Friday Letter The race for Stuy Town

For 45 minutes on Thursday, the eyes of New York’s real estate industry were firmly fixed on courtroom 248 of Manhattan’s Supreme Court.

The case was Bank of America NA v. PSW NYC LLC. Presiding was Justice Richard Lowe. In attendance were scores of real estate lawyers, members of the press, tenants and one or two noted investment managers. At stake was the future of the city’s landmark 80-acre multifamily complex, Stuyvesant Town and Peter Cooper Village.

When Bill Ackman’s Pershing Square Capital Management acquired $300 million of discounted senior mezzanine loans secured against Stuy Town in early August, as a precursor to launching foreclosure proceedings, the hedge fund manager was taking a path well trodden by many real estate investors.

By acquiring pieces of the junior debt, Pershing was eyeing control of Stuy Town’s equity interests, and by default, control of the 56-building, 11,227-unit complex, situated in the heart of Manhattan’s increasingly affluent East Side.

Unlike other mezzanine foreclosure proceedings, though, Stuy Town was never going to be an easy proposition.

Housing 27,000 – mainly politically astute, middle class – tenants, Stuy Town has been at the centre of many a legal battle ever since it was bought by Tishman Speyer and BlackRock Realty for $5.4 billion in 2006. Thursday’s foreclosure hearing was simply a continuation of Stuy Town’s recent past.

Gathered on one side of a packed Room 248, were senior lenders, represented by Bank of America and special servicer CWCapital Asset Management, while on the other were the junior lenders, Pershing Square and REIT Winthrop Realty Trust, Pershing’s partner in the deal and the original owner of the mezzanine debt.

From the start, this was not going to be like most other foreclosure hearings. Indeed, knowing full well that the city, if not the US real estate industry, was watching the outcome of the case, both sides ensured they played to the audience.

In demanding that Pershing Square and Winthrop (PSW) pay off the $3.6 billion first mortgage before being allowed to foreclose, CWCapital’s lawyer Greg Cross insisted that, in the event of default, “the senior lender drives the bus”. Junior lenders who wanted to drive, he said, “don’t reach over the seat, throw the senior lender from the bus and crash the bus”.

PSW’s lawyer, Edward Wiesfelner, took the metaphor and drove further. The two sides, he promptly rallied, were actually driving two different buses. And even if they were driving the same vehicle, then allowing the senior lenders to foreclosure on Stuy Town first, would mean PSW was “wiped out, gone, kicked to the curb of the proverbial bus”.

There were plenty of crimes against the English language committed in Room 248 yesterday, a fact not missed by Justice Lowe. At times his patience got the better of him, with Lowe repeatedly asking both counsel to make their points, and once shouting at Wiesfelner: “Tell me what it says”. In the end they did, with both sides admitting it was a race to foreclose.

In this race though, there’s definitely no prize for second place.

For CWCapital, winning the race is likely to result in Stuyvesant Town being auctioned off to the highest bidder separately to its twin, Peter Cooper Village. If PSW takes the tape, the entire Stuy Town complex could well be thrown into bankruptcy protection, adding pressure on senior lenders to restructure the first mortgage debt.

Either way the battle continues. For now, both sides – together with the media, tenants and New York real estate industry – are waiting for Justice Lowe’s ruling on who gets to foreclose first. Whatever the outcome, the implications of the case heard in Room 248 could have far-reaching effects for real estate debt investing for years to come.

In today’s market, it is in settings like this that returns are being chased. The action is interesting to watch, but a bit sad.