This week we received calls from two of our borrowers who were shocked when they received cash management trigger notices from their loan servicers. One noted that the property had just completed a 12-month period in which the property had the highest profit in its history. He said, “What’s going on here?”
Well, as it turns out, the property, a Holiday Inn Express hotel in New Mexico, was doing so well the owner elected to perform some capital improvements, including new air conditioners, carpeting and furniture. Instead of capitalizing these items, he expensed them under the repairs and maintenance expense category to the tune of $200,000! He did not highlight or exclude these items when he sent his income and expense statement to the servicer.
The servicer is not a mind reader. The servicer would have no way of knowing these capital improvements were expensed. Adding $200,000 in capital improvements to the repairs and maintenance expense category resulted in the debt service coverage falling from 1.71x to 1.25x, below the cash management trigger of 1.30x.
Last fall I wrote about the importance of submitting income and expense statements to loan servicers for CMBS conduit loans that exclude capital improvements, non-recurring items, partnership items, owner distributions/compensation and any other items that do not reflect the ongoing routine expenses to operate the property. Including these items can artificially depress the cash flow, resulting in the property not meeting the minimum net cash flow debt-service coverage ratio to avoid cash management. Cash management is a disaster for CBMS conduit borrowers.
“ValueXpress offers all of our clients who have closed CMBS conduit loans with us an optional free, ongoing review of property cash flows and an internal DSCR calculation to ensure that they don’t accidentally trigger cash management,” noted Jim Brett, head of underwriting at ValueXpress. “It’s just one of many ongoing services we provide our clients post-closing, at no charge. In this instance, we contacted the servicer with the corrected data, and the servicer rescinded the cash management trigger notice.”