FEATURE: Japan’s lonely lender

It is 30 July in Tokyo. Doug Smith is sitting in his office on the 19th floor of the famous skyscraper Sanno Park Tower in Chiyoda, looking for borrowers.

Smith is head of real estate lending at Deutsche Bank in Japan. To foreign investors looking to invest in Japanese real estate, this is the man you need to know. While all the major Wall Street banks have retrenched their real estate lending activities in the country, Smith says Deutsche Bank is still very much in the market.


The reason Deutsche’s rivals have disappeared is partly to do with New York firms withdrawing large parts of their international businesses as they de-risk portfolios and focus on their domestic markets.  Bank of America-owned Merrill Lynch is reported to have recently shut down its real estate lending activities. Morgan Stanley has downsized its operation. JP Morgan is also out of the market (though some say it is considering re-entry).

But there is another less publicised reason. According to Japan real estate experts, the principal investment vehicles of Morgan Stanley, Merrill Lynch, and Goldman Sachs are struggling to pay loans on acquisitions agreed before the credit markets seized up. One source says: “While they are struggling to repay the loans which do not have recourse to themselves, it is difficult for the parent companies to make new real estate loans.”

According to PERE enquiries with private equity firms in Japan, there are indeed few options open to foreign investors in Japanese real estate. These would-be borrowers also say that lending terms are often not attractive enough to agree deals.

Cheap no more

With few international investment banks lending, the only options left are Deutsche Bank, fellow Germany-based banks WestImmo and to a lesser extent, Deka Bank.  Of the large US financial organisations, GE and Prudential Financial have maintained lending programmes in the country.

This puts Deutsche in a favourable position considering the vastly-reduced competition. But for Smith, the challenge now lies in convincing borrowers that not only is Deutsche willing to engage but that the current terms on offer are realistic.

“I tell borrowers the days of cheap money are gone. The numbers are different from two or three years

It may appear to some to be unreasonably expensive now, but in reality it is where it should be. For transactions to begin to occur, they have to happen at a level where investors, that is borrowers, can meet the price of money.

Doug Smith

ago,” he says. “Then the benchmark was too low and money was unreasonably cheap. It may appear to some to be unreasonably expensive now, but in reality it is where it should be. For transactions to begin to occur, they have to happen at a level where investors, that is borrowers, can meet the price of money.”

Smith, a softly spoken American, fluent in Japanese and who has been working in Japan for the last 20 years, has more experience than most of the way real estate finance works in the country.

He spent six years at Japanese titan, Shinsei Bank, where he headed the real estate finance group. Prior to that, he was at Nomura Real Estate where he established real estate funds with foreign groups, including Barry Sternlicht’s Starwood Capital.   

What has happened in Japan mirrors other major real estate markets.  Japan has seen deal volumes plummet to just $14 billion in the year to date from $58.4 billion in 2007, according to the latest figures from global research house Real Capital Analytics. What is slightly different to most major regions, however, is the tenure of loans. In Japan, loans are generally granted on a short-term basis, typically only three to five years. This exacerbates the refinancing time-bomb.

As the mountain of debt starts to come due, real estate investors will be forced to look around for willing and able lenders. An estimated ¥700 billion (€5.28 billion; $7.56 billion) of CMBS loans is scheduled to mature this year, according to Moody’s. The torrent of loans made during the heady vintages of 2006 and 2007 and which are to mature imminently could be deemed cause for real concern.

Open for business

Deutsche Bank – whether through luck, judgment or a mixture of the two – does not have an enormous book of tricky refinancings to work through, with the majority of its loans having been distributed after origination.

We are ready to lend and looking at transactions, including a large office building and financing for purchases of defaulted non-recourse loans that aggregate in the billions.

Doug Smith

Deutsche conducted four large-scale financings from the fall of 2007 through 2008, including the purchase of the Shinsei Bank head office building, a Tokyo waterfront hotel, a portfolio of offices and a standalone office. All the loans were sold on through securitisations of its J-CORE series (the product name for Deutsche’s CMBS programme) for a combined figure of more than ¥171 billion. These deals were transacted after its rivals had ceased originating new loans.

Now the bank feels in a position to engage with borrowers for 2009 and is working through some specific deals.

“We are ready to lend and looking at transactions, including a large office building and financing for purchases of defaulted non-recourse loans that aggregate in the billions,” Smith says.

To Smith, Japan’s urban fundamentals are still attractive. Tokyo offices have the best chances of striking good refinancing terms, and regional residential schemes, less so. This is because major urban areas will be the first to rebound.

Smith disagrees with suggestions that Japan’s aging population should inspire a lack of confidence, although the country has seen population growth of less than 0.15 percent since the turn of the millennium, according to data source Index Murdi. “Long-term inward migration to the major cities has been going on for years,” he says. “When the economy does return, the first place where people will ramp up and take space will be the major cities.”

In terms of new business, unsurprisingly “track record” is high on a lender’s agenda when issuing new loans or refinancing current borrowings. “If it’s a proven sponsor or asset manager we know, we would be more comfortable to work with them,” Smith says.


For the J-REIT sector, which makes up a considerable bulk of the domestic investor base but which has lost more than 60 percent of its value from its peak two years ago, Smith says those with a track record often also have “sufficient mass and standing”, a factor the Japanese government wants to see.

The 41-strong J-REIT market has recently become a hotbed for consolidation, with big names tipped to merge with smaller parties – something the Japanese government is encouraging as it looks to provide a ¥300 billion to ¥500 billion industry stimulus package later this year.

Managing expectations

While lending is still on the table, Smith warns that borrowers need to understand the climate in which they now operate. Smith says Japan’s average loan-to-value is currently 60 percent to 65 percent, versus the 80 percent to 85 percent it was in 2007.

But he argues that Deutsche Bank could still lend more if the “stars aligned”. For example, he says debt on a brand new building leased to a credible tenant for 20 years can still be packaged up and sold on and could be something on which the bank could stretch to historic highs.

Smith argues that in a functioning market, a bank would be more likely to consider taking back the keys if it felt it could sell the asset and recover its loan. “Here the whole market is not functioning”, he says. Taking over an asset would force a bank to accept write-downs and few are willing to take that path.

For Smith, banks aggressively foreclosing is not something likely to happen soon or in large numbers. But, with an eye to the future, he notes that the situation will be different for loans that have been securitised.