Commercial Magazine

Play a Winning Hand

You need to stay informed, positive and flexible in today’s tough market

By Garry Barnes

One of the biggest challenges faced by today’s commercial mortgage broker is recognizing and adjusting to an economy and real estate market in a state of unrest. The U.S. financial markets have been volatile and the nation’s economic outlook is uncertain. 

We can be assured that nothing will be normal, at least for a while. So, we must deal with the hand we are dealt. With that in mind, the obvious questions are, what is the current situation and what can we expect in the next couple of years?

Commercial mortgage lenders typically understand how sensitive a potential borrower’s business income is relative to economic downturns and thus the borrower’s ability to service loan debt. After determining the risks, lenders look at how the business is prepared to mitigate them.

Of course, no business can control the economy, but management must anticipate and plan for future events. It may be too early to identify specific trends that will shape the commercial real estate market in 2021 and 2022, but there appears to be reason for cautious optimism. Aided by extraordinary monetary and fiscal actions, the U.S. economy has bounced back somewhat from the initial pandemic-induced crash.

This past September, for example, the Mortgage Bankers Association (MBA) predicted gross domestic product growth of 3.3% in 2021, followed by 2.5% growth in 2022. MBA expected the unemployment rate to drop from about 8.4% this year to 5.5% by the end of 2022, and for U.S. Treasury yields to increase by a full percentage point from the 2020 level to 1.8% in 2022. In comments earlier this fall, Federal Reserve chairman Jerome Powell signaled that the central bank will remain aggressive in keeping interest rates low for the next several years. Low rates tend to spur commercial-asset sales and mortgage activity. Powell, however, noted that a full economic recovery likely won’t occur until people feel it is safe to resume their normal activities.

It may be too early to identify trends that will shape the commercial real estate market in 2021 and 2022, but there appears to be reason for cautious optimism.

Pandemic fallout 

The COVID-19 pandemic could bring lasting changes to several asset classes. Earlier this fall, U.S. offices remained partially open and many businesses expected their employees to work from home for the foreseeable future. It could take years before office buildings recover their pre-pandemic occupancy levels. 

Given that employees have successfully worked from home for months, some companies will inevitably question the need for a large, centralized office. Although the work-from-home trend may be temporary, the pandemic could bring lasting changes to how offices are used by companies and how much space they need. Office demand could shift away from highly dense downtowns to satellite locations in suburbs. So, on the surface, it appears there could be a sharp decrease in investor demand for traditional commercial office buildings, but there may be more opportunities for aggressive lenders and mortgage brokers working with clients on the outskirts of major U.S. cities. 

Offices, however, are by no means the only affected commercial asset class. Other types of impacted businesses include bars, restaurants, department stores, grocery stores, banks, gyms, movie theaters, theme parks and water parks, meat- and food-packing plants, transit centers and airports. In other words, nearly every type of business that involves human interaction has been disrupted by the COVID-19 health crisis. 

It also is unclear how the pandemic will affect long-term real estate trends. People have a natural tendency to overreact to change and to envision the worst possible scenario. We should manage our emotions. This crisis is not the end of the world.

A new normal

The commercial real estate market will likely change, however, bringing a new normal of a type that is probably too soon to predict. What we do know is that the commercial mortgage broker must adapt quickly and early to survive and prosper. This means that you need to accept the change, focus on what you can control and develop a fresh perspective.

As the commercial real estate market begins to recover, new opportunities will emerge. The borrower’s needs and expectations may be different than in the past, but this will bring new challenges and opportunities. The most important facet of a broker’s business is ultimately the customer who keeps you in business. Consequently, serving the customer’s best interests should always come first.

First, be honest and candid with your clients. It is imperative to set realistic expectations. You are not doing your client a favor by making promises you can’t keep.

Second, strive to be indispensable to your customer. Make sure you know the client’s needs, the lender’s expectations and requirements, and be able to offer options or alternatives to accomplish the client’s goal. Be a problem solver. Your customer will place a higher value on your service.

Third, keep up with current loan programs and trends, and be an expert in your respective lending segment. It is your job to sort through all of the available financing options to find the right lender and loan fit for your client. If you offer strong solutions, your customer will remain committed to you.

It is exceedingly difficult to learn about commercial real estate finance on one’s own.

Broker’s role

During these uncertain times, it is important that brokers approach lenders in the right way. When introducing the borrower to the lender, you should always present your client in the best possible light. Emphasize the borrower’s strengths, experience and background. You also should underscore the potential of a strong and lasting relationship, which could include numerous future business opportunities for the bank or private lender.

Lenders have tightened their requirements, making the broker’s job even more difficult. You will need to demonstrate the borrower’s various sources of cash flow and income to meet the required debt service. The key details about the property also are important. Highlight the present and future significance of the property location, its desirability and potential growth, and other characteristics that distinguish the asset and its potential future value.

In some cases, the borrower may be a first-time investor who requires substantial help and advice. It is exceedingly difficult to learn about commercial real estate finance on one’s own. So, the broker has an opportunity to develop a long-term relationship that may grow more lucrative as the borrower’s business grows. Consider your efforts as time well spent.

In advising the novice real estate investor, the broker should take time to learn other essential details about the desired property and investment objective. Prior to seeking financing, for example, you will want to know what kind of property best suits the buyer’s expectations and their preferred location, and whether they plan to occupy the building, rent it out or build equity. You’ll also need to know how much cash they have on hand to make a downpayment and hold in reserve, what their particular skills are and if they plan to hire a property manager or landlord. Other questions will arise after you do your initial research.

Once you have some financing options to share, you will naturally go over the standard details of each option by comparing loan-to-value ratios, repayment terms, interest rates and fees, etc. It is important, however, to not forget some other key details.

The loan, for example, may require a personal guarantee. In this case, your borrower would assume personal responsibility for the loan balance if the business defaults on its payments. Another concern would be if the loan carries any prepayment penalty should your borrower pay off the balance early. This would, for example, make it more challenging for a borrower to refinance a loan prior to maturity, thus taking advantage of a better rate and terms once the economy recovers.

You also will need to carefully go over the projected debt-service-coverage ratio and the property’s net operating income. Lenders look closely at these factors when deciding whether to approve financing and at what leverage level.

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In these days of uncertainty, you must stay on top of current events so that you are not surprised by tomorrow. Decide on a path and execute your plan, but also remain flexible to change. Provide solutions and do not complain. Remember above all else that we will get through this. As Babe Ruth once said, “You just can’t beat the person who never gives up.” ●


  • Garry Barnes

    Garry Barnes is managing director of PW Partners Consultancy, headquartered in Salt Lake City, and is a freelance writer. He is a former president and CEO of banks in Arizona, California and Utah. He has taught at the university level, and is a frequent writer and lecturer on banking, finance and real estate matters. Barnes has served on the U.S. Small Business Administration’s National Advisory Council and received the SBA Arizona Financial Services Advocate of the Year award.

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