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The rise of the banker/developer.

In the 1980s, developers became bankers. In the 1990s, bankers must become developers--or at least acquire the skills to develop, operate and dispose of their growing REO portfolios.

Looking a little closer, developers never became good at banking. They could open branches and attract depositors, and they could loan money for their own and other real estate deals at good rates. But the word--caution--which is banking, was not in their vocabulary. Their prime objective was "to find the money to fund the next deal then move on to the next deal after that." They had to go faster and further and not look back because reality might be gaining.

Unfortunately, reality caught up with nearly all these developers turned bankers in one way or another. Some went to jail. Some lost all of their money. And some lost a great deal of taxpayers' money too. The record has not been good.

Now, with so much real property in the hands of the government and private lenders, what should they do with it? They can't trim staff or raise prices or cut production costs as with an operating company. They can't take it out to lunch and they can't even take it to court anymore.

Nothing is left but to hold it, build it, operate it or sell it. But that poses further problems--What first? How? When?

The bad markets have created an unprecedented impact on earnings, which has caused hiring freezes at most levels in banks. This fact, combined with no significant development experience and the rapid increase in their REO property portfolio (see Table 1 showing nearly 80 percent increase for commercial banks since first quarter 1990), has placed bankers in a catch-22 situation. Help is desperately needed but, as always, good help is hard to find. Some obvious indicators of problems and the need for assistance are:

* confusion about tasks, goals and responsibilities;

* missed planning or construction deadlines;

* profusion of change orders:

* cost overruns;

* agreements and leases that never seem to close;

* agreements that, in hindsight, never should have been made.

The results of poor development, management and marketing can be costly and deadly to the long-term health of the project. If muddling along as best you can isn't working out, outside help must be sought. For outside parties to be helpful, they must have sufficient knowledge and experience to evaluate strategic and operational alternatives of what to do, how it is to be done and when to do it.

This role has been assumed by a new breed of consultant called the development consultant. These professionals combine their talent and experience in the development process to provide specialized services to developers and to those who have been thrust into the position of developer, (e.g., lenders from commercial banks, thrift institutions, insurance companies and a variety of other parties now confronted with the unplanned ownership of real estate.)

The services performed by the development consultant enable the lender to tackle problems such as completing an unfinished building, leasing up the space and operating the building until a viable new owner can be found.

What to do

The development process involves numerous stages, each demanding specific skills and in-depth understanding. The first three stages are highly interdependent and must be solidly in place before moving into physical construction:

* Planning--Incorporates strategic issues leading to site selection and conceptualizes the highest and best use for a property, including the steps necessary to achieve that goal given the strategic objectives and resource constraints of the developer.

* Structuring/Financing--Develops the most appropriate ownership vehicle and financial leverage within the confines of the government, regulatory and economic environment.

* Acquisition--The actual negotiation of price and terms for the purchase of a property and positioning the property with the appropriate ownership and financing package.

* Permits and approvals--Government regulation can be a major constraint to the development process. Each jurisdiction has its own unique combination of federal, state and local requirements that are being engulfed by growing political, social and environmental concerns.

* Construction--The design- and-build stage of development where the ideas and marketing concepts become hard reality. Most of the cost becomes locked into the bricks and mortar of construction. The arge number of subs and contractors require that there be close examination of every dollar spent.

* Lease-up--Signing tenants and creating the property revenue stream is the biggest problem in the current market. Success may involve rethinking the basic concepts of the property and target market.

* Management/Operations--Keeping tenants satisfied and the property in good repair and in efficient working order make for long-term value in the property and the best price at disposition.

* Disposition--The pledge/sale of part or all of the real estate interests finally releases the equity investment built into the property. This may involve the sale or financing of the property or interests in the ownership entity itself.

An intimate knowledge of the development process allows the development consultant to pick up the specific properties at any stage in their life cycle, to quickly determine the best available approach to maximize value and to efficiently move the property through the development process until final disposition.

How to do it

A thoughtful plan for development action probably can be prepared by most lenders. However, the ability to execute the plan in an efficient and cost-effective manner is usually not within the scope of a lender's past job experience.

As it was with the developers turned bankers, proceeding into a field with little or no past experience can often lead to trouble. The development consultant applies his expertise where the banker may be wanting.

By calling on appropriate other parties, the entire effort can be effectively managed by the consultant at the least cost to the lender. Overall coordination of the various services might include:

* Transaction planning and management--General direction and coordination of the efforts of all diverse parties to the development process including the internal needs of the lenders. Billing is done typically on a time and material basis for these services.

* Oversight and management of contractors--From the selection of support service firms to the obtaining of a final certificate of occupancy, the scope and adequate provision of all services and construction efforts must be carefully managed and monitored. Billing may be on a time and materials basis, but more frequently, it is on a percent of the total construction budget with incentives for under budget and on-time performance.

* Accounting, tax and general management consulting services--During the entire process from initial planning through acquisition, operation and disposition, various technical requirements must be addressed as well as a continual examination and reassessment of how the business is performed and managed. Billing for
Assest Balances
FDIC-Insured Commercial Banks
1st Qtr 1991 ($billion)
 1Q 90 1Q 91 %CHG
Real estate loans $778 $836 7.5%
Other real estate $12.8 $22.9 78.9%
 owned (REO)
Source: Federal Deposit Insurance Corporation

these types of services would depend on the unique assignment and could be based on time and materials or on fixed price.

* Litigation/Construction claims support (for pre-existing or future problems)--Expert knowledge in the real estate development and construction process is essential to anticipate or resolve problems when encountered. This may involve legal action to assert the lender's rights and recover costs not properly attributable to the property. Billing would again depend on the type of specific service but expect to pay a percentage of the savings realized or premium billing on a time and materials basis.

When to do it

Combining a well-tuned sense of the market with knowledge and understanding of relevant facts and circumstances surrounding the property is the only way to effectively deal with problem properties.

The sense of when to react and when to be proactive is gained only through extensive experience with good and problem properties, in good and bad times. Timing and sequencing of specific events in the development process can add significant value to the property as it is pummeled by economic forces beyond your control.

Many lenders are increasingly feeling the need to act and to prepare their institution to deal with the burgeoning portfolio of real property. However, now is not the time for on-the-job training. The problems are too immediate, too large and too costly to train their staff in the mechanics of a different industry. The development consultant can offer an effective means of dealing with the critical real estate issues facing banks and other commercial property lenders at this time.

Charles E. Calhoun is vice president of loan management at PW Funding Inc., New York City.
COPYRIGHT 1991 Mortgage Bankers Association of America
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1991 Gale, Cengage Learning. All rights reserved.

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Title Annotation:bankers assume the role of developer as they get back uncompleted commercial properties when loans default
Author:Calhoun, Charles E.
Publication:Mortgage Banking
Article Type:Cover Story
Date:Jul 1, 1991
Previous Article:Houston has returned.
Next Article:Movements in commercial mortgage securitization.

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