benchmark for potential maturity performance going
forward, we reviewed some $284bn in loan resolutions from
2014-2016 Q3.
Annual payoff rates were 71% for the $78 billion that resolved in
2014, 82% for the $113 billion in 2015, and 75% for the $92 billion
in 2016 (through the third quarter) periods, with the remainder
of the outcomes either term or maturity defaults. While nearly all
loans with a DY above 12% (and an overwhelming majority of those
above 10%) refinanced successfully, the percentage of payoffs fell
significantly for loans below an 8% DY, at 46% for year-to-date
2016 compared to an average of 75%. The performance for the
8%-10% DY bucket was roughly in line with yearly averages.
…But That Trend May Not Continue For 2017 Maturities
Table 2
Overall Maturing Loan Summary, 2016–Fourth-Quarter 2018 (Bil. $)
Debt yield range Q4 2016 2017 2018
No debt yield 0.0 0.2 0.2
8% < 2.8 26.9 0.8
8%-10% 5.1 24.8 1.6
10%-12% 3.3 17.7 1.9
> 12% 4.5 22.2 7.0
Total 15.8 91.7 11.2
Going forward, we see that the largest buckets for loans maturing in
2017, at nearly $27 billion, have a DY under 8%, and the next largest
($25 billion) is in the 8%-10% DY range (see table 2). Historically,
in 2014, 2015, and through third-quarter 2016, approximately 8%
of the performing loans default at maturity. If we apply the 2014
payoff experience by DY bucket (the most conservative of the 2014
through third-quarter 2016 periods) to maturing loans in 2017, the
maturity default rate rises to 13%. This implies some $12 billion
of additional defaults for the 2017 cohorts. That is in addition to
the $8 billion of 2017 maturity loans that have experienced term
defaults and are currently with the special servicer. Based on the
most recent loss severity rate experienced by the term and maturity
defaulted loans, this would result in an additional $5 billion in
potential losses to the 2017 cohort following the resolution of the
term and maturity defaulted loans. Whether these historical rates
are realized will depend upon economic conditions, but the changing
composition does suggest that maturity defaults will continue to
increase. This trend could be exacerbated by a sharp increase in
long-term interest rates, and/or potential uncertainty due to U.S.
risk retention regulations.
The Percentage Of Loans Liquidated With A Loss Has Declined Over the Past Few Years
Table 3
Overall Term Default Loss Severity* Summary, 2014–Third-Quarter 2016
% liquidated Average LS (%) % liquidated with >2% LS
Average LS among those
with >2% loss (%)
Debt yield range 2014 2015
Through
Q3 2016 2014 2015
Through
Q3 2016 2014 2015
Through
Q3 2016 2014 2015
Through
Q3 2016
No debt yield 100 96 70 50 48 42 87 78 60 56 57 53
8% < 76 73 77 40 36 34 65 52 44 49 51 56
8%-10% 62 56 29 34 22 29 43 32 19 41 37 47
10%-12% 61 59 43 24 26 37 30 31 31 48 42 41
> 12% 79 66 20 31 23 18 46 39 7 49 38 48
Total 79 71 61 41 34 34 65 49 36 51 48 53
*We’re measuring LS as a percentage of original balance. LS—Loss severity.
A publication of CRE Finance World Winter 2017
39

Benchmarking CMBS Maturity Performance and Loss Severities with an Eye Toward 2017
For loans that experienced a term default in 2014 through thirdquarter
2016, the percentage of those experiencing a greater than
2% loss upon liquidation has fallen from 65% in 2014 to 49% in
2015 and 36% in 2016 through the third quarter. We attribute this
mainly to rising property values (although the pace of appreciation
has slowed in 2016), and generally improving commercial real
estate fundamentals, which should leave investors less inclined
to default in marginal stress situations. Also, average loss severity
across all liquidations declined from 41% in 2014 to 34% in
both 2015 and 2016 through September. Not surprisingly, loans
with below an 8% DY or no reported DY information tended to
underperform. In addition, hotel and retail properties, on average,
reported relatively higher loss severities upon liquidation.
Table 4
Overall Maturity Default Loss Severity* Summary, 2014-Third-Quarter 2016
% liquidated Average LS (%) % liquidated with >2% LS
Average LS among those
with >2% loss (%)
Debt yield range 2014 2015 2016 Q3 2014 2015 2016 Q3 2014 2015 2016 Q3 2014 2015 2016 Q3
No debt yield 100 100 83 29 38 24 64 79 69 38 58 33
8% < 74 67 57 8 10 17 16 18 19 41 37 44
8%-10% 76 70 41 6 7 5 10 17 9 33 24 22
10%-12% 90 66 40 17 8 14 30 16 14 37 32 42
> 12% 85 79 48 3 3 9 11 6 10 29 36 38
Total 80 70 49 11 9 13 20 17 15 37 36 37
*We’re measuring LS as a percentage of original balance. LS—Loss severity. H1—First half.
On the whole, loans classified as maturity defaults tended to liquidate
with lower loss severities versus term defaults. In fact, many
maturity defaults that were resolved via liquidation in the recent
past experienced little or no loss. This suggests that many maturity
defaults are simple refinancing issues that when resolved — in what
has been a generally favorable refinancing environment due to low
interest rates and rising property values — result in limited severities.
Term Defaults Have Longer Resolution Times Than
Maturity Defaults
Table 5
Overall Average Resolution Times, 2014-2016 Q3 (Months)
Term defaults
Maturity defaults
Following the pattern in loss severities, resolution times are much
longer for loans with DY below 8%, or for the loans where we
have no information reported. Our default studies have shown that
longer resolution times are typically correlated with higher loss
severities. In addition, loans that experience term defaults have
much longer average resolution times versus maturity defaults.
Further investigating maturity defaults, there is a substantial
difference in resolution times for loans that have experienced
a greater than 2% loss.
The authors would like to thank Kirankumar Jathar for his contributions
to this report.
Debt yield range LS > 2% Overall LS > 2% Overall
No debt yield 49 48 44 40
8% < 39 38 31 20
8%-10% 30 29 25 12
10%-12% 23 23 22 11
> 12% 26 26 22 10
Total 38 36 29 15
LS—Loss severity.
CRE Finance World Winter 2017
40

The Las Vegas Metamorphosis — From
Gaming to Entertainment Destination
Stewart Rubin
Senior Director
New York Life Real
Estate Investors
L
as Vegas hosted a record number of visitors in 2015
as tourism increased 2.5% over 2014 to 42.3 million
tourists. Visitation now stands 8.0% higher than its 2007
prerecession peak, while gaming revenue is down 11%
during the same time period. What is going on? Can
gaming decline and Las Vegas still thrive? The answer is that Las
Vegas has undergone a metamorphosis becoming a more diverse
entertainment destination and gaming is no longer the primary
revenue generator. During the same time period, total non-gaming
revenue was up 15.5% resulting in an overall revenue increase
of 4.8%.
The transformation of Las Vegas from a primarily gaming zone
to an entertainment destination became apparent in 1999 when
non-gaming revenue surpassed gaming revenue for the first time.
This trend has accelerated since then as non-gaming revenue
reached 65.3% of total revenue in 2015, up from 51.3% in 1999
and 42% in 1990.
Table 1
Share of Revenues
Table 2
Primary Reason for Visiting Las Vegas
Source: GLS Research Prepared for Las Vegas Convention and Visitors Authority
Gaming revenue is now at its lowest level since 2005; conversely,
non-gaming revenue is at its highest level ever. The non-gaming
entertainment category includes rooms, restaurants, night clubs/
day clubs, and shows. In addition there are extra-resort entertainment
venues that are proving to be tourist draws including concerts/
live music, dance festivals, and shopping. Professional sports may
prove to be an additional draw going forward. This transformation
has resulted in a 25% increase in visitation since the 1999 crossover
point and a 10% increase since 2005.
Table 3
Historical Visitor Volume
Source: Nevada Gaming Control Board
Visitors once travelled to Las Vegas to gamble and were treated
to ancillary entertainment, maybe a show and food — which was
not so great. Now Las Vegas is attracting visitors who are drawn
primarily for entertainment. According to the Las Vegas Convention
and Visitors Authority (LVCVA), almost 50% of visitors to Las Vegas
report that their primary reason for visiting Las Vegas was vacation/
pleasure compared to approximately 10% who cited gambling.
Source: Las Vegas Convention and Visitors Authority (LVCVA)
The following tables illustrate the divergence of revenues between
gaming and individual non-gaming revenue categories since 1990.
A publication of CRE Finance World Winter 2017
41

The Las Vegas Metamorphosis — From Gaming to Entertainment Destination
Table 4A
Share of Revenues
Table 5
Historical Hotel Inventory (Annual Average)
Source: Nevada Gaming Control Board
Table 4B presents the same data in the form of an index.
Table 4B
Share of Revenues Indexed to 1990
Source: CoStar
Room revenue, occupancy and the amount spent per visitor on
lodging are all up. Over the past five years, as the nation’s economy
rose out of recession, room revenue increased 42% at Las Vegas
resorts. Resort room revenue is up 20.2% over the past ten years
and up 4.4% from 2014 to 2015 2 .
According to CoStar, the overall Las Vegas metro hotel market
occupancy rate of 70.4% is at its highest level since its most
recent prerecession peak in the fourth quarter of 2007. It has
recovered considerably from its nadir of 57.6% in the third quarter
of 2009. Its four month moving average RevPAR of $137.85 is
close to a seven year high.
Table 6
Las Vegas Hotel Occupancy Rate (Four-Quarter Moving Average)
Source: Nevada Gaming Control Board
Gaming
As the national economy climbed out of recession over the past
five years, Las Vegas gaming revenues increased 13%. However,
over the past ten years, gaming revenue remained stagnant with
only a 0.2% increase. The average gambling spend per visitor has
decreased 11% from $652 in 2006 to $579 in 2015. Gaming
revenues are down 4% from 2014 to 2015. From 2010 to 2014,
Las Vegas casinos benefitted from large-volume international
gamblers replacing smaller domestic gamblers 1 .
Non-Gaming Categories
Activity diversification has manifested itself in different ways in the
following categories.
Lodging/Rooms
The impact of Las Vegas revenue source diversification has
been positive for the lodging sector. The expansion of alternative
entertainment options has created more reasons to visit Las Vegas
and to patronize hotels and visitation has increased 25% since the
1999 crossover point according to LVCVA. This has also resulted
in more rooms being constructed. Since 1999, Las Vegas’ supply
of hotel rooms has increased by 23% to approximately 175,000
as of Q3 2016 according to CoStar.
Source: CoStar
Table 7
Las Vegas Hotel Index of Revenue Per Available Hotel Room (RevPAR)
(Four-Quarter Moving Average)
Source: CoStar
CRE Finance World Winter 2017
42

The Las Vegas Metamorphosis — From Gaming to Entertainment Destination
As more visitors travel to Las Vegas for non-gaming entertainment,
demand has risen for gambling free and smoke free hotels including
Mandarin Oriental Hotel, Vdara Hotel, Four Seasons, Signature at
MGM Grand, Trump Hotel and the Marriott Vacation Club.
Restaurants
Las Vegas food options are no longer primarily focused on buffets;
alternatives now include a wide range of high-end eateries including
celebrity chef restaurants with international cachet. The range
includes Restaurant Guy Savoy, a French restaurant situated in
Caesar’s Palace Hotel, Bar Masa a Japanese restaurant in the Aria
Hotel and Carnevino, a steakhouse owned by Chef Mario Batali
and his business partner Joe Bastianich in the Palazzo Hotel.
Chef/owner Costas Spiliadis owner of restaurants in Montreal,
New York and Athens, operates Estiatorio Milos in the Cosmopolitan
Hotel. Las Vegas is also host to the only Joël Robuchon eatery
in the world run by the eponymous chef and situated in the MGM
Grand Hotel. Other high end eating adventures include: Le Cirque
and Picasso, where expensive art work can be experienced together
with quality food both situated in the Bellagio Hotel. Therefore,
it should come as no surprise that food revenue at resorts has
increased 34% since 2005, 31% in the past five years, and 3.75%
in 2015 year over year. The average food and drink spend per
visitor has increased 12% from $261 in 2006 to $292 in 2015 3 .
Nightclubs and Dayclubs
The fastest growing revenue center of the past decade was
nightclubs/dayclubs. According to the Nightclub & Bar Media
Group, Las Vegas secured seven of the top 10 s pots (including
the top four) on its annual list of top grossing bars and nightclubs
in the United States in 2015.
XS, at the Wynn Las Vegas & Encore Resort occupied the top spot
for the third year in a row. Hakkasan, a very large club with several
venues in Las Vegas owned by its parent company and famous
for its renowned guest DJs secured the number two spot while
Marquee situated in the Cosmopolitan Hotel came in third followed
by TAO located in the Grand Canal Shops at the Venetian Hotel.
The sixth, ninth and tenth highest grossing are the Las Vegas night
spots of Surrender (also at the Wynn), Hyde Bellagio (situated
behind the Bellagio Fountains), and LAVO Las Vegas (situated in
the Grand Canal Shops).
Other Hakkasan Group clubs include Omnia with a 4,500 person
capacity which opened in 2015 and Jewel with a 2,000 person
capacity. Sayers Club which boasts the most live music of any
other club in Las Vegas and Foxtail at the SLS hotel. Other Las
Vegas nightclubs that are big draws include Drai’s After Hours and
Light — created by Cirque du Soleil.
Younger visitors have been a catalyst sparking demand. The average
age of visitors as of 2015 was 47.7 compared to 49.0 in 2011
and 50.0 in 20094. The younger demographic is more attracted
to Las Vegas’s entertainment offerings and less likely to gamble.
Nightclubs are the most popular, but day clubs, where DJs play at
hotel pools is a newer source of growth. Beverage revenue, a proxy
for night and day club revenue, at Las Vegas resorts is up 57%
over the past ten years, 40% over the past five years and 0.3%
from 2014 to 2015 5 .
Shows
Las Vegas is home to many successful shows catering to a variety
of tastes. Top grossing shows include Cirque du Soleil shows, Terry
Fator (an illusionist), Le Rêve, and “Jersey Boys,” Penn & Teller at
Rio (a magic show), “Smokey Robinson presents Human Nature:
The Motown Show” and Blue Man Group at Luxor are other
popular acts.
The average show spend per visitor had increased 21% from $51
in 2006 to $62 in 2015. Between 2011 and 2015 spending per
visitor increased by 30% from $48 to $62. The proportion of
people who attended any shows during their stay in Las Vegas
has ranged between 60% and 72% over the past five years and
was 61% in 2015, however, among those who attended shows,
the proportion who attended big-name headliner performances
increased from 17% in 2011 to 26% in 2015. Shows are included
in the “other” revenue category of Las Vegas resorts which is up
7.1% from 2014 to 2015. It is up 24% over the past five years and
up 37% over the past ten years 6 .
Concerts/Live Music
Historically Las Vegas was a music venue where older entertainers
past their prime went to finish out their careers. Music used to be
a way to attract gamblers to Las Vegas, but has evolved to be an
independent draw.
According to Pollstar, 2015 was a record year for the North American
concert business with Top 100 Tours earning $3.12 billion, up 14%
over 2014. Las Vegas is now claiming its share. The number and
size of venues that can accommodate concerts has expanded and
is now approaching the capacity of much larger cities.
The largest live music venue in Las Vegas is the newly built
20,000-seat T-Mobile Arena opened by MGM Resorts International
(MGM) and Anschutz Entertainment Group (AEG). That was the
first new venue of its size to open in the city in two decades. The
second largest is the Thomas & Mack Center with a 19,522 seat
capacity. Madison Square Garden Co., Live Nation, and Las Vegas
Sands Corp. plan to open a 17,500-seat concert venue on the Las
Vegas Strip. This would become the third largest concert venue
in Las Vegas. With the addition of this new arena, Las Vegas will
have five arenas each with over 12,000 seats — all an appropriate
size for concerts. Older existing arenas include the 16,800-seat
MGM Grand Garden Arena inside MGM’s casino and the 12,000-
seat Mandalay Bay Events Center. Music stars that have played
in Las Vegas over the past two years include Future, J.Lo, Pitbull,
Bruno Mars, Guns N’ Roses and Drake.
A publication of CRE Finance World Winter 2017
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The Las Vegas Metamorphosis — From Gaming to Entertainment Destination
Las Vegas is also host to popular dance festivals such as the
Electric Daisy Carnival which experienced its sixth year. Other
dance festivals include Rock in Rio USA which has been in Las
Vegas since its inaugural 2015 US season.
Artist residencies are acts, in which artists play in one venue
exclusively instead of touring, have long been a Las Vegas mainstay.
Historically it has attracted mature legacy acts such as Elvis
Presley, Wayne Newton, Liberace and Sammy Davis Jr. Today’s
residencies, however, are current acts such as Jennifer Lopez,
Drai, and Future. The turning point was 2003 when Celine Dion
started her residency in the 4,000 seat Caesar’s Palace Coliseum.
Population growth is another factor fostering local demand.
According to the US Census, the population of Las Vegas has
increased at an annual growth rate of 1.9% over the past ten
years compared to 0.8% for the US. The forecast growth rate is 2.6%
compared to 0.8% for the US. In addition aspiring artists can more
easily afford to live in Las Vegas compared to Los Angeles and the
same is true of older rockers past their prime as well.
Sports
On June 22, 2016, the National Hockey League (NHL) announced
that Las Vegas would be receiving an expansion franchise. The
team will begin playing in the 2017/2018 season at the newly
opened 20,000 seat T-Mobile Arena on the Strip’s south side. This
would be the first of the four major professional sports leagues to
situate a team in Las Vegas.
On October 17, 2016 Nevada Governor Brian Sandoval signed
two bills that approved funding toward helping finance a proposed
$1.9 billion, 65,000-seat stadium in Las Vegas. The stadium would
be the home of the National Football League’s (NFL) Oakland
Raiders. There are still significant hurdles to the Raiders relocation,
including convincing 24 of the leagues 36 owners to approve the
move, but it is nevertheless, a step in the direction of expanding
professional sports in Las Vegas and an indication that the city
and state are supporting it.
The Las Vegas Sands/MSG, a 17,500-seat arena, is expected
to be built on the north side of the Strip behind the Venetian’s
Convention Center. This venue may be the future home of the
University of Nevada, Las Vegas NCAA football team.
Retail/Shopping
Retail centers based in the Strip are unique in that they cater to
a tourist clientele yet attract a strong local customer base. Las
Vegas ranked third in the United States behind only New York
and Chicago in terms of its luxury retail presence 7 . The Las Vegas
Strip has several high-end malls and retail centers. They include
the 262,000 square foot Shops at Crystals Run built in 2009 and
the 806,000 square foot Grand Canal Shops built in 1999 and
renovated in 2007, and the 650,000 square foot Forum Shops at
Ceasers built in 1992 and renovated in 2004. The Forum Shops
at Caesars ranks as one of the top five shopping centers in
terms of sales per square foot in the United States 8 . All three
are very high end, high grossing retail malls situated at Las Vegas
Boulevard resorts.
Wynn Plaza, which is scheduled to open in the fourth quarter
of 2017, will be a 75,000 square foot luxury retail center at the
Wynn Las Vegas. This addition will bring the total retail square
footage at Wynn Las Vegas to more than 173,500 square feet.
Wynn Las Vegas and the Encore currently have 25 luxury retailers
such as Hermes, Dior, Chanel, and Piaget. It is important to note
that this 75,000 square foot addition will be open to the street.
This represents a departure from the traditional business strategy
of necessitating that retail customers enter the resort and pass by
gambling halls in order to get to retail and entertainment attractions.
It further emphasizes the diversification of resorts away from their
historic gaming focus.
Retail on the Strip is not limited to the high end, as visitors of
more modest means can experience Las Vegas shopping at more
moderately priced retail establishments. Fashion Show Mall is also
located on the Strip but is a traditional mall catering to a diverse
economic base. Built in 1981 and renovated in 2003, it includes
1,890,000 square feet and is anchored by Macy’s, Dillard’s, Saks
Fifth Avenue, and Niemen Marcus.
Miracle Mile Shops at Planet Hollywood Resort & Casino was built
in 2000, renovated in 2016 and includes 500,000 square feet of
retail and entertainment space on the Las Vegas Strip featuring 170
specialty stores, over 20 restaurants and three live entertainment
venues. It includes more affordable fashion choices such as H&M,
GUESS by Marciano, Urban Outfitters, and True Religion Brand
Jeans. The Showcase Mall entertainment and retail complex is
located on the south end of Las Vegas Boulevard and includes
Ross Dress for Less and a 20,000 square foot Adidas store.
Further north on Las Vegas Boulevard is the Somerset Shopping
Center also anchored by Ross Dress for Less.
Las Vegas revenue source diversification has coincided with a
significant increase in retail inventory. Las Vegas retail inventory
has grown by 75% since 1999 and by 27% since 2005 compared
to 28% and 12% for the nation 9 .
The non-gaming tourist is by definition open to other ways to spend
money in Las Vegas including shopping. In addition, the expansion
of alternative entertainment options has created more reasons to
visit Las Vegas and to do shopping while there. Conversely, shopping
must compete with more numerous and varied entertainment
alternatives for tourist dollars. According to Cushman and Wakefield
the Strip retail submarket had a vacancy rate of 4.2% during
trailing twelve months year ending Q3 2016. The aforementioned
submarket includes Forum Shops, Canal Shops, Miracle Mile
Shops, Fashion Show Mall, and Showcase Mall all of which have
exhibited a recent 100% occupancy snapshot.
CRE Finance World Winter 2017
44

The Las Vegas Metamorphosis — From Gaming to Entertainment Destination
According to LVCVA, visitor retail spending was the third largest
non-gaming expenditure after accommodations and food and
beverage, at an average of approximately $123 per person as of
year-end 2015. The average retail spend per visitor had increased
6% from $141 in 2006 to $150 in 2014 before dropping to $123
in 2015. When considering the increase in Las Vegas visitation
over the past several years, total retail revenues are up 3.6%
since 2011. Between 2011 and 2014 the amount spent per visitor
increased by 16% from $129 to $150.
The $123 per person figure marks a five-year low for the shopping
category, while hotels, food and drinks, transportation, shows and
sightseeing all hit a five-year high in 2015. This is likely the result
of the strengthened US dollar and the consequential decline in
international tourism. The proportion of foreign visitors declined from
19% in 2014 to 16% in 2015 according to LVCVA . International
visitors tend to shop more on their trips to Las Vegas than domestic
visitors. Another explanation is that this may be a data anomaly and
that higher numbers will become apparent at the next survey.
The above notwithstanding, as the visitor base of Las Vegas
diversified away from gaming, it is welcoming a guest that is open
to new/other experiences such as shopping. When international
travel rebounds it should also bring an increase in retail revenue.
Other Commercial Real Estate
Since 1999 inventory is up across all sectors, however, rent and
occupancy performance has varied. On a metro wide basis, retail
is overbuilt. Since 1999 retail inventory is up 75%, rent is down
12% and occupancy has fallen to 91% from 96%. Retail has not
recovered from the most recent recession and rents are now 37%
lower than at their height in 2007. However, Las Vegas Boulevard
Strip retail, which is the most directly impacted by the higher
visitation, maintains a low 4.2% vacancy rate 10 with many of the
centers observed to be at 100% occupancy. Strip rent levels are
the highest in Las Vegas 11 .
Office space is also overbuilt. Since 1999 office inventory is up
81%, rent is down 18% and occupancy has fallen to 85% from
94%. As of Q3 2016, rents are 26% below their peak in 2008.
Industrial rent levels have also not recovered back to their pre
recession levels.
According to the Case Shiller index, Las Vegas housing prices are
still 35% below their peak in 2006 while the national index has
fully recovered. The Las Vegas housing bust resulted in a lower home
ownership rate which when considered together with population
growth spawned greater demand for multifamily. Since 2007
Multifamily inventory is up 12%, rent is up 5% and occupancy has
increased to 94% from 91.5%.
Conclusion
Las Vegas revenue source diversification has had a positive impact
on the metro area economy and allowed it to thrive when other
gaming centric markets have stumbled. Visitation is up significantly
and population has grown faster than the nation.
The two commercial real estate sectors most positively impacted
are lodging and Las Vegas Strip retail. The multifamily sector
benefitted from the housing bust as well as population growth.
Other sectors including office, metro-wide retail and industrial
have not recovered to their prerecession rent levels.
Revenue source diversity has added to the stability of the metro
area economy; nevertheless, we believe Las Vegas remains a
market exposed to overbuilding and volatility for most property types.
DISCLAIMER
The information presented herein represents the view of the author as of
the date of publication and is for informational purposes only. The information
herein was obtained from various sources we believe to be reliable but
Real Estate Investors makes no representation or warranty as to the accuracy
or completeness of any third party information or data. The charts and
graphs provided herein are for illustrative purposes only to assist readers
in understanding economic trends and market conditions
1 Data for this paragraph is from Nevada Gaming Control Board (NGCB)
and Las Vegas Convention and Visitors Authority (LVCVA)
2 NGCB
3 Spend per visitor data is based on the LVCVA survey conducted by GLS
Research, while resort revenue is based on actual data from the NGCB.
Since these two metrics are based on two different methods they may
not match.
4 GLS Research Prepared for Las Vegas Convention and Visitors Authority
5 NGCB
6 Data in this paragraph from LVCVA and NGCB
7 “The New World of Retail-2015, Why the USA remains the destination
of choice for luxury and international retail”, Jones Lang LaSalle,
December, 2014
8 IBID
9 Except where otherwise noted, data in this section is from CoStar
10 Cushman and Wakefield
11 IBID
A publication of CRE Finance World Winter 2017
45

Blockchain: The Future of
Real Estate Finance?
Lewis Rinaudo Cohen
Partner
Hogan Lovells
Lee Samuelson
Partner
Hogan Lovells
Hali R. Katz
Professional Support Lawyer
Hogan Lovells
I
t is a challenge these days to avoid the topic of blockchain
technology. Nearly every major Wall Street bank and consulting
company has issued a white paper on the topic (often
multiple papers, for good measure) and parties as diverse
as the World Economic Forum and the United States Postal
Service have weighed in on the topic. In a recent op-ed piece in
The Wall Street Journal, Ginni Rometty, CEO of IBM, declared simply
“Blockchain will change your life”. In addition to finance, blockchain
tech is popping up in the health care, insurance, advertising and
entertainment sectors. A blockchain-based cure for the common
cold cannot be far off. With all the hype around blockchain, is it
time for the commercial real estate finance community to start
paying closer attention?
What Exactly Is “Blockchain” Anyway?
Blockchain is a broad term generally understood to refer to
software technology that enables an encrypted electronic ledger
to be updated by multiple parties working through some form of
consensus system, generally in such a way that each update of the
ledger “state” is chronologically linked (or “chained”) to the state
that preceded it, creating an immutable record of all transactions
that have occurred. What is recorded on the ledger can vary from
system to system. The best-known blockchain, of course, is the
one that maintains the ledger for Bitcoin, the world’s first “cryptocurrency”.
Although Bitcoin itself has attracted significant media
attention and scrutiny (in some cases, due to sensationalistic
reports of inappropriate use), it is important to understand that the
Bitcoin blockchain is simply one way in which blockchain technology
can be deployed.
Following Bitcoin, several similar so-called “alt-coins” emerged,
but none of these fundamentally advanced the breakthroughs
pioneered by the Bitcoin blockchain, which allowed parties for the
first time to exchange value over the Internet without the use (or
cost) of a bank or other third party intermediary. The floodgates
opened though in 2015, with two key developments: the introduction
of a new blockchain known as Ethereum, and a startling interest
in investing in and developing this type of technology by banks,
venture capital firms and other mainstream market players.
The system of validating transactions through a consensus algorithm
on a blockchain — that is, requiring a majority of users of the
network to concur in the validation of transactions — allows parties
to establish the trust required to transact remotely without the
need for a third party intermediary. This can result in lower cost,
greater certainty, a dramatic reduction in counterparty risk and,
often, faster execution and verification of information. The use of
this type of consensus mechanism can also greatly reduce the
One critical point to understand
about blockchain tech is that it
comes in different flavors and
blockchain platform design can
be highly tailored to the needs
of the user group utilizing them.
Blockchain platforms can be
open to the public, like the
Bitcoin or Ethereum blockchains
where anyone can connect
to the network without any
background checks or AML
screening and start transacting,
or they can be limited to a set
of participants who are granted
access to the ledger through
a pre-defined protocol or the
approval of an administrator.
In fact, in some cases, the
Who Let Them In?
principles behind blockchain
are being put to work for
single-user ledgers that are
not distributed at all (imagine
a 21st century version of The
Depositary Trust Company
(DTC) which holds and clears
trades in securities, like CMBS).
Whichever approach is taken,
a copy of the ledger (or at
least portions of it) is saved on
every computer that is linked
to the blockchain network and
any data that is placed on the
blockchain is validated by the
participants through a specific
consensus model that applies
to the network.
amount of fraud and mistakes which can arise through the use of
manual documentation, as by definition a hacker would need to
alter at least 51% of the copies of the distributed ledger in order
to succeed.
On a more basic level, blockchain solutions cut down on the need
for duplicative (and, quite frequently, inconsistent) stand-alone
record-keeping among participants, as well as the need for
customary middlemen and central authorities (e.g., brokers, title
companies, escrow companies, notary publics) that are often
required for approving and finalizing transactions. Overall, applying
blockchain technology will make for smoother, easier and faster
commercial transactions.
Blockchain technology has another interesting characteristic: it can
facilitate the use of “smart contracts”, which are computer programs
that allow for business agreements to be automatically executed
when certain conditions are met. An example would be a contract
pursuant to which one party pays another party an agreed amount
CRE Finance World Winter 2017
46

Blockchain: The Future of Real Estate Finance?
if an interest rate index like LIBOR goes above a certain level. With
a smart contract, this arrangement can be automated in much the
same way that, with a standing instruction, your bank pays your
utility bill, no matter what amount it may be in a given month. For
smart contracts on a blockchain, the actions required by the code,
such as performing an obligation or making a payment, would be
stored in the ledger and validated by the network participants.
Despite all the hype, it is important to recall that blockchain
technology is still quite young, if not in its infancy, in terms of its
application for uses outside the basic transfer of a value token
over the Internet. Therefore a dominant standard for other uses
of blockchain technology has yet to emerge. Think back to the
‘browser wars” of the late 1990s with Netscape Navigator, Microsoft’s
Internet Explorer and others fighting it our for market share and
user acceptance.
On the other hand, over the last 18 months or so, numerous
competing platforms for new uses of blockchain technology have
emerged, including Ripple, Corda by industry consortium R3CEV,
Symbiont, Ethereum and Linux Foundation’s Hyperledger Project.
There are various differences among them, including transaction
confirmation timing, facility for handling smart contract code,
consensus methodology, specific industry applicability, and
international capability. While delving into the details of each
platform (and the reported struggles some of these may be working
through) is a topic for a more technology-based discussion, the
blockchain universe of the foreseeable future will likely be comprised
of not one system, but a collection of platforms, each with its own
strengths and competitive advantages, all working simultaneously
(and, one hopes, interoperably), to benefit a wide variety of industries
and end-users.
Joining the (Commercial) Real (Estate) World
In an environment where even the most basic of transactions
have become costly, time-consuming and stressful, often involving
numerous low value-add intermediaries, commercial real estate
seems like a perfect place to take advantage of the benefits of
blockchain technology. By maintaining an immutable record of
property ownership, encumbrance and conveyance, blockchain
can provide a certainty of information that allows for a greater
level of trust and transparency. Blockchain can allow each piece
of property to have its own digital address where all information
relating to the property may be stored. This would include financial
information, taxes, bills, liens, easements, building performance,
physical characteristics and the transaction history relating to the
property, potentially eliminating the need for expensive in-depth title
searches. Crucially, all property-level information can be encrypted
in such a way that only those permissioned by the property owner
(or agent lender, in the case or a mortgage loan transfer) can be
allowed access.
Similar to New York City’s ACRIS system, which allows interested
parties to search property records and view copies of recorded
documents, a blockchain-based distributed ledger could provide
the building blocks for a more universal system across multiple
geographic locations with a standard method of recordkeeping
and an efficient, possibly nationwide, system of collecting and
maintaining property information and documentation. This would
prove especially useful in multi-state transactions where often
there are several third party companies involved in different states
in order to collect, approve and record virtual mountains of
documentation. Local title recorders offices are already starting
to think about how to modernize their record-keeping systems
that, in many ways, are still working off versions of 19th century
“tech”. In one example, Cook County’s Recorder of Deeds has
partnered with blockchain start-up velox.RE to develop a system
to effect title transfers on the blockchain.
The use of blockchain technology
in real estate has the
potential to make a huge splash
in the U.S., but its impact will
not only be felt here. The
International Blockchain Real
Estate Association (IBREA) is
a U.S.-based nonprofit, memberfocused
advocacy, educational
and trade association dedicated
IBREA Makes a Mark
to implementing Bitcoin and
related blockchain technologies
in real estate throughout the
world, and already maintains
active chapters focused on this
space in locations as diverse as
London, Munich, Hong Kong,
Singapore, and Kuala Lampur,
demonstrating the truly global
interest in this critical area.
Perhaps the most important use of blockchain technology in the
real property context will be for commercial real estate finance.
Already, there are numerous projects looking at speeding up
settlement times for standard commercial loans. By providing a
database and common ledger to serve as an official registry of
mortgages (or even slices of mortgages), the benefits of blockchain
can be felt throughout the entire mortgage finance process. At
A publication of CRE Finance World Winter 2017
47

Blockchain: The Future of Real Estate Finance?
the very beginning of the process — loan origination — blockchain
facilitates prompt and accurate record keeping and document
filing. The amount of documentation involved in mortgage loan
origination can be overwhelming and often becomes so voluminous
that original notes and other important loan documents contain
mistakes or become lost. The initial recording of accurate mortgage
information is crucial in assuring the validity of future transactions.
Moreover, lenders (or borrowers footing the bill) can pay remarkable
amounts in due diligence costs which could be greatly reduced if
relevant records were easy to come by and inherently accurate.
Once a loan has been booked, blockchain can be used to track
borrower payments, covenant compliance and other loan activity,
with smart contracts working to enforce obligations and identify
defaults, potentially reducing mortgage servicing costs. Furthermore,
the use of blockchain technology has the potential to enhance
and streamline the process for transferring mortgage servicing
rights. Loan syndication can also be restructured with blockchain
by providing a network for banks to access shared syndicated loan
data, thereby increasing efficiency in the secondary loan market
and leading to quicker settlements.
Finally, blockchain technology and smart contracts can be invaluable
during the securitization process. All trustees, administrators, lenders,
attorneys and any other parties involved in putting together a
commercial mortgage backed security (CMBS) would be able to see
the composition and ownership history of each class of security
issued on the ledger and evaluate their risk in near real time.
Real-time data on payments of interest and principal should also
lead to more accurate ratings for the CMBS. Moreover, it would
help to consolidate and standardize the complicated pooling and
servicing agreements and other securitization contracts currently
in use. For example, if a loan does not meet certain conditions that
apply to a particular CMBS pool, as identified by the programmed
blockchain code, the loan would automatically be excluded from
that pool.
The use of blockchain in the mortgage industry might bring to mind
MERS (Mortgage Electronic Registry System), the privately owned
national electronic registry system created in the early 1990s
by some of the leading participants in the mortgage industry to
track changes in the servicing rights and beneficial ownership in
mortgages. By naming MERS as the mortgagee of record for each
registered mortgage and the nominee for each lender, its successors
and assigns, each lender has the ability to transfer its interest in a
mortgage loan to another MERS member without the need to record
a separate mortgage assignment with the local recording office.
Although MERS was an important step toward the improvement
of the mortgage process, its accessibility and utility could without
doubt be enhanced through the use of blockchain technology. If it
had existed at the time the mortgage trading market was developing,
mortgage transfers would quite likely have been recorded and
tracked using blockchain tech. As it stands, mortgage tracking
and transfers within MERS is private, so MERS is listed as the
mortgage owner in the county land records for a particular loan,
even though the promissory note is made payable to the individual
lender. With MERS named as the mortgagee, the interest in the
mortgage loan may be transferred to another MERS member
(often multiple times) only to be privately tracked within the MERS
system. However, MERS remains the mortgagee of public record
and there is no assignment documentation recorded within the
local recording offices.
While the MERS process has worked to create streamlined record
keeping, cutting out the middle man of the county clerk, and
making securitization quicker and cheaper, the private nature of
the MERS system prevents the public from being able to track
transfers and confirm the chain of title for a loan. As a result,
during the financial crisis of 2008-09, borrowers were unable to
determine who owned their mortgage and how to work out their
loans, which made it difficult to contest foreclosure. Blockchain
technology would provide the same streamlined process for recording,
tracking and transferring mortgages, but would be free (or low
cost) for the lenders and universally accessible by borrowers and
should be able to decrease overall costs and eliminate dependence
on unnecessary middle men. If mortgages were recorded on the
blockchain, the significant benefits introduced by MERS would
remain, but the system could be expanded and improved. Tracking
mortgage ownership would be easy and mortgagors would
be able to deal directly with the right servicers and lenders
to contest foreclosure, refinance their loan, or work out other
mortgage modifications.
Though the potential for blockchain technology in the commercial
real estate industry is huge, it may take years to fully develop
systems that are best tailored for the needs of the commercial
real estate finance industry. Right now significant work is being
done to address underlying challenges like platform design, local
county-level adoption, handling the required transaction volume,
and data security and storage requirements. However, as we have
seen in so many other sectors, disruption through technological
innovation can occur much faster than incumbents expect and the
time is now to focus on future possibilities.
CRE Finance World Winter 2017
48

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