Restructuring strategies can shield a business from future trouble

Deryck Palmer, partner, Pillsbury Winthrop Shaw Pittman LLP

As published in Scotsman Guide's Commercial Edition, May 2012.

The word “restructuring” doesn’t resonate well with many business people. It may be associated with bankruptcy proceedings and being in distress — that is, with consequences that include higher lending risks and spiking borrowing rates. This is not necessarily the case in today’s challenging economy, however, where even thriving companies can employ restructuring strategies to ensure that a healthy company stays healthy.

Commercial mortgage brokers can guide clients in the commercial real estate industry to look into how to employ the same approaches used by sound companies in other industries to shield their businesses against liquidity or cash-flow problems down the road. They also can advise clients when seeking rearrangements of contractual terms, pursuing refinancing or making restructuring plans.

Because the overall commercial real estate industry stands at the nexus of a complex set of economic forces — at the global, national and local levels — it is essential to pay close attention to the particulars of the property type and local market conditions to be able to set forward-looking plans.

Liquidity

A commercial mortgage broker must take stock of the various economic drivers impacting the real estate industry to be able to foresee whether a client is headed into a liquidity problem. This is at the heart of anticipatory restructuring and can provide a way to gauge the size and the impact of the impending problem. Remember, owners of commercial real estate are subject to two sets of forces, neither of which is within their control:

1. The dynamics affecting the value of the real estate itself. Because the value of any given commercial property is significantly affected by the value of comparable properties in a given location, commercial real estate owners are particularly vulnerable to the local economy.
2. Vacancy rates are a function of new construction that is subject to the overall availability of development financing, which, in turn, is typically influenced by forces beyond the local market.

Tenancy

Your client — who can be an owner or a developer of the property — must be concerned with the performance of the major tenant(s). This performance will vary based on the property type and various market forces, as well. For example, retail space will be subject to an entirely different math than an office building or industrial facility.

Your client will become more vulnerable if the property has been customized for one or more specific tenants and would require major renovations to make it suitable for a different tenant.

In addition, property owners typically impose financial covenants on their tenants, which track certain criteria and indicate when a tenant is slipping. These covenants often are sufficiently sophisticated to serve as an early-warning system.

Remind your client, however, that these covenants need to be considered in combination with monitoring local conditions: vacancy rates, the location’s desirability for tenants with similar uses and the general state of the economy. It is a good practice for a property’s landlord to run stress tests to anticipate difficulties and approach lenders proactively, if needed.

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