Post-COVID Commercial Lending—A Big Question Mark

It’s no secret that COVID-19 has wreaked havoc on the commercial real estate market in the Hudson Valley, the nation, and the world. Small “mom and pop” stores, restaurants, bars, hotels, landlords, developers and even major retailers were all slammed by the three-month shut-down mandate to curb the spread of the deadly disease.

As a result, some of the most well-known U.S. national chains have filed for bankruptcy including Neiman Marcus, J.C. Penny, J. Crew, Modell’s, Gold’s Gym, Hertz, Tuesday Morning, and the list goes on.

The American Bankruptcy Institute indicates the total national commercial chapter 11 filings in May increased 48% from the previous year. Just last month, there were more than 700 chapter 11 filings across the country, as compared to just 487 in May of 2019.

Founded in 1982, ABI provides Congress and the public with unbiased analysis of bankruptcy issues. The ABI membership includes nearly 11,000 attorneys, accountants, bankers, judges, professors, lenders, turnaround specialists and other bankruptcy professionals.

“Companies that tried to shore up their balance sheets at the beginning of the year represent the initial wave of Chapter 11s due to the economic crisis brought about by the COVID-19 pandemic,” said ABI Executive Director Amy Quackenbush. “While the CARES Act and other measures have been successful in keeping consumers afloat during the crisis, mounting financial challenges may result in more households and companies seeking the shelter of bankruptcy.”

The good news for New York is that it has not ranked among the top five states with the highest per capital bankruptcy filing rates—Alabama, Tennessee, Delaware, Mississippi and Georgia.

As COVID cases continue to decline here in the Hudson Valley, and businesses slowly begin to reopen, it may be a wary waiting game to see just who will survive. Three months of no customers or no rental income may leave many small business owners and landlords in a precarious situation, despite the Paycheck Protection Program that allows them to pay their employees. Later, the rules changed to allow some of those funds to go toward rent or mortgage interests.

“This pandemic has created a domino effect for business owners and landlords, and we’re waiting to see just how it will affect the future of commercial financing,” said Robert Withers, president and CEO of M1 Capital in White Plains. “Small businesses like hair or nail salons haven’t had any income for three months, so they may have difficulty paying their rents. As a result, the landlords may not be able to make their mortgage payments on the buildings.”

Withers, who handles commercial loans and investments in the New York metro area and Florida, said in some cases, landlords are willing to extend leases, or use part of a security deposit to cover overdue rents. As for building owners who are late on mortgage payments, those payment terms will tend to vary with each lender.

Concerning new commercial loans, Withers admits it’s an open book. “The lending environment now is very sketchy,” he explained. “Buying any sort of commercial property today is not for the faint of heart, or those with shallow pockets.”

In the post-COVID climate, Withers said, many lenders require holding at least 12 months’ worth of payments in escrow, so that they can receive continuous payments for a year, should there be any problems collecting rents from tenants. This is most often the case for anyone buying a building with retail units. “Never have financials of both building owners or tenants been under such scrutiny,” he added.

Restaurants, he predicted, may also be among the vulnerable. “While some are surviving on take out, once they open, they’ll still have to keep tables at least six feet apart, and may be operating at half capacity,” he said. “For many, it’s going to be very challenging to stay afloat operating in that situation.”

Gyms, malls, and even office buildings may also suffer in the aftermath of COVID. “Think of all the places where large groups of people gather in close proximity,” said Withers. “I don’t think people are going to be rushing back there.” As a result, he predicts a glut of office buildings and “big box.” spaces flooding the commercial real estate market, and the need for creative financing to repurpose those spaces.

Jim Lanfranchi, senior vice president and team leader with Webster Bank’s Business Group in White Plains, agreed that as the workplace changes in the post-COVID era, there may be a significant decrease in demand for ultra large office spaces. “A lot of companies may realize they don’t need as much space, if most of their employees can rotate their shifts and work from home,” he said. “I think that investors in office and retail will have to re-examine their portfolios and assess future demands.”

Developers and investors seeking commercial loans in the current climate are now looking at a coughing up much larger down payments on properties. Before the virus, the average LTV was a maximum of 70%, but now it’s been reduced to a maximum of 65%. “There is definitely an increased scrutiny on liquid assets when it comes to retail and residential multi-family properties,” said Lanfranchi.

For those struggling to repay loans, Lanfranchi said most banks do offer some type of a deferral program. “Sometimes it may be a deferral on interest payments, principal, or principal and interest—whatever is easier for the borrower,” he explained. “However, the updated PPP regulations have really helped investors, now that their tenants can earmark 40% of those funds for rental payments.”

Webster Bank’s commercial lending division has never been aggressive with retail or multi-family developments, but instead has concentrated on the industrial sector—factories, warehouses, flex industrial, and medical buildings. “Medical offices are like Chinese restaurants, pizzerias and nail salons—you have to go there if you want the food or service,” said Lanfranchi. Headquartered in Waterbury, CT, Webster Bank currently offers 157 banking centers between Westchester and Boston, with 22 commercial banking offices.

Most lenders today are also taking a closer look at an investor’s experience. “It’s important to know when they starting investing and how they’ve been able to handle vacancies,” he added. “Those with excellent liquidity may be able to get a 20-year fixed rate loan with rates in the low to mid 3% range.”

As the commercial real estate market hovers toward stabilization, some still fear a resurgence of COVID-19 for the fall and early 2021. ABI is already bracing itself for more possible bankruptcies, should the virus return in full force. “As financial challenges continue to escalate amid this crisis, bankruptcy is sure to offer a financial safe harbor from the economic storm,” added Quackenbush.