United States: The Dilemma Of The Really Annoyed Borrower

Last Updated: July 26 2017
Article by Richard D. Jones and Mia Rosati

Since my earliest days in the CRE capital markets biz, there has always been a drumbeat of grumbling from the borrower community about the annoying complexity, expense and delay of having one's loan serviced in a capital markets transaction. It's been going on forever. Like noise, like listening to Brits complaining about their weather; it's ubiquitous, apparently personally gratifying, but largely inconsequential for outcomes. The business goes on. Data indicates that as many as 60% of all new CMBS loans come from refinancing non-CMBS loans, so it's not like a structured finance ghetto here. The sell side takes comfort from the old saw that no sensible borrower would go to the CMBS window except as a last resort... like, three basis points or five bucks in extra proceeds. Ok, that's a tad too harsh and dismissive. But going to the capital markets window for lower rates, more proceeds or less recourse is entirely rational. On the other hand, the narrative about the pain through servicing in the capital markets is also real. The sell side and the servicing community are aware of borrower dissatisfaction, aware that something should be done. Efforts to do so however run into the heretofore immovable object of investor's not unreasonable enthrallment to even more control. To date, we have not found a way to square the circle. Time we did? Back in 2002, I wrote an article together with my friend, Mark Hill, called The Miranda Warnings. The article, which was published in CMSA World (we've had a lot of name changes over the last 25 years), advised borrowers about the facts of capital markets lending that they should consider when knocking on the CMBS door. I just reread it and it is still fairly relevant.

Since we wrote that article in 2002, CMBS execution has become more complex. Back in those days, pools had one special servicer, special servicers didn't get swapped around for a few bps, and there were fewer bespoke arrangements between masters, specials, primaries and control class representatives than there are today. The consequence of all that engineering, which, let's face it, is not the random tinkerings of an unengaged deity but engineering designed to meet the needs of investors, has made the borrower experience less good and borrowers crankier. With the best of intentions, if you have to ask three people whether they think a new lease is a terrific idea or not instead of one, it's gonna take more time, cost more money and create painful uncertainty.

In the great tradition of Henry V, "once more into the breach," CREFC has been focused on this issue for the past year and there is an active committee of about 20 issuers and servicers attempting to come up with ideas for streamlining the servicing process and making the servicing experience less annoying. The Committee is in the process of preparing a set of uniform standards and practices for CMBS issuers and servicers, which it anticipates releasing to the public within the next two months. The Committee has stated that its goal is to improve the borrower experience and that it is taking the concerns of borrowers extremely seriously. However, because the Committee is faced with balancing the competing needs of issuers and servicers, they are playing their cards close to the chest, so stand by.

Will any of this work in a material way? Will any of this actually make the servicing experience better for the borrowers? The jury's out. There's certainly plenty of room to make it slightly better. But then, in some circles, the question gets whispered, "do we really need to?" If the data suggested that borrower's demand is robust, then perhaps not. Uh oh, CMBS outstandings have plummeted from over $800 bb to less than $400 bb in the past decade. So I guess making the borrower experience better might not be an entirely stupid idea. Not to wax too philosophic but we ain't got much of a business if there are no borrowers. (No one needs to point out to me that without investors we don't have much of a business either, but do we have the balance right?) Is this a zero sum game where what's good for borrowers is also bad for investors and servicers, and vice versa? That is certainly true to some extent, but it's not time to give up.

We've gotten here, in some measure because borrower issues can get marginalized when the sausage making machine that is the PSA and the other documentation of a securitization gets built. The sell side and the service providers are at the table, lawyered up and loaded for bear. The borrowers are but a hovering presence. Oh yes, it's easy to say, "Remember, we actually have to make this work for the borrowers," but they're not there and therefore I think the urgency of their concerns is suppressed. That's just human nature.

It's high time we whip out the Ouija board, establish contact with the other side and figuratively bring them to the table and make all this work better for the father of the feast.

Wielding Occam's Razor, to materially improve the servicing experience we need to reduce the number of bilateral contractual consents required in the servicing structure, eliminate unanticipated fees and increase decisional spend. Easy, right? There's lots of good ideas out there. I'm hopeful that CREFC will embrace some. Could we build a two-speed servicing process? Could we treat assets with good performance differently? Could we build in fast track mechanisms for assumptions, for releases, for defeasance where the ask is clearly down the middle of the fairway? Could we create provisions that default to a yes when answers are not forthcoming, so borrowers could get on with their business? Could we all just agree that borrower paid fees all need to be scheduled and the servicing consent process needs to be more transparent so that there will be fewer bad surprises?

Again, is this a zero sum game where making the process more amiable for the borrower community hurts investors? Does it fatally impair the economics of the servicers? That can't be right. The bar can be moved and the circle can be squared, or at least it's worth a try. And kudos to CREFC and its members for trying. It seems to me there's plenty of room to make the process more linear, more rapid and more price efficient than it is right now without impairing prudent servicing. Let's bring a little common sense to the table here. Dodgy loans need more intrusive servicing and good loans need less. A step in that direction would eliminate a big reason why borrowers hate us so.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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