AMERICAS NEWS: Loan to own

With an estimated $75 billion of distressed real estate assets in the Americas, there's plenty of feeding ground for the most opportunistic investors out there. And one way some firms are getting close to those opportunities is through the purchase of default-likely mezzanine debt.

Normandy Real Estate Partners and Five Mile Capital Partners are just two firms that have successfully executed on the strategy, after spending nine months acquiring the mezzanine debt secured against Boston's landmark John Hancock Tower.

The duo were two of six lenders that provided $472 million in mezzanine financing for the Hancock Tower. Private equity real estate firm Broadway Partners, which originally bought the property for $1.3 billion in December 2006, also had a $640 million first mortgage secured against the skyscraper.

As the credit crisis took hold though, concerns rose over Broadway's ability to meet its debt obligations, and by June 2008 Normandy and Five Mile were actively acquiring discounted pieces of mezzanine debt secured against p

Hancock Tower, Boston

roperties owned by Broadway.

On 31 March, that strategy enabled Normandy and Five Mile to buy the skyscraper for just $20.1 million, with the assumption of the $640 million mortgage.

On paper, the deal looks like a steal, with Normandy and Five Mile acquiring the building for half what Broadway paid in 2006. That figure though doesn't include the cost of buying the mezzanine debt, and fails to note that the building traded hands in 2003 for just $586 million, less than the current first mortgage.

However, according to New York-based real estate research firm Reis, there are several issues working in Normandy/Five Mile's favour.

The 60-storey building, which is 85 percent occupied, underwent a major refurbishment in 2005 and 2006, and included an off-street garage and retail section. The garage, which is leased to the Massachusetts Turnpike Authority on an 80-year lease, is expected to generate net cash flow of $7 million in 2009 alone. Reis, which has been tracking data about the building since the 1980s, said 2008 building gross rents were an estimated $47 per square foot (including partial recoveries) with operating expenses of $25 per square foot.

Of course, the US office market is set for a period of negative rent growth amid rising vacancy rates and declining values, so Normandy and Five Mile will be somewhat disappointed if they plan to flip the property in the next 18 to 24 months.

A spokesman for the two firms declined to comment further on the deal until the transaction was closed, other than to say the duo had been acquiring Broadway mezzanine debt since June 2008.

However, for investors willing to look beyond the next two to three years, a loan to own strategy could be just what the doctor ordered.