tictalk - transwestern · 2016-07-16 · see investors wisely considering the economics of the...

TIC talk4th QUARTER 2008

Q U A R T E R L Y

© 2008 COPYRIGHT OMNI REAL ESTATE SERVICES, LLC AN AFFILIATE OF OMNI BROKERAGE, INC. - MEMBER FINRA/SiPC

TM

Real EstateS e r v i c e s

as efforts are being made to lower interest rates for homebuyers. Lower interest rates should have benefits to the economy as it may increase the number of residential real estate buyers, potentially increase the value of residential real estate (both because there are more buyers and a higher valuation that accompanies a lower interest rate), and possibly relieve at least some of the fears of consumers as they begin to have equity in their homes again. The TIC industry stands to benefit as more real estate transactions will lead to more 1031 exchanges and, in turn, more investments into TIC properties.

Along with the challenges that this economy has created, it has had some positive impact on the TIC industry. In the past, investors may not always have been aware of the differing levels of risk among TIC offerings, and would therefore be tempted to seek out the highest yield regardless of risk. Today, we

Cautious OptimismBrady FlammDirector of Advisory ServicesOMNI Real Estate Services, LLC

This edition of TICtalk marks two noteworthy changes. Up

until now every edition of TICtalk began with an article from

Manuel Nogales. Mr. Nogales has recently left OMNI Research

and Consulting, LLC to join Passco Companies as the Vice President

of Investment Advisory Services, tasked with helping Passco pursue

sponsor consolidation opportunities, portfolio assessment and takeovers,

working with distressed sponsors, and helping individual TIC investors

who are in struggling TIC programs. We wish Mr. Nogales the best in

his new role and look forward to seeing the impact he will continue to

have on this industry.

The second change is that TICtalk will now be published by OMNI

Real Estate Services, LLC a company organized to merge OMNI

Research and Consulting and the due diligence departments of OMNI

Brokerage and Orchard Securities, LLC. OMNI Real Estate Services,

LLC is positioned to use the combined expertise of these organizations

to pursue the opportunities created by the current real estate market,

including new opportunities with TICs, funds, and non-traded

REITs.

Going forward, I will be responsible for TICtalk. I recently joined

OMNI Real Estate Services as the Director of Advisory Services after

completing an MBA at the University of Oxford in England. Although

The fourth quarter of 2008 has seen historic turmoil in the global

economy. The challenges of this economy have made it clear that the

TIC industry is not immune to the issues facing the economy in general

and specifically the real estate industry. That being said, we believe

that the TIC industry is faring well compared to so many other sectors

of the economy and we are cautiously optimistic for the future.

While the media continues to focus on the negative aspects of the

economy, we are hopeful for both the economy and the TIC market.

We see the US government taking great steps and committing to

bolster the economy. While the government initially acted to bail out

large corporations, the attention begins to turn towards Main Street


“Now, more than ever, everyone involved

must understand exactly what is driving the

returns of an investment and what risks are

being taken.”

“Along with the challenges that this economy

has created, it has had some positive impact

on the TIC industry.”


I am new to this role, I am not a stranger to TICtalk or this industry, as I spent three years working side by side with Mr. Nogales working within various roles at OMNI Brokerage and OMNI Research and Consulting, LLC.

see investors wisely considering the economics of the offering, the tenant mix, the location of the investment, and how well the sponsor can perform its duties ranging from asset management to investor services.

The articles for this issue of TICtalk address timely issues. “Due Diligence-It’s Still Important,” by Trevor Gordon of TIC Properties, offers insights into some commonly used financial engineering tools and what to watch out for when analyzing them. Now, more than ever, everyone involved must understand exactly what is driving the returns of an investment and what risks are being taken.

“Important Considerations in a TIC Property Workout,” by Bill Winn and Gary Smith of Passco Companies, addresses the options sponsors and investors have when an offering is underperforming and a workout is needed.

The final inclusion in this edition of TICtalk is a letter signed by six broker-dealers asking all TIC sponsors to disclose the performance

© 2008 COPYRIGHT OMNI RESEARCH & CONSULTING, LLC AN AFFILIATE OF OMNI BROKERAGE, INC. - MEMBER FINRA/SiPC

of their past offerings in the PPMs of new offerings going forward.

This letter was put together under the leadership of Welton Street

Investments with input from Pacific West Securities, Ameriprise,

Independent Financial Group, OMNI Brokerage, and Berthel Fisher.

We hope that this initiative will be championed by other broker-dealers

and reps throughout the industry and that it will be received well by

the sponsors, as it would be another step towards maturity for the TIC

industry.

As always, we hope that this issue of TICtalk is informative and plays

a small part in the continuing development of this industry. As the

different parties involved in the TIC industry work together to deal

with the challenges posed by this economy, I am optimistic we can

emerge stronger than ever.

TM


Broker-Dealer LetterWelton Street Investments, Pacific West Securities, Ameriprise, Independent Financial Group, OMNI Brokerage, Berthel Fischer



December 15, 2008

Dear Sponsor:

As members of your selling group(s), we appreciate your commitment to and support of the Tenant-In-Common marketplace. As the TIC marketplace continues to mature and properties accrue operating history, we feel it is more important than ever to add further transparency to the performance of these properties. We believe that reporting performance will benefit the entire industry by allowing the investor community, broker-dealers, and Registered Representatives to evaluate the ability of the sponsor to perform as projected. This could also improve the marketing efforts for sponsors whose properties are performing.

As a valued sponsor, we request your participation pertaining to the following proposal. We are strongly encouraging all sponsors adopt Section 6(k) (the disclosure of prior performance) of the Tenant-In-Common Association’s revised Guide To Best Practices, released in March of 2008. We would like you to be a leader in this respect and complete Exhibit D-1 and D-2 for all offerings including full cycle and those currently under management and return them as soon as possible but no later than January 31st, 2009. We also request that all offerings released beginning January 2009 include this material in the Private Placement Memorandum.

Please feel free to contact anyone of us with questions. We would greatly appreciate your participation and value any feedback you may have.

Regards,

________________________________ _________________________________ Mark Quam – Welton Street Investments Shanon Ford – Pacific West Securities

_______________________________ _________________________________ Eric Wilson – Ameriprise Joe Miller – Independent Financial Group

________________________________ _________________________________ Greg Paul – OMNI Brokerage Rick Murphy – Berthel Fisher

OMNI RESEARCH & CONSULTING, LLC © 2008 COPYRIGHT AN AFFILIATE OF OMNI BROKERAGE, INC. - MEMBER FINRA/SiPC

TM


Apartment 36%

Hospitality -43%

Industrial -73%

Office -13%

Retail 10%

GRAND TOTAL -83%

3rd Quarter 2008 Numbers

Equity Closed Per Asset Type - 3rd Qtr 2008 Percent Change in Equity Closed per Asset Type From 2nd Qtr 2008 to 3rd Qtr 2008

A total of $309.56 million in equity was closed in the 3rd quarter 2008, a decrease of 12.38% from the equity closed in the 2nd quarter 2008. The 12.38% decrease in equity closed was the smallest decrease in the last 6 quarters.

The 39.78% of equity closed in the office sector reflects a continued decrease while multifamily increased to 34.07% up 55.50% from the 2nd quarter 2008. Retail is up to 7.56% from 6.02% as reported in the 2nd quarter 2008.

TIC Industry Quarterly Statistics

$200M

$400M

$600M

$800M

$1.0B

$0

$1.2B

Q305

Q405

Q106

Q206

Q306

Q406

Q107

Q207

2005

2006

2007

2008

Q307

Q407

Q108

Q208

Q308

Industrial had the largest decrease in equity raised, showing a 73% decrease when compared to the 2nd quarter 2008. The large decrease in equity for industrial was offset, in part, by the increase in the apartment and retail sectors.

OMNI Real Estate Services, LLC

Statistics compiled by properties closed in Q3 2008

Statistics compiled by properties closed in Q3 2008 Statistics compiled by properties closed in Q3 2008



Hospitality6.79%

Industrial1.78%

Apartment34.07%

Oil & Gas7.05%Other

0.81%Senior Housing

2.16%

Retail7.56%

Asset Type Q3 2008 Q2 2008 Q1 2008 Q4 2007

Apartment 111 98 103 82

Hospitality 136 148 83 91

Industrial 124 94 37 72

Office 108 141 171 109

Oil & Gas 56 24 120 N/A

Other 21 180 N/A N/A

Retail 180 253 248 205

Senior Housing 30 N/A N/A 18

Average Days 96 134 127 96

AEIArgusBGKBirtcher AndersonBluerockBNICabotCapital EquityChristopher PlaceClearwaterColeCORECottonwoodCovington

CreekstoneCRMDeSantoDividend CapitalEliasonEquitableEvergreenExchange PointFirst Guardian GroupFORT Properties, Inc.GeminiGenevaGeyserGriffin

Grubb & EllisInlandKodiakMeridianMission ResidentialMoodyNoble RoyaltiesNPV Direct InvestORIXOxfordPasscoPennbridgePinnaclePrinciple

RainierREVARedwood WestdaleResource Real EstateRK PropertiesRM CroweSagebrushSequoiaSilver OakSouthforkSovereign CapitalStratfordTax StrategiesTexas Energy

The John Hicks Co.TIC CapitalTIC PropertiesTortoiseWellsWestern AmericaWhite CapWilkinson 1031 Woodlark

The preceding list inludes all sponsors surveyed

28 Programs Closed - 3rd Qtr 2008

THIS MAP DOES NOT INCLUDE PROGRAMS THAT HAD PROPERTIES IN MULTIPLE STATES

Average Days to Close - 3rd Qtr 2008

According to our 2008 projection the industry should close approximately $1.35 billion in equity. That would be a 52% decrease in equity raised in 2008 compared to the equity raised in 2007.

The number of sponsors who closed more than three properties has increased in the 3rd quarter 2008, while the number of sponsors who closed one property is down to 10 sponsors from 12 as reported in the 2nd quarter 2008. Sponsors who have been in the industry continue to close properties.

$1.0B

$2.0B

$0

$3.0B

$4.0B

$5.0B

TIC Industry Statistical Snapshot TIC Programs Per Sponsor - 3rd Qtr 2008

2007 2008Projected

200620052004200320022001 87654321

6

4

2

8

10

12

14

16

0

Num

ber

of S

pons

ors

Number of Programs Closed

16 of 65 Sponsors Surveyed Closed Deals in the 3rd Qtr21 Sponsors Were Active in the 3rd Qtr, but Did Not Close Offerings

Apartment 36%

Hospitality -43%

Industrial -73%

Office -13%

Retail 10%

GRAND TOTAL -83%

Statistics compiled by properties closed in Q3 2008 Statistics compiled by properties closed in Q3 2008


1

1

1

1

2

2

2 1

4

1

3

11

1

11

1

3

TM


Trevor GordonPresidentTIC Properties, LLC

One of the bright spots in the industry this year has been the increased importance of due diligence officers (and the registered

reps themselves), to target sponsors and offerings that have become overly aggressive in their underwriting. While 8% yields look great in an offering memorandum, seasoned reps and their due diligence officers have become more aware of the assumptions that go into each sponsor’s underwriting. This analysis is important not only to differentiate the deals that are available, but to assess the likelihood of each offering in protecting the client’s capital investment.

SCRUBBING THE DEAL

Below are several mechanisms that are often used by sponsor’s to boost yield in an offering. Please note that not all of these are considered to be red flags when viewing an investment. Each has merits and times when they can be used. However, excessive use in the wrong circumstances, or the wrong market, can certainly be considered aggressive underwriting:

Rate Buydowns – when used in moderation, an interest rate buy down will allow a sponsor to boost their yield by paying a certain amount of the loan (typically 1%) upfront for a reduction in basis points. This lowers the interest rate thereby increasing the cash flow available to pay the investors. Keep in mind, however, that the payment to the lender increases the load on the investment – thereby causing the investor to pay more for the property. So while the yield will help the “sizzle” of the investment, be sure to understand exactly how much additional equity is needed to invest in order to generate a higher return.

Aggressive Capital Assumptions – Underwriting the capital assumptions for a property can be very difficult and confusing to investors. Leasing commissions, tenant improvements, and capital repairs vary from market to market and from property type to property type. It is important to understand the capital assumptions that each TIC offering provides and how that affects the long-term strategy of the investment. If a sponsor has aggressively underestimated the reserves needed to release the building and take care of the landlord responsibilities, the rep that recommended that offering may be getting called on the carpet because

of the two most dreaded words in the tenant in common business – “Capital Call.” While the projection looked great when printed in the PPM, the amount of money needed to keep the property can often be way more than anticipated. Ensure the offering has an adequate reserve in place to take care of the property – which in turn will take care of the investment.

Reasonable and Achievable Underwriting Assumptions - In every investment, projections are made based on a certain set of assumptions. These can include, but are not limited to, current market rental rates, market rental rate growth, market tenant improvement allowances and leasing commission rates, market concessions, changes in market concessions over time, market vacancy, changes in market vacancy rates, renewal probability, and down time after a vacancy. These can be overwhelming to a potential investor, as each takes time to research and understand, since they can vary greatly from market to market.

Due Diligence - It’s Still Important

“These can be overwhelming to a potential investor, as each takes time to research and understand…”



One quick way to see the net effect of several of the underwriting

assumptions is to look at the NOI growth over the term of the deal. If

a deal has a 10 year hold and the NOI grows by 30% over that time

period, you can assume an average growth rate of 3% per year (slightly

less because it is compounding, but simple math works fine for this

quick estimate). This estimate will take into account the rental rate

growth, vacancy, down time, and rental concessions.

On most deals this growth should fall in the 2% to 4% annual growth

rate range. If the growth rate pushes the higher end of that range or

higher, the sponsor should have a good explanation on why they think

the market will support the high rate of growth, which may be justified

based on their business plan to add capital to a project that will result in higher growth rates on their income. There could also be other reasons the sponsor believes the growth will be strong, but you want to make sure the growth has not been manipulated to inflate the financial projections without a reasonable explanation.

Exit projections that are very attractive can also be a sign that underlying assumptions have been too aggressive. Most TIC deals have a 10% to 15% load on the value of the real estate, plus an additional 4% to 6% of costs and fees at disposition. So to merely break even on an investment, a TIC investor must realize an NOI growth rate of almost 2% each year on a 10 year hold (which can include some principal reduction in the loan). A reasonably underwritten TIC deal will project total returns upon disposition from 8% to 12% assuming a stable cap rate environment. A shorter holding period will make it even more difficult to achieve the required growth to achieve the targeted returns.

PLANES, TRAINS AND AUTOMOBILES

Once approved by the Broker Dealer, each PPM and marketing slick is also scrutinized by the registered representatives. But before adding the offering to their personal “approved TIC Offering list,” it is imperative that Reps take one more vital step in the due diligence process. They should get on a plane and visit the property. Nothing written in a PPM can compare to the knowledge obtained by driving to a property and

walking its acreage. Does the location present in person the same way it does in the PPM and appraisal? Is it clean? Does all the signage make sense? Can you see the property from the road? What does the local business scene look like? How close is the property to other businesses and residences? There is no amount of reading that can be consumed to equate to having actually toured the property personally.

Recently, the TIC industry has moved away from property tours, often because Reps cannot isolate a day away from the office to complete them. By visiting each property offered to clients, a Rep may become an authority on its benefits and risks, and can confidently provide insight into the deals that their peers often cannot. As clients begin to shop their TIC investment dollars around, in important thing Reps have to differentiate themselves from their peers is knowledge. By taking time away from the office to visit a property and learn the local market, the Rep establishes an advantage that can be used to better educate their clients and inform them of the deals on the market.

“...it is imperative that Reps take one more vital step in the due diligence process.”


TM


Number of Months # of Deals % of Total Deals

12 Months (+) 6 12.5%

11 Months 3 6.25%

10 Months 2 4.17%

9 Months 1 2.08%

8 Months 4 8.33%

7 Months 1 2.08%

6 Months 1 2.08%

5 Months 1 2.08%

4 months 3 6.25%

3 months 7 14.58%

2 months 2 8.33%

1 Month 10 20.83%

Less than 1 month 5 10.42%

TOTALS 48 100.00%

Equity Per Asset Type - 9.23.2008

March 19–20, 2009

Manchester Grand Hyatt

San Diego, CA

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Mark your calendar... this is the TIC event you don’t want to miss!

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Week of 9.23.2008 TIC Industry SnapshotOMNI Real Estate Services, LLC

Number of Months # of Deals % of Total Deals

12 Months (+) 6 12.5%

11 Months 3 6.25%

10 Months 2 4.17%

9 Months 1 2.08%

8 Months 4 8.33%

7 Months 1 2.08%

6 Months 1 2.08%

5 Months 1 2.08%

4 months 3 6.25%

3 months 7 14.58%

2 months 2 8.33%

1 Month 10 20.83%

Less than 1 month 5 10.42%

TOTALS 48 100.00%

Equity Per Asset Type - 9.23.2008

Retail and Senior Housing decreased by 31.25% and 88.54% respectively. Office has increased 40.70% since last quarter’s weekly snapshot (June 30, 2008).

ASSET TYPE BY STATE - 06.29.2007Velocity of Equity Raised vs. Equity Available - 9.23.2008

Average Days On Market 161

Average 1st Year Yield 6.50%

Average Minimum $361,496

Average Total Equity $13,360,807

Average Equity Remaining $7,137,218

Asset Type Total Equity Available Equity

Apartment $181,409,343 $88,581,568

Hospitality N/A N/A

Industrial $14,500,000 $8,500,000

Office $235,788,151 $142,368,893

Oil & Gas $18,648,976 $6,095,967

Other $15,773,000 $13,819,622

Retail $180,569,685 $78,884,990

Senior Housing $9,600,000 $400,000

*Weighted by Total Equity $656,289,155 $338,651,040

Shelf Life - 9.23.2008 (Number of Months on Market) Week Breakdown - 9.23.2008

Approximately 60% of available properties have been on the market four months or less. The number of properties on the market 12 months or more increased 219% to 12.5% in the 3rd quarter 2008 compared to the 2nd quarter 2008.

The days on market has increased by 16 days since last quarter’s weekly breakdown (June 30, 2008). With more DST structures on the market we are seeing higher average total equity, higher average equity remaining and similar average minimums as previous reporting periods.

This graph illustrates the relationship between equity raised and equity available over the past year. The velocity of equity raised appears to be flattening at the end of the 3rd quarter 2008 while the equity available increased sharply. Sponsors are continuing to bring new offerings to the market while the velocity in which equity is raised is slowing.


Oil & Gas1.80%

Industrial2.51%

Apartment26.16%

Other4.08%

Senior Housing0.12%

Retail23.29%

0

125

250

375

500

Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08

Equity Available Equity Raised

TM


Bill Winn & Gary SmithPassco Companies, LLC

As the challenges in the housing and subprime mortgage arena have

intensified, so have the challenges in our national economy and

the financial market systems. This and other factors have resulted in

weakening performance of some asset classes over the last few years and a

significant contraction in the availability of commercial real estate loans

for both TIC transactions and non-TIC transactions. This environment

has also created significant negative pressure on commercial real estate

values.

The increase of loan defaults has not been isolated to just residential

mortgages, as reported by the Mortgage Bankers Association, defaults

on commercial real estate loans are increasing as compared to a year ago.

These defaults have occurred across the country in both TIC owned

properties and non-TIC properties. The majority of these properties

were acquired utilizing loans made by conduit lenders who re-packaged

and sold the loans into Commercial Mortgage Backed Securities pools

(“CMBS”). When these CMBS loans go into either monetary (i.e.

non payment of debt service) or technical default (i.e. default under the

master lease or non monetary loan default), they may be transferred from

the Master Loan Servicer to a Special Loan Servicer who is tasked with

working with the borrowers to see if there is a workable forbearance plan

or loan modification agreement that can be put in place or, if not, moving

forward to take control/ownership of the property thru either foreclosure

or deed in lieu of foreclosure. Loan servicers of CMBS pools operate

within the authority of their servicing agreement and do not have the

flexibility to modify the loan as a bank lender would utilize. For example,

loan servicers have found it difficult to deal with TIC owner groups

without the assistance of a strong leader that has the trust of the TIC

owners. Decisions, with respect to the loan, require unanimous consent

of the owners and loan servicers are not equipped to take on a leadership

role of the TIC owner group.

Loan workouts are inherently more flexible for loans originated by banks

or life insurance companies because they typically remain on their balance

sheets. The bank or life company is able to modify the loan without the

consent of others since the loan was not sold into a CMBS pool.

Over the course of the last year, Passco has been actively involved in

working with TIC owners and their registered representatives in the

following situations:

Sponsor has defaulted on master lease payments;1.

Sponsor has defaulted on master lease payments and filed 2.

bankruptcy;

Perceived poor property performance due to Sponsor failure / 3.

weakness;

Perceived lack of Sponsor communication to TIC owners resulting in 4.

a lack of confidence in Sponsor;

Poor property performance resulting in monetary loan default;5.

Property in receivership due to poor property performance and non 6.

payment of loan payment; and

Interest by Sponsor to exit the TIC business.7.

As each situation presents unique challenges and opportunities, each

assignment begins with a situational assessment to outline the most

realistic options. Many times, the TIC owners have nominated 3 or 4

owners to be the main working committee. We work with this owners

committee and actively involved registered representatives to gather all

background information on the property and situation, and then hold a

conference call to discuss our preliminary findings with all owners.

Once we have an understanding of the issues at hand, the structure of

the offering (master lease, management agreement), loan structure and

guarantees and have identified all of the involved parties, we complete

additional due diligence on the property which includes a) physical

condition, b) repair and capital requirements, c) competitive position in

its local market, d) lender and loan status, e) cash and reserve reviews,

and f) cash flow forecasts. All of this information is utilized to assess the

property’s current valuation relative to the outstanding loan balance, and

to inform the owners of their alternatives going forward on how best to

operate the property to maximize cash flow and ultimately value.

Important Considerations in a TIC Property Workout



Once we have an agreed upon business plan with the TIC owners, we are then in a position to approach the lender and the current sponsor to effect a transfer or assignment of the master lease or the management agreement. Each situation may require a different approval process by both the owners and the lender.

In the case of a master lease assignment, the master lease is amended, allowing the new sponsor to not have to assume the liabilities of rental payments under the master lease and to have the cash flow from operations determine rental payments to the TIC owners. If the master lease is in default, then typically the TIC owners have the right to forcibly remove the master tenant and replace them with a new one. If the master lease is not in default, then usually the TIC owners cannot forcibly remove the master tenant, but may ask the current sponsor to voluntarily resign.

Some frequently asked questions by TIC owners and registered representatives are:

Is this property in a “workout” situation because of its performance, •unrelated to the sponsor or master tenant’s asset management efforts? Is this property performing in a similar manner to other comparable properties in its submarket? Typically, it is a combination of both.

Is the sponsor actively managing the property and communicating •frequently and openly with the owners? If not, usually a lack of trust has developed between the sponsor and owners.

Does this property need a cash infusion from the owners? If so, •how much and why? Is this infusion to operate the property or to pay the lender as part of a loan forbearance agreement? Frequently, if the loan is in default or the property is poorly performing, funds will be needed to partially cure the loan default and to pay for leasing expenses and capital improvements at the property.

Should the owners contribute their capital, sell the property or seek •outside capital? We generally provide a hold versus sell analysis to the TIC owners. Each owner will have unique circumstances which

will affect their ability and willingness to contribute capital and

these discussions are part of the dialogue on owner conference calls.

Outside capital infusions are possible, but more difficult to structure

because of the tax implications to each TIC owner as a result of how

the capital would come in.

What are the provisions of the master lease or management contract •

with respect to replacing the master tenant or property manager?

Typically, unanimous TIC owner consent is required. Also, it could

be that a master tenant cannot be replaced unless there has been a

default by the master tenant that has not been cured upon notice.

Did the sponsor company or an affiliate sign the recourse or non •

recourse loan obligations? Did the principal of the sponsor sign the

same loan guarantee obligations? Are the master tenant and principal

loan obligations only related to the acts of the master tenant or

principal and not the acts of the TIC owners? The new master tenant

or property manager will need to evaluate if they are willing to step

into these liabilities, and assess whether or not the lender will modify

the liabilities as the lender consent process is underway.

What are the costs to obtain the lender’s consent to a change? The •

lender will usually request a legal expense deposit of $5,000 to

$10,000 to review the master lease assignment or amendment, and

the assignment or modification to the loan guarantees. Additionally,

the TIC owners and the new master tenant or property manager will

incur some legal fees from their respective attorneys to review these

documents.

How long does it take for the lender to approve? It varies from two to •

four months. Each loan servicer brings a varying level of experience

and sense of urgency to the consent process.

Each property we see is unique in terms of its performance problems,

transaction structure and alternative solutions. Passco strives to provide

what is best for the TIC owners during these challenging times.


TM


Edward HannonCPA, J.D., LLMFreeborn & Peters LLP

Several weeks ago, DBSI and several of its affiliated entities filed

a petition for bankruptcy. A consequence of this bankruptcy

filing was that approximately 250 TIC properties fell within the

scope of the bankruptcy. For many of these TIC properties, the

involvement in the bankruptcy arose from the master lease that was

entered by the co-owners of these TIC properties and a DBSI entity

and the fact that DBSI maintained an ownership interest in these

TIC properties.

As of today, the lawyers of Freeborn & Peters are representing

approximately 30 TIC property owner groups in connection with

this recently filed bankruptcy petition. The issues being faced by

the TIC owners as a consequence of this bankruptcy filing are too

numerous to be adequately covered in a single article. Based upon

the first few weeks of this process, however, we believe that there are

several key lessons that we all can take away from this experience.

STEPS TO TAKE AT THE FIRST SIGN OF TROUBLE

As mentioned in previous articles that have appeared in TICtalk, a

TIC property workout can arise from several causes. In some cases,

the need for a TIC workout is caused by factors unrelated to the

TIC sponsor. Over the past few months, Freeborn & Peters has been

contacted by several TIC sponsors who have asked us to step in to

provide legal counsel to a TIC property owner group in connection

with a lender workout for a property that lost a key tenant as a result of

the bankruptcy of that tenant.

In other cases, the need for a TIC workout is directly related to the

actions of the TIC sponsor. In these cases, the need for a TIC workout

can be caused by the TIC sponsor’s failure to properly manage the

property or, perhaps more troubling, the TIC sponsor’s adoption of a

faulty business plan, which caused the TIC sponsor to face financial

difficulties. Having been involved in both of these types of workouts,

Freeborn & Peters has found that the issues that arise in a TIC property

workout caused by the short comings of the sponsor are somewhat

different than the issues that arise from non-sponsor related issues.

At the first sign of trouble, the TIC property owners should take

immediate steps to find the other co-owners and establish a line of

communication among the co-owners. As part of this process, each

group should designate one or more of the co-owners as the point of

contact for the group, and who will volunteer to be the coordinator

should the group need to hire legal counsel or other advisors.

In the DBSI matter, it appears that the need for the TIC property

workout may have been caused by a combination of factors; the main

cause of which will hopefully be revealed as this matter evolves.

Nonetheless, it is our experience that the TIC property owner groups

that are well organized are in a better position than those groups that

are still in the process of establishing lines of communication among

the co-owners in choosing a plan of action to address the quickly

deteriorating situation and in implementing that plan.

The Issue of the Day - TIC Property Workouts and TIC Sponsor Bankruptcies



“The tenant in common structure is an

exceedingly complex, tax-driven structure.

In fact, a TIC master lease structure adds

additional complexity”

When the TIC property workout is caused by the bankruptcy of a key

tenant of the property, it has been our experience that the TIC sponsor

is very proactive in working with the TIC property owners, and their

attorneys, to get them the key information and contacts needed to

effectively pursue the TIC property workout process. In contrast, as

seen in instances where the need for a TIC property workout is caused

by the short comings of the TIC sponsor, the TIC sponsor may be slow

in notifying the TIC property owners that there is a problem.

FACTORS TO CONSIDER IN HIRING AN ATTORNEY FOR

THE GROUP

Once an owner group determines that it may have a potential problem,

it should undertake an investigation to see if an issue truly exists and

then identify the cause of the problem (e.g., a tenant problem or a

sponsor problem). During this investigative stage, other advisors

may be better suited to assist the TIC property owner groups than

an attorney. We do not believe that there is a bright-line that can be

drawn on when a group should retain an attorney.

Regarding the DBSI matter, many law firms were in contact with the

various TIC property owner groups. Some law firms advised the TIC

property owner groups that they would provide their services for a fixed

fee. Other advised that they would represent TIC property owners for

$100 a person. However, many TIC property owner groups involved

in the DBSI matter quickly realized that an agreement to a fixed price

should not be the determining factor in selecting legal counsel. In fact,

many groups were able to quickly grasp the complexity of the issues

facing the TIC property owners and asked very pointed and direct

questions when interviewing legal counsel.

The tenant in common structure is an exceedingly complex, tax-

driven structure. In fact, a TIC master lease structure adds additional

complexity. In most TIC property workouts, the existing structure

and documents will be modified in one way or another. In many

instances, a change to one document, including the loan documents,

will likely cause collateral consequences under other documents. In

addition, every TIC property workout will require sensitive discussion

with the lender. As part of this process, the TIC property owners

should also consider the bankruptcy implications of the situation

with respect to both a bankruptcy filing by the TIC sponsor or by the

co-owners’ respective single-member LLCs.

In the DBSI matter, many of the TIC property owner groups selected

law firms that possessed multi-disciplinary set of skills needed to

address these complex issues. Specifically, the TIC property owner

groups that failed to hire a law firm that had the requisite experience in

real estate loan workouts and in representing creditors in a bankruptcy

could fall behind the curve in resolving the various issues that must be

addressed in a TIC property workout. Likewise, if the TIC property

owner groups failed to hire a law firm with the requisite experience

with the tax and structural issues that arise in a tenant in common

structure, the group might inadvertently terminate its ability to

preserve the tax benefits available from the TIC structure once the

workout is completed.

KNOW YOUR PROPERTY

In the DBSI bankruptcy matter, one of the first issues faced by the TIC property owner groups was how to get access to accurate and unbiased information about the property. Many TIC property owner groups faced the following questions:

Who is the property manager contact, •

Who are the contacts for the major tenants of the property, •

What are the true costs of operating the property, •

What is the status of debt service on the property, and •

Who is the point of contact with the lender. •

TIC property owner groups that obtained this information at the first sign of trouble were in a better position to react to the bankruptcy filing.

BE CAUTIOUS ABOUT UNSOLICITED ADVICE

In the best of circumstances, a TIC property workout is a highly stressful situation for the TIC property owners. Factoring in the additional stress created by the uncertainty of the bankruptcy process and the lack of information initially made available by DBSI, the early days of the DBSI bankruptcy had many TIC property owners emotionally frayed. Eventually, the TIC property owner groups recognized the communications for what they were.

In the Internet age, communication has become very efficient. Unfortunately, this ease of communication also facilitates the spreading of rumors and dissemination of misinformation. During the DBSI bankruptcy, many non-attorneys felt the need to provide “advice” to TIC owner groups on the issues. Perhaps more frustrating was that attorneys and others who had no knowledge of bankruptcy law or procedure also felt the need to send out e-mails to provide “advice.”

Because the TIC workout process is both stressful and highly complex, TIC property owners and their registered representatives should work toward not being distracted by Internet rumors or unsolicited advice. Recognizing the complexity of the issues at hand and selecting the right legal team to address these complex issues has helped many TIC owner groups reduce their level of anxiety in this matter. If there was a simple solution to the issues created by the bankruptcy of a TIC sponsor, it would be pursued openly and vigorously by many of the law firms who are representing the various TIC owner groups.

The Issue of the Day - TIC Property Workouts and TIC Sponsor Bankruptcies


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HAVE REALISTIC EXPECTATIONS

Because DBSI was the master tenant under a master lease structure, each TIC property owner was an unsecured creditor. The bankruptcy process is rarely a pleasant experience for unsecured creditors. Members of the Freeborn & Peters Bankruptcy Group have advised that the progress of the DBSI bankruptcy is not out of line with the pace of other bankruptcy cases.

Getting the TIC property owner groups extracted from the DBSI bankruptcy is a lengthy process. In fact, regardless of which mechanics a group ultimately chooses for this exit, cooperation of the debtor, other creditor and the lender on the property is crucial. Accordingly, even though it is unpleasant to admit, there is no “magic bullet” available. Instead, TIC property owner groups have to rely upon their legal counsel to have the requisite expertise in bankruptcy and real estate loan workouts to push this process along as effectively as possible.

BE PREPARED TO ACT

Because the tenant in common structure is a tax-driven structure, various formalities must be respected. This is true even in the context of a TIC sponsor bankruptcy. Under the existing TIC documents, unanimous consent is required for many decisions. Accordingly, TIC

property owner groups that can communicate with each owner and

obtain this unanimous consent in a timely manner will have more

options available to them than groups that cannot communicate

effectively. Again, having open lines of communication among the

TIC property owners from the first sign of trouble will help the group

immensely in the long run.

CONCLUSION

As of today, all of the TIC property owner groups are still entangled

in the bankruptcy. This article could have included many more

observations and discussions of various strategies that were considered

in this process. However, now is not the appropriate time because

negotiations toward the resolution of these issues are still on-going.

Even with these limitations, we can take away several valuable lessons

from the DBSI situation: (1) get the TIC property owner group

organized at the first sign of trouble; (2) once it looks like there is

a strong possibility that there is a problem, gather all the available

information about the property; and (3) recognize the necessity of

selecting legal counsel that has the requisite expertise in bankruptcy,

real estate loan workouts and the tenant in common structure.

21-23 JanuaryIMNWinter Forum on Real Estate Opportunity & Private Fund InvestingMontage Resort & SpaLaguna Beach, CA

19-20 MarchTICA2009 Spring MeetingManchester Grand HyattSan Diego, CA

Calendar of Events

January

March

27 JanuaryMidwest Real Estate2nd Annual Investment & Finance SummitHyatt RegencyChicago, IL

5 MarchRealShareReal Estate 2009Westin BonaventureLos Angeles, CA


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$1.0B

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$0

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2007 2008 200620052004200320022001

Visit us at www.OmniTicConsulting.com

150 W. Civic Center Drive, #103Sandy, UT 84070

The team at OMNI Real Estate Services, LLC hopes that you find the TIC Industry’s statistics and the pertinent articles within TICtalk helpful in your daily business activity. If you have any questions, please feel free to contact us at 877-704-6737 (ORES).

Brady Flamm Director of Advisory Services

TIC Industry Statistical Snapshot

TIC talk


4th QUARTER 2008

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