Mayflower Hotel's loan woes could be echoed by commercial properties nationwide
Saturday, September 18, 2010; 6:17 PM
Katherine Reynolds Lewis writes for The Fiscal Times, an independent news organization that specializes in fiscal and economic matters. It is funded by Peter G. Peterson, who separately supports groups that advocate for long-term debt reduction.
It was dubbed Washington's second best address by Harry S. Truman, and it has hosted events for every presidential inauguration since Calvin Coolidge. Franklin Roosevelt used it as a retreat to work on his 1933 inaugural address. And FBI Director J. Edgar Hoover was a lunchtime regular.
The elegant Renaissance Mayflower Hotel, a Washington landmark since 1925, was considered a hot property when Rockwood Capital of San Francisco acquired it for $260 million in March 2007. Then, practically overnight, the real estate market collapsed and credit evaporated in a historic global financial meltdown. The new hotel owners, saddled with $200 million in debt, watched as the value of the property tumbled. By August, credit agency Realpoint estimated its value at $128 million.
The Mayflower loan was underwater, the plight of hundreds of billions of dollars' worth of commercial properties across the nation that are worth less than their mortgages. If the hotel's owner couldn't find a way to restructure the debt, it could lose the property.
A staggering $1.4 trillion of commercial real estate loans will come due nationwide in the next four years, forcing borrowers such as Rockwood to refinance or default on their obligations. Trouble lingers even at doorsteps in Washington, one of the strongest markets in the country thanks to a broad employment base, a sound infrastructure and a massive government presence.
This is happening at a time when the capacity to absorb such debt has been slashed, following the bankruptcies of financial firms such as Lehman Brothers and the collapse of the commercial mortgage-backed securities issuance down to a tenth of its peak size. The thought of a string of commercial real estate defaults walloping the barely recovering economy and jeopardizing the stability of still-tottering banks is enough to keep analysts up at night.
"It's a very tricky time right now," said Geoffrey DiMeglio, director of consulting at Market Outlook, a consulting firm. "Even in a weak recovery, I don't see employment improving the fundamentals in real estate fast enough to get these properties out of default."
Property owners and lenders may well ride out this storm with lessons from the last major slump in the commercial real estate market. During the collapse of the early 1990s, banks were under pressure to secure a speedy fix for troubled properties. So instead of working with borrowers, they were quicker to process foreclosures and then sell off properties at auction. Lenders ended up losing billions on real estate portfolios that they didn't want to hold and weren't equipped to manage. The fallout rattled through the economy. In time, the glut of cheap property on the market created a fast and vast run-up in wealth once the market took off again, fueling those heady days of consumer largesse.
"Banks and other lenders were forcing things onto the market when there was no real market, so that things were going really cheap," said Douglas J. Donatelli, chairman and chief executive of First Potomac Realty Trust in Bethesda. "And the losses that banks were taking were much, much greater than they should have been or could have been."
In those days, the Mayflower may well have been foreclosed upon and sold at auction alongside luxury townhouses and exurban housing developments funded by speculators. This time, another scenario played out. Rockwood Capital signaled in November that it might not be able to make its next mortgage payment, according to Realpoint. Bank of America, the primary lender, and investors in the Mayflower didn't hit the panic button. Instead they were willing to overlook a missed payment or two and wait out the downturn, absorbing some short-term losses, according to sources with knowledge of the deal who were not authorized to discuss it.
In late July, a special servicer, a company that manages distressed loans for lenders, agreed to extend the due date on the loan. In return, Rockwood Capital would put up $11 million of additional cash, according to Standard & Poor's analysts.
The servicer, Midland Loan Services, a division of PNC Real Estate, extended the due date for the balance of the loan by a year, to 2013, in exchange for the capital infusion. The deadline could be pushed out to 2014 if Rockwood meets specific performance benchmarks. Rockwood and Bank of America declined to comment.