Holidays 2009: Distressed Asset Investment Letter

Dear Friends:

With year-end traditionally being a time to slow down and reflect, this post is intended to be a review of the past year, and a prognosis of sorts for what the transactional deal marketplace may show us in 2010.

However, slowing down and reflecting on this year only gives me that post-roller coaster sickness feeling. This was one of the most challenging years in business for most of us. Although it ended up being a positive year from a business standpoint, it required a wholesale reinvention of what we do, as most of our business models were affected by many polar opposite, sometimes unintended and varied influences that converged in a dizzying array of confusion. It was humorous to read that many prognosticators declared that the end of the recession was near, or even that the recession was behind us, because, contrary to the statistical reports showing declines in unemployment figures and upticks in consumer confidence, in reality the fundamental problems that grounded the economy in 2007 are not significantly different from those prevalent now. Other than runaway bank profits and the gilded age of Wall Street bonuses, our world is now as it has been for the past 2 years. We have made forward progress, but what the economic landscape has in store for us in 2010 will prove to be a mixing pot of small explosions that together will concoct a distressed asset stew full of nutritional values that we may only be able to sample if we have the coupons. Well, friends, we are the manufacturer of those coupons.

Let me try and catch you up on all that has happened in this busy year!

Preserving Affordable Housing

 

The Boston Globe, on November 26, 2009 reported that Governor Deval Patrick had signed into law a recently enacted statute dubbed the “expiring use” bill.  This new law will have the effect of preserving as affordable, thousands of units of housing in Massachusetts intended to be used by low-income residents.  In a November 30, 2009 press release announcing the new law, the Patrick Administration stated that the bill “creates a regulatory framework to keep affordable rents in properties where long-term publicly subsidized mortgages are paid off and affordability restrictions can then expire.”  The press release also claims that as many as 90,000 housing units in Massachusetts could be affected by expiring affordability restrictions, with about 17,000″ of those units at risk of losing their affordability through expiring use over the next three years.”  These numbers are simply staggering, so, understandably, this new law, if it does what they say it does, could be a very significant arrow in our quiver of affordable housing preservation tools, and may even present distressed asset investment opportunities.

Setting up a Distressed Asset Investment Fund

I have been approached many times to explain how a Distressed Asset Investment Fund is set up.  Clearly, you need legal advice and consultation every step of the way in this process, and the laws, disclosure requirements, and particulars of each Fund will be different, but in general, below is a Legal Guide that I published on the website http://www.avvo.com, which is a site that gives consumers guidance, background information, including ratings in their selection of an attorney.  While this Legal Guide is meant to be educational and informative, it is posted for informational purposes only and discusses general legal principles, trends, and considerations; it is not intended as specific legal advice .  This post does not establish an attorney client relationship.  For legal advice, you should retain legal counsel in your state for advice regarding your specific circumstances:

That being said . . . Assets have become distressed due to above-average vacancy rates, inability to refinance existing debt, depletion of reserves, and disrepair. While these assets are now more affordable, the capital funding needed to acquire, rehabilitate and reposition these assets is more difficult to obtain.  The following are the basic steps and principles involved in the set-up of a Distressed Asset Investment Fund.

Pooling of Interests

I believe in real estate.

The current marketplace has made assets available at below-market values for a variety of factors, such as tenant vacancies, owner distress, a financial imbalance in the the property’s value, an unfavorable loan structure, a lack of owner capital reserves, credit restrictions, and a variety of other factors.

Notwithstanding the availability of distressed real estate, it is difficult as an individual, or a small investor to acquire investments on a scale that would allow one to execute, on favorable terms, an investment strategy that will maximize the return on these investments.

Therefore, I am currently advising clients operating in hotbed segments of the commercial and residential real estate markets to complete a private offering that pools investor funds together in an investment entity dedicated to purchase, manage and then sell undervalued or distressed assets when the asset values improve, or to rehabilitate and re-position such assets for year-on-year cash flow. When structured effectively, and managed competently this can be a very lucrative investment strategy.

The pooling of interests is effective because the purchase of distressed assets is time consuming, very risky and capital intensive, and requires industry knowledge to identify, evaluate, secure, close-on, rehabilitate, and then manage, operate, and market these properties. A pooling of interests, whether it be industry expertise and/or financial resources to create the structure, identify, acquire and then manage the assets will be necessary to secure the equity needed to obtain financing on adequate terms. This strategy also creates a well conceptualized business plan, and it shares the risks.