Opportunity in Chaos
By Noel Labine, Wright County Economic Development Partnership
Just like the Minnesota champion skier Lindsey Vonn, who ended up winning a gold medal because the leading contender was disqualified, any of us could have a similar chance in today’s real estate market. The NAIOP February program, Opportunity in Chaos, focused on just those types of scenarios.
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Is there opportunity in times of change and turmoil? To explore that question, Rick Collins of Ryan Companies moderated a panel at the monthly program on February 16. The robust panel, all veterans to the commercial real estate industry, included Steve Wellington, president of Wellington Management and a Yale graduate in English literature; Michael Salmen, president and founder of Equity Commercial Service, Inc. (now part of Transwestern), with an accounting degree from St. Thomas University; and Eva Stevens, vice president of finance for United Properties with an accounting degree from Mankato State College.
What new products have you used or developed to deal with the current business climate?
Eva Stevens started by explaining United Properties’ investment in a structured lease program. As a foundation for this approach, they did a retail market analysis of 145 different businesses in their market area. Now they have a tool that can do projections of potential tenant markets. Steve Wellington said they were studying distressed properties and looking at opportunities to acquire properties well below their long-term investment value. They also are considering investing in energy efficiencies in properties that they currently own.
What lessons from the nineties are you using now?
Mike Salmen said that they acquired distressed properties in the nineties that ended up performing very well. However, he cautioned that being over-leveraged can be very dangerous. Eva Stevens said she has distilled her lessons learned into three points:
- Remember that problems are difficult and be willing to use new tools.
- Accept the new reality as quickly as possible.
- Be disciplined, which means don’t be too anxious, and do your due diligence including understanding your tenant’s credit worthiness. Also, being disciplined means managing your accounts receivables and liquidity and capital deployment. If you need to defend an asset, then build a case for that defense.
Steve Wellington explained that the nineties cycle was 1988 to 1993, and we are in a similar cycle that will also probably last as long. If so, we are early in the cycle now. Therefore, be careful and don’t buy too soon. Holding onto the distressed property without income for three years can be very expensive. Wellington went on to discuss the stages of grief, and he believes that a lot of people are still in the early stage of grief, which is denial. As a result, we could be dealing with people who have not yet accepted the new reality. We need to be patient with those people and wait until they are ready. Wellington has reflected on how he felt when he acquired distressed property in the nineties cycle. It was a tough decision, because the property was under performing and the market was depressed. However, Wellington suggested that we should not be “too cautious”. He encouraged people to try new things, but use discipline and a more sophisticated approach such as trying to learn more about the tenant’s point of view.
When a discussion of the current capital market came up, the panelist all agreed that it is difficult and property owners have to accept that they may have to make an equity payment. The banks are not surprised that rents are down; they are more concerned with occupancy.
How should we deal with distressed properties?
Mike Salmen suggested that they were trying to acquire under performing assets before they go into foreclosure. Eva Stevens advised that it is important that your entire team is aware of the owner’s strategies. At United they are committed to making speedy decisions, they are aware that they have to rewrite the standard lease, that difficult decisions need to be made both quickly and accurately, and they are trying to be responsive to what the market will allow.
Where are the opportunities for transactions in 2010?
Steve Wellington suggested that the strategy of “blend and extend” may be a good tool. That strategy implies making a reduction in the near future rents in exchange for a longer lease term. Brokers need to call on prospects, tenants, etc. and be prepared to work to save them money. It is important to set realistic expectations for your tenants and vice-versa. Tenants need to be made aware that their landlords could be facing re-finance issues. Salmen agreed that brokers need to find ways to consult with clients and not just be concerned about getting their broker’s fees.
What about outsourcing?
Eva Stevens said they are purchasing services from their partners, which hasn’t changed. Steve Wellington said they have always done some outsourcing and in this market vendors are being more competitive. Salmen said they were not doing more outsourcing, but they see their customers and prospects doing more outsourcing.
What changes and opportunities for development exist now?
Mike Salmen predicts that there will be more consolidations and mergers and the most important part of your business is the relationships you have with others. Steve Wellington said that the challenges faced by large companies like Ryan, CSM, and Opus is having a big effect on the industry. Also, it could be a good time to start a development or redevelopment project, because cities are willing to be more practical and flexible. Eva Stevens suggested that we learn from our mistakes and we should help each other. “Champions Adjust” is a motto used at their office.