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Friday, 11 May 2018

Jury to Decide Outcome of Insurance Dispute Involving Former CMBS Collateral

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Commercial Real Estate Direct Staff Report

The former owner of an Oakland, Calif., retail center that was taken through foreclosure two years ago is hoping an upcoming jury trial will provide closure to a five-year ordeal - that he likened to purgatory - involving the property's CMBS loan.

George Arce is president and chief executive of Centers Dynamic Inc., a Redwood City, Calif., owner and developer of neighborhood shopping centers. A group he led, Kera Oakland LLC, had purchased the Coliseum Center, a 70,814-square-foot retail property anchored by a Pak N' Save grocery store in Oakland, Calif., in 2005 for $14.65 million. The purchase was financed with a $10.5 million mortgage provided by RBS, which included it in the collateral pool of Greenwich Capital Commercial Funding Corp., 2005-GG5.

The loan was underwritten to generate nearly $850,000 in net cash flow and came close to that, or exceeded it until 2011, when things turned south. The grocer's lease matured in 2012. It agreed to stay at the property for another year, but was able to negotiate a sharp reduction in rent. As a result, cash flow at the property plunged. The loan's outstanding balance far exceeded the property's value. Based on a January 2013 appraisal, the property was worth only $4.8 million.

The loan, whose balance had declined to $9.4 million, transferred to special servicer LNR Partners in 2012 when it defaulted and early the next year initiated foreclosure efforts. In order to forestall those efforts, Kera Oakland filed for bankruptcy.

In a court filing, Arce explained that by the end of 2013 he had taken full ownership of the Coliseum Center, as part of the bankruptcy, in order to line up an equity partner to fund a repositioning of the property. His goal was to negotiate a discounted pay off, or DPO, of the CMBS loan and fix up the property to make it attractive to prospective tenants.

He had lined up Paragon Real Estate Group as a prospective equity partner in the property and offered $7.5 million, or 71 cents on the dollar, for the CMBS loan. LNR rejected the offer in April 2013, "giving no explanation nor counteroffer," according to the court filing. Paragon upped its offer to $8 million later that year. Again, Arce said in his filing that LNR didn't respond.

As the market started improving, interest in the property grew. Arce in January 2014 lined up Retail Opportunity Investment Corp., which agreed to buy it for $17 million. But it's offer was contingent on Arce's ability to negotiate a DPO. That didn't happen, so Retail Opportunity withdrew its bid. A month later, a venture of Citivest Capital Inc. and Tallen Capital offered $13 million. But Arce says LNR by then had gone radio-silent.

First Service Solutions, meanwhile, had put together a proposal to restructure the loan that Arce said would have resulted in its full repayment, but default interest, which had been accruing for more than two years "would be compromised," according to the court filing. LNR rejected the bid.

In June 2014, LNR had sent word, through its attorney, that it would provide a term sheet for a DPO. Arce paid the required deposit, but then didn't hear from LNR for nearly a year. Arce then bought Paragon back into the picture. But, "the lender never responded," according to the filing, and Paragon pulled out of the deal.

All the while, Arce said he was able to negotiate leases for the property, signing Dollar Tree, Grocery Outlet and Planet Fitness in 2014. But those agreements were subject to negotiating a favorable resolution with LNR. When that didn't happen, at least one of the prospective tenants pulled out of their deal.

Red Mountain Retail Group then anted up. In March 2015, it offered $12.5 million. But it withdrew its offer because of delays in reaching an agreement. Two other investors made comparable offers. They too were subject to a successful DPO.

Then things got interesting, Arce explained. In May 2015, LNR's counsel had forwarded a term sheet for a DPO. A pay-off notice of $12.8 million was later sent. That included nearly $2 million of default interest.

"We finally get a DPO statement," Arce said. "Then a week before closing, we get a pay-off statement. And it's incorrect. The default interest was calculated incorrectly," he said. "Our lawyer calls theirs. And he gets hung up on." Arce claims that with default interest, the loan's balance in early 2013 should have been $10 million.

LNR in March 2016 took the property through foreclosure. Last June, the property was sold. The result: a $4.1 million loss to the GCCFC 2005-GG5.

During all that time, the property fell into disrepair and the subject of vandalism. According to Arce's court filing, the property became an encampment for homeless individuals.

The property, however, was subject to a blanket insurance policy with Zurich American Insurance Co.

LNR, through a third party, had filed a claim for damage incurred in February 2016 - well before it had taken the property through foreclosure. It had claimed $2.6 million of losses. That's the rub.

Zurich, in a filing with the court, said it was prepared to pay the claim but hadn't because it couldn't determine to whom to make its payment. Arce was the property's owner when the damage occurred, but the claim was filed by an LNR representative. It deposited the claim with the court and argued that the court should decide who has rightful claims to the payment. That takes place later this year by a trial.

"The insurance proceeds should have been used to pay down the trust debt prior to foreclosure," argued John Flynn, of CRE Loan Advisors LLC of Seattle, who has been working with Arce on the loan.

A jury trial is scheduled for the end of the year.

Arce has placed loans from banks, insurance companies and CMBS lenders against his properties and said his experience with the Coliseum Center loan was an "eye opener … this whole journey has been quite fascinating." He's gone back to CMBS lenders recently, but said he made sure that his lender would retain the resulting CMBS deal's B-piece. "If there's a catastrophe, there's a relationship there," he said.

"The whole non-recourse, high-leverage thing was good," Arce said. "But it could be a double-edged sword." Securitized lenders, he noted, tend to be inflexible when a loan's collateral doesn't perform as planned. "I've dealt with other lenders," he added. "We're all big boys. We sign documents" and understand what we're getting into. "Not here. If you're being paid to resolve things and you're paid not to resolve things," the route you take depends on "which side of the scale is heavier."

Comments? E-mail Orest Mandzy, or call him at (267) 327-4281.


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Additional Info

  • Syndicate to Realpoint: No
  • Cities: Oakland
  • States: California
  • Sector: Retail
  • Subject: Commercial MBS (CMBS), Legal Issues (LEGL)
  • Deal Name: Greenwich Capital Comm Funding Corp., 2005-GG5
  • Private: No
  • bloombergDealName: GCCFC 2005-GG5
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