Ensuring Professional Compensation in Workouts, Bankruptcies Compensation Disputes in CRE Engagements
BY MICHAEL P. O’NEIL & ANDREW T. KIGHT,
PARTNERS, TAFT, STETTINIUS & HOLLISTER LLP
“Muzzle not the ox while it
is treading out the grain.”
Deuteronomy 25: 4
One would be hard-pressed to identify any insolvency professionals who practice for the
sheer love of the game. Among the many
challenges associated with a workout or
Chapter 11 bankruptcy of a commercial
real estate project, professionals’
compensation is near the top of the list.
Whether their compensation is based
on hours worked or a commission
structure, professionals must take steps
to help themselves before a disgruntled
lender attempts to affix the muzzle
to prevent payment of their fees.
For brokers and intermediaries, this is
the time to get the lender to consent
to payment of the commission upon
sale, even if the proceeds are less
than par value of the loan. But if the
client waits too long or other factors
mitigate against a negotiated solution,
professionals must be more creative.
One seeming paradox of the recent (and,
in some respects, ongoing) recession
has been the steady decline in business
reorganization Chapter 11 filings.
According to the American Bankruptcy
Institute, business bankruptcy filings
have declined for 12 straight quarters.
The 10,998 filings in the first quarter of
2012 were off by 31 percent from the
second quarter of 2009, which recorded
16,014 filings, the most in a quarter
since the second quarter of 1993.
The collapse of the commercial real
estate market has left many lenders with
an undue concentration of bad loans
from this sector. With little appetite
for voluntary refinancings, lenders
are increasingly enforcing their rights
under their loan documents at the
first sign of a covenant default or, of
course, at maturity. Without outside
financing in place, owners facing
such problems have little time and few
options to avoid losing their undervalued
and overleveraged properties.
In circumstances in which a client has
anticipated trouble before a default
notice is issued, an out-of-court workout
has the highest probability of success.
If the lender sees that the borrower is
being transparent with information
while trying to solve any operational and
balance sheet challenges, that lender is
more likely to agree to carve-outs and
other safeguards for the professionals.
While the reasons for this decline are
numerous, one factor is certainly the
difficulty of a fully encumbered debtor
operating within Chapter 11 without
the consent of secured creditors. This
situation is not uncommon, given the
decline in value of certain asset classes,
particularly commercial real estate.
One obvious option might seem to be
commencing a Chapter 11 bankruptcy
case and restructuring the mortgage
debt in line with the property’s current
value. But while the right to file
bankruptcy is nearly absolute, the right
to proceed is not, and the ability to
use cash to fund operations and pay
post-petition expenses is critical. This
is especially true in single asset real
estate (SARE) cases, in which all of a
debtor’s operating cash is usually derived
from the real estate and subject to the
lender’s post-petition security interest.