Special Servicers, Local Experts Adopting Online NPL AuctionsJune 4, 2010
Real estate hasn't exactly stood out as an early adopter of new technologies. But the Internet is here to stay, and brokerages, loan sale advisors, auctioneers and the like are taking advantage of online efficiencies as their clients look to shed an increasing supply of non-performing loans.
And as it turns out, mass online auctions of individual, distressed small-balance commercial mortgages are getting more popular pretty much by the month. In fact a pioneering venture, teaming global real estate services giant Jones Lang LaSalle with multi-service firm and longtime auctioneer Real Estate Disposition LLC (REDC), has seen such strong activity at its recent online auctions, it's planning to conduct monthly sessions going forward.
Not only are thousands of interested investors perusing the mostly small-balance NPL, performing loan and REO assets offered through the JLL/REDC venture's website, a growing roster of debt-holder representatives are utilizing the venture's services. Special servicers overseeing distressed securitized mortgages have in fact become the venture's biggest client category.
Most of the larger special servicers are now following the lead of a few pioneers that have become comfortable with online auction formats, says Dustin Stolly, a vice president in JLL's real estate investment banking group. Banks are logically major participants as well, along with life companies, investment funds and others.
The JLL/REDC venture conducted its first online auction in February, following up with two more in May. The vast majority of the offered NPLs have sold, with pricing averaging 50 to 60 percent of principal balance. The group is offering another 51 distressed loans with a balance of $80 million in its next auction scheduled for June 21-24.
Principal balances of the auctioned NPLs are often less than $1 million; with plenty more below the $3 million mark. Pricing of the 73 that sold in the latest auction averaged almost exactly $1 million, representing a 55 percent average recovery rate.
Busy special servicers these days are more likely to auction off small-balance NPLs rather than larger non-performers in part because they have "finite resources" and earn bigger fees restructuring large loans compared with small ones, Stolly explains. And regardless of loan size, these servicers are likely to sell the debt if the borrower feels so under water he’s ready to walk away from the property, he continues.
Even with smaller properties, however, special servicers and other debt-holder reps are still reluctant to auction NPLs secured by high-quality projects offering prospects for restructuring - or perhaps even becoming current as the economy recovers. These assets occasionally get offered, "but it's the exception," Stolly observes, describing collateral securing loans that do get auctioned as generally "under-leased."
At this point, small retail centers and apartment properties clearly remain the categories generating the most NPL auctioning activity, Stolly notes. But notes securing office buildings are coming to market more often - in select cases acquired by users - and even a limited number of limited-service hotel NPLs are occasionally making their way into the latest auctions, along with special-use facilities such as self-storage centers.
As for the buy side, demand from small-balance investors is quite strong, as savvy property professionals are eager for "opportunities to own the equity" at attractive discounts to replacement costs, as Stolly puts it. When small-balance NPLs are offered individually, "nine times out of 10 it's a high-net-worth individual or local investor experienced with similar collateral," he adds.
And sellers appreciate that these investors are generally willing to pay more for individual assets than an opportunity fund or other institutionally-backed investor would pay as part of a pool of assets. "If you're selling to a high-net-worth investor who lives close to the collateral, they’re typically going to pay more," Stolly relates.
These investors, who also pay a 5 percent buyer's premium to close the JLL/REDC auction transactions, tend to view yields as a longer-term internal rate of return covering implementation of a value-add strategy, rather than simply as a going-in capitalization rate, Stolly observes. For distressed assets they're typically targeting IRRs of 20 percent or more.
But recovery rates can vary widely depending on the collateral's condition, Stolly adds. For instance, a note secured by a quality physical property still generating some operating income might fetch 85 percent of balance owed, while the mortgage on a vacant property might command just 20 percent.
Most of the auction participants tend to prefer the flexibility inherent in all-cash transactions, rather than complicating situations and restricting activities by taking on debt, Stolly continues. However, when sellers are willing to finance sales, buyers often take them up on the offer, he adds.
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