New Spots for Dotted Line
After a long stretch of doing little more than cleaning up bad loans, commercial real estate departments at most major banks in California are back in full swing.
Attesting to this revival is a surge in loan figures. Construction and land development lending by California banks shot up 15.5%, to $7.2 billion, for the 12 months ended in June--reversing several years of decline, according to the Federal Reserve Board. Commercial mortgages, which rebounded earlier in California, also jumped 14% over the year, double the nationwide rate.
“There’s a lending frenzy at the moment,” says Stan Massie, senior vice president of commercial real estate lending at Union Bank of California.
The trend is reminiscent of the booming ‘80s, but, as Massie and others note, there are marked differences today.
Instead of Japanese investors and thrifts, which were driving forces behind the speculative activity in the previous decade, California banks now face a new cadre of rivals, notably Wall Street and out-of-state banks and a handful of European banks. Also gone are many of the smaller developers, while the more sturdy, less-leveraged real estate investment trust has reemerged as a dominant force in California and elsewhere.
But some of the most striking changes have come from inside the banks. In the process of discarding troubled assets (nonperforming commercial real estate loans for California banks as a whole are now down to 2% from a high of 10%), these institutions have remade their commercial real estate departments. Many banks have brought in new crews to pursue vastly different strategies of securing deals and courting developers.
Take Sanwa Bank of California, which was among the earliest to resume commercial real estate lending in the state, in 1994. Since then, Sanwa’s commercial real estate group has amassed $600 million in loans--almost all of it from a new-customer base.
Bob Quinn, Sanwa’s senior vice president in charge of real estate, says his bank previously went after small deals--$2 million to $3 million--sought by small, private developers. But with many of those builders gone, the bank is now pursuing loans of $5 million to $40 million, and its clients, although currently numbering just 45, are mostly major public companies such as the Irvine Co. and Catellus Development Corp.
Half of Sanwa’s 38 commercial real estate loan officers are new, and the job has changed for longtime employees. Jeff Bloom, an 11-year veteran of Sanwa’s commercial real estate department, remembers making a lot more cold calls and worrying less about regulatory demands back in the late ‘80s.
“The emphasis was more transactional,” says Bloom, a vice president and regional manager in Newport Beach. “The deals were easier to figure out.” Once done, he adds, it was on to the next loan.
But today Sanwa is looking for repeat business, and to get that from corporations, Bloom spends a lot more time poring over their financial documents to understand their business. “It’s more sophisticated now; I put on my thinking cap more,” he says.
For City National Bank, the big shift has been less in the size of customers and more in the kinds of projects the bank is chasing. In the 1980s, the Beverly Hills-based bank concentrated on large office projects in Los Angeles, resulting in a huge fallout in the early ‘90s. Since then, City National has been slowly rebuilding its commercial construction and mortgage portfolio, and this has been a breakthrough year.
City National’s construction loans grew to $126 million in the first six months of the year--up more than a third from just six months earlier. Moreover, those loans were spread over many areas of the state. Among its recent financings: $14 million for a Federal Express distribution center in Irvine, $8 million for a manufacturing facility for a golf supplies firm in Carlsbad, and $5.7 million for a factory for an auto accessories firm in Ontario.
“Now we focus on construction and shorter-term financing,” says George Benter Jr., City National’s president and chief operating officer. Like some other banks, City National is requiring developers to guarantee their projects in writing, meaning they can’t walk away midway without liability, as some did in the 1980s. “We didn’t have that in the past,” Benter says.
Commercial banks in the state still dominate construction financing, but that market remains constrained by the limited amount of new building, especially in Southern California, where industrial and retail building in suburban areas is flourishing but the big downtown Los Angeles office market continues to be soft.
On the commercial mortgage side, banks have boosted their portfolios sharply in the last year, a trend partly reflecting the sale of a large supply of properties left over from the recession.
Bank of America, the state’s largest bank, saw its commercial real estate loans in California hit $6.3 billion in the first six months of this year. That’s almost as much as for all of last year.
Don Dormer, Bank of America’s executive vice president of originations, says his bank has been targeting residential and industrial projects in expanding areas such as south Orange County, where a new tollway has spurred an influx of residents and businesses. Like other banks, BofA doesn’t do “spec” building, in which development occurs without a commitment from tenants. Rather, the bank courts large developers with good track records.
“Now there is more equity cash going into transactions,” Dormer says. “Typically it is not unusual to see 15% to 30%, whereas in the ‘80s you could do it with zero. These public developers are a whole different animal.”
But banks face a serious challenge from Wall Street firms such as CS First Boston, Nomura and Lehman Bros., which have entered California in a big way in the last couple of years, making commercial loans directly and indirectly through the so-called conduits. Financial institutions such as Cleveland-based KeyCorp, which just opened a commercial lending office in San Francisco, have also rushed into California. The revival of REITs has added to the infusion of capital.
“It’s a tremendous revival; there’s more capital available than we’ve ever seen,” says Tim Stevens, managing director of Westmark Realty Advisors, a Los Angeles-based manager of national pension and real estate funds.
Stevens and others, however, worry there’s too much money pursuing too few solid deals, a phenomenon that has already driven down loan pricing and, some fear, could create problems down the road.
