The first quarter of 2008 saw commercial real estate sales of $39.2 billion in the U.S., a 69 percent drop from 2007, according to a report by Jones Lang LaSalle as reported by National Real Estate Investor. According to the same report, commercial real estate sales worldwide declined 46 percent.
These significant drops vividly indicate the impact that the many and various economic crises have had on the commercial sector. The biggest hits have come from tighter lending standards, a substantially smaller and more narrowly focused conduit lending market and sharply higher lending spreads according to Earl Webb, CEO of capital markets at Jones Lang LaSalle as reported by National Real Estate Investor.
Analysts at Jones Lang LaSalle estimate that the markets won’t return to normal until sometime in 2009, but even that estimate might be a tad optimistic. Just as with residential real estate, many of these commercial real estate transactions just didn’t make sense financially during the bubble. We saw record sale after record sale, especially in markets like New York. Investors were paying way too much for property that offered measly returns. In the past, they wouldn’t have even been able to buy those buildings at the debt coverage ratios they were, but during the real estate bubble investors had lenders throwing money at their feet. All these property funds had to buy something in order to appease their investors, so they bought whatever they could for whatever price. Some of these investors had grand plans to increase revenue, many of which included raising rents in the building. However, with many businesses suffering at the hands of the economy, it is doubtful that these investors will be able to raise rents as planned.
In the end, I foresee many of these investors stuck with assets producing negative cash flow. An even bigger potential problem is that many of these investors originally secured loans which were only meant to be only short-term solutions. The investors had planned to use these higher-interest short-term loans as temporary financing until they could increase revenues and refinance with more traditional loans, but unable to raise revenue in many cases, and with the refinance market dried up, these lenders are stuck with bad loans and negative cash flow properties.
This situation has not been overlooked by opportunistic investors who are patiently awaiting desperate sellers to come calling. “In anticipation of that seller distress, a number of investment groups are building funds to buy up distressed properties and distressed commercial real estate debt. For now, those funds are still waiting for opportunities to appear,” according to Josh Scoville, director of strategic research at Property & Portfolio Research as reported by National Real Estate Investor.