Wednesday, 22 September 2010

Another month, another First Allied centre misses a mortgage payment

September's shopping centre is "The Terraces at University Place" in Charlotte, North Carolina. It missed its most recent mortgage payment which was due on 11th September. The vacancy rate across First Allied's portfolio increased slightly compared to August (up to 11.3% from 11.1%). Vacancies rose at seven centres and declined at five.

"The Terraces" has c. 65,000 square feet of shopping space divided into 26 frontages. Five of those lots accounting for 23% of the space are currently vacant. The occupancy rate has gently declined over the last three years (from 85% at the end of 2007 to 77% today), but in recent months the rate has actually ticked up (from 75% in June). So why would The Terraces stop paying its mortgage all of a sudden?

In an interesting piece in the Tampa Bay Tribune on First Allied's problems, Mary MacNeill a ratings analyst at Fitch was dismissive of reading too much into loans going delinquent for a short time saying; "If it's just one month in the summer, that could be just a vacation." I'm happy to agree that in normal circumstances cheques can get lost in the post and payments missed only to be made good by borrowers when the mistake is noted. In the case of First Allied Corporation however, we have the benefit of more information and an extensive pattern of behaviour.

In addition to the Terraces, five other First Allied centres are currently delinquent; two are two months late on their payments, one four months late, and two five months late. None of these older delinquencies has so far proved to be a clerical error. One would imagine such "errors" would be swiftly spotted by borrower and/or lender and corrected. In fact three of the five properties have already been placed in the hands of the "Special Servicer" which works out problem loans. None of these delinquencies appear to be mere clerical errors.

Then we have the four former First Allied centres that we know have already been foreclosed on and seized by the lenders. After these centres went delinquent, they never corrected their missed payments either. They just stopped paying their mortgages and were eventually foreclosed.

Returning to The Terraces, and looking more closely at the data, the reason for the delinquency is quite clear. The original Lehman Brothers mortgage was taken out in August 2005. It's a fifteen year balloon loan with a five year interest-only period. So for the last five years, the interest only payments have been $895,000 pa (including payments on the "B loan"). Now the interest-only period is over and from 11th September onwards, The Terraces need to make capital repayments too. The balloon payment at the end of the mortgage is c. $11.2m and the total loan $13.34m, so that's $2.08m of capital to be repaid over the next ten years, an additional $208,000 per annum.

Put simply (and you can see the numbers from the CMBS trustee's spreadsheet here), the centre cannot afford these new payments of c. $1.1m. In the first six months of 2010 it only generated $416,269 of cash flow, or $832,538 on an annualised basis.

First Allied and the Glazers therefore have a choice, to support the centre with equity injections in the short-term, hoping that occupancy or rental rates rise, or to stop paying and let the centre go to the wall. Other centres in similar positions (weak occupancy and interest-only periods ending) ARE being supported in some way, they have not gone delinquent yet.

Perhaps I'm wrong about this, and a late bank transfer and an apology will roll out of Rochester to make good the missing mortgage payment in the next few days. Or perhaps, more likely, this is tenth First Allied shopping centre on starting on its way to foreclosure.

A quick comment on the monitoring First Allied Corporation

When I last wrote on this subject, various people pointed out that "walking away" from over-indebted commercial real estate was often a smart move in the current market and didn't prove that the owners couldn't cover the loans, just that there was no point throwing good money after bad. I totally accept and understand this. I have never claimed that the escalating problems at First Allied Corporation somehow "prove" the Glazers have no money, in fact their support for many centres that couldn't otherwise pay their mortgages shows the opposite.

My work on First Allied hopes to demonstrate two things; firstly that their predilection for using high leverage is not supported by much skill in doing so, and secondly that First Allied Corporation generates no meaningful cash flow for the family. This is after all (along with United and the Bucs) one of only three major businesses they own (unless they have lied about their business interests in UK regulatory documents). When thinking about the Glazers, their investment in their sports teams (or lack of it) and most importantly how they intend to service the debts loaded on the Red Football structure, First Allied is a key component and one that isn't producing a penny right now....