Yesterday Seeking Alpha published an article on Starwood Property Trust, the owner of embattled special servicer LNR Partners LLC. The article hails Starwood as a "cash cow" and worthy investment. Where does Starwood get much of its cash? From LNR.
LNR Partners is the nation's largest commercial special servicer. For those not familiar with the lending world, servicers are the folks that collect monthly mortgage payments and insure that taxes and insurance payments are made timely. It's a relatively boring job. When a loan goes into default or becomes shaky, however, things get interesting.
In the commercial world, special servicers step in when a loan defaults or becomes troubled. Depending on the loan documents, an impending loan maturity, loss of a big tenant or even rumor of financial instability can trigger sending the loan to special servicing. Unlike normal servicers who simply collect mortgage payments, special servicers are usually given tremendous powers. A borrower who has never missed or even been late on a payment can suddenly find themselves in technical default.
Regulators would never tolerate such unbridled power in connection with residential mortgages. The commercial and CMBS markets are largely unregulated, however. Too often borrowers don't find out exactly how much power a special servicer has until it is too late.
Seeking Alpha claims that much of Starwood’s revenue comes from LNR Partners. With many CMBS loans facing maturity over the next 20 months, LNR stands to profit even more. In the words of Seeking Alpha, “[LNR] is one such CMBS servicer which is in great shape to capitalize on the shrinking number of sponsors… [T]his REIT is in very good shape to drive more loans into the special service and book into the wall creating significant fees.’
As many CMBS loans mature in 2016 and 2017, more will be placed into special servicing. That means more money for LNR Partners. The duty of a special servicer is to protect the noteholders. In the case of a Commercial Mortgage Backed Security (CMBS) financed property, the owners of the note and mortgage are the bondholders in the trust.
Bondholders want to insure they will be paid in the event of a default. Special servicers make their money, however, by keeping a borrower in special servicing. There is a financial advantage to pushing a loan into special servicing at the earliest possible moment, even if the borrower is current on all payments. Once in special servicing, there is little incentive to move properties out or get them refinanced. LNR only gets paid when borrowers are in trouble or when LNR says they are in trouble.
Starwood’s ownership of LNR Partners creates other problems. In recent years the list of lenders willing to finance or refinance CMBS loans has contracted. Starwood, however, has its own lending arm.
In the perfect one – two punch, LNR Partners can pull the rug out from under a borrower by declaring a non-monetary default. Once a loan is in default, securing financing becomes difficult. Because Starwood is a “cash cow,” however, it can step in and offer financing but at above market rates. Everyone wins except the borrower.
If published reports are correct, LNR Partners is not only the largest special servicer but will be special servicer on over one third of the many CMBS loans that mature in 2016 and 2017. That makes LNR the perfect conduit to feed business to Starwood’s lending arm.
Starwood isn’t just into lending and special servicing. It is now moving into real estate equity investing. In other words, it wants to buy and own properties.
Real estate investors make their money by buying low and selling high. Once again, LNR Partners position as a special servicer means it can use its clout to depress prices. By declaring a note in default or forcing a borrower into special servicing, LNR has considerable leverage to force a sale at below market values. Unless the borrower can quickly raise cash or refinance, they face immediate foreclosure and the potential of huge late fees, default interest and legal fees.
If Starwood likes a particular property, it can use LNR Partners to help force a sale and depress the selling price. If Starwood wants the loan business, once again it can use LNR to scare off other lenders and then come in a refinance at above market rates.
Starwood and LNR Partners have accumulated a considerable amount of power, largely because the CMBS servicing sector is largely unregulated. Although their actions may be legal in the formal sense, they can still be held accountable if they overreach.
We are firm believers in the old adage that says, “Power corrupts and absolute power corrupts absolutely.” Put in a different context, Starwood’s CEO Barry Sternlicht was quoted by Seeking Alpha as saying,
“So I actually love this environment, fantastic for the largest player in the space, which is us, two times the size of anyone else. We have looked at our loan repayments because mortgage REIT gets in sometimes in trouble when loans don't get repaid...
“That's actually all good for us, all that stuff creates better opportunities for us to deploy capital higher spread.”
LNR Partners is walking a fine line. They have duties to the bondholders and also a duty to deal with borrowers in good faith. When one company tries to become special servicer, buyer and lender, however, we think they cross the line.
If you have been defrauded by LNR Partners, CWCapital, C-III Capital Partners or any other special servicer, call us. We are one of the few law firms that have the experience and knowledge to take on lenders, banks, trustees and special servicers.
For more information, contact attorney Chris Katers at [hidden email] or by phone at (414) 777-0778. The author of this post, Brian Mahany, can be reached at [hidden email]
Judge, Lang & Katers and MahanyLaw – America’s Lender Liability Lawyers