1. 1 PRACTICE TIPS FOR A SUCCESSFUL REAL ESTATE WORKOUT Kenton Hambrick Associate General Counsel Freddie Mac Dallas Bar Association, Dallas, Texas March 10, 2009

2. 2 DISCLAIMER The advice, opinions, estimates, forecasts and other views contained in this presentation are those of Kenton Hambrick, do not necessarily represent the views of Freddie Mac or its management and should not be construed as indicating Freddie Mac's business position, prospects or expected results. I have attempted to provide reliable, useful information, but cannot guarantee that the information is accurate, current or suitable for any particular purpose.

3. 3 Nationwide: $400 billion in commercial real estate loans will mature in 2009, and the pace will increase over succeeding years. The Real Estate Roundtable, December 2008 The Real Estate Roundtable, December 2008Texas: $27 billion in CRE loans are coming up for refinancing through 2011. Dallas Morning News, January 6, 2009 Dallas Morning News, January 6, 2009 A WAVE OF MATURING LOANS

4. 4  Most bank lenders have withdrawn.  No secondary market for CRE except multifamily (FRE and FNMA).  CMBS market is shut down.  Cautious private equity.  Tightening credit conditions. FEW REFINANCING OPTIONS

5. 5 Highest Percentage of Banks Tightening Commercial Mortgage Standards Since 1990 Source: Federal Reserve Board's Senior Loan Officer Survey, percent responding either “Tightened Considerably” or “Tightened Somewhat” (Last update: February 2, 2009) Net Percentage of Banks Tightening Mortgage Standards During Previous Three Months Survey question on commercial real estate loans (including construction and land development loans): Over the past three months, how have your bank’s credit standards for approving applications for commercial real estate loans changed?

6. 6 COMMERCIAL PROPERTY VALUES ARE FALLING “Commercial property prices may fall as much as 40 percent from peak-to-trough... Prices are down 11.5% from October 2007.” Alan Todd, Head of Commercial Bond Research, J.P. Morgan, December 1, 2008 “Commercial real estate values have declined progressively this year, a trend expected to continue through 2009.” Financial Week, November 30, 2008

7. 7 Source: Freddie Mac CMHPI (Purchase-Only Series), NCREIF Property Index NCREIF Apartment One- Family Homes Appreciation (Annual Percent Change) Apartment Values Have Begun to Decline

8. 8 COMMERCIAL REAL ESTATE DEFAULTS WILL ESCALATE IN 2009 “The volume of delinquent/defaulted loans could triple in 2009.” CoStar Group, January 14, 2009 “The delinquency rate [for loans pooled in CMBS] will likely hit 3% by the end of 2009, the highest point in more than a decade.” Richard Parkus, Head of CMBS Research, Deutsche Bank, January 8, 2009.

9. 9 Multifamily Default Rates at Banks and Savings Institutions Are Highest Since 1996 Delinquent or Non-current ( Percent of Average Loans Outstanding) Note: Noncurrent loans and leases – the sum of loans and leases 90 days or more past due, and loans and leases in nonaccrual status. Source: FDIC Noncurrent 30-89 days past due

10. 10 RISING JOB LOSSES WILL DRIVE UP CRE DEFAULTS “U.S. commercial properties at risk of default could triple if rental income from office, retail and apartment buildings drops by even 5 %, a likely possibility given the recession.” Reis, Inc., reported at www.bloomberg.com, December 22, 2008. “Close to 5 million jobs will be lost. The unemployment rate will surge to over 9%.” Mark Zandi, www.economy.com, January 6, 2009. www.economy.com

11. 11 Source: National Multi Housing Council (Last Update: January 2009) Market Tightness Index Market Unchanged Market Tighter Market Looser Survey question for Market Tightness Index: How are apartment market conditions in the local markets that you watch? “Tight” markets are those with low vacancies and high rent increases. Conditions obviously vary greatly from place to place, but on balance, apartment market conditions in your markets today are: 1) Tighter than three months ago 2) Looser than three months ago 3) About unchanged from three months ago 4) Don’t know or not applicable. Apartment Market Conditions Are Weaker in Most Markets

12. 12 LENDER’S OPTIONS  Foreclose  Forbear  Sell Note  Loan Extension / Modification

13. 13 POSITIONING BORROWER FOR A SUCCESSFUL WORKOUT  Communicate With Servicer/Lender Early And Often.  Do Not Create Problems.  Keep Property In Good Repair.  Maintain Reserves.

14. 14 POSITIONING BORROWER (continued)  Keep Loan Current.  Be Willing To Commit New Money.  Be Willing To Change Management.  Have A Reasonable Business Plan.  Cooperate With Lender.

15. 15 PRACTICE TIP: PREVENTATIVE CARE Take your borrower client’s financial pulse. Take your borrower client’s financial pulse.  Is the property cash flowing?  Any vacancy or maintenance issues?  How’s his relationship with Servicer?  Borrower who brings problems to the Servicer’s attention early, before default, builds good will.

16. 16 STEP ONE: IDENTIFY PARTICIPANTS BorrowerLender GuarantorsServicer Principals Junior Lender Key Tenants Mezz Lender

17. 17 PARTICIPANTS (cont’d) Tax Exempt Bond Deal IssuerTrustee Credit Enhancer Tender Agent Interest Rate Hedge Provider Bond Counsel Bond Underwriter Remarketing Agent

18. 18 PRACTICE TIP: PRESERVE THE GUARANTY   Notice guarantors on all correspondence with borrower.   Obtain guarantors’ consent to any action that could increase guarantor’s risk or liability (e.g., modifying loan terms, partial release of principal or collateral, delaying enforcement).

19. 19 STEP TWO: PRENEGOTIATION AGREEMENT  Allows open discussion.  Contents privileged, not discoverable or admissible.  Not an agreement to modify.  No modification until subsequent agreement signed by all.

20. 20 PRENEGOTIATION AGREEMENT (cont’d)  No waiver of rights, remedies or obligations.  Lender reserves right to pursue all remedies at any time.  Any party may terminate negotiations at any time.  Include guarantors any other interested parties.

21. 21 PRACTICE TIP: KEEP YOUR POWDER DRY  Borrower - Avoid negotiating the prenegotiation agreement. Don’t squander goodwill over a routine matter.  Lender – Don’t include provisions that invite negotiation.

22. 22 STEP THREE: REVIEW LOAN DOCUMENTS AND CLOSING FILE   Assemble complete set of loan documents.   Review rights of each party.   Look for special terms (e.g., modified notice and cure, restrictions on lender’s rights).   Participation agreements, intercreditor agreements or other loan-related agreements may require notice and/or opportunity to cure.

23. 23 PRACTICE TIP: BORROWER SHOULD HAVE A PLAN  Before approaching lender, borrower’s counsel should work with client to develop a reasonable business plan with a plausible exit strategy. Approach the workout as if it were a new loan.

24. 24 STEP FOUR: UPDATE DUE DILIGENCE Title and Litigation Searches   Update title report   Confirm perfection of security interests.   Does borrower still own the property?   Junior lienors?   Mechanics liens?   Review title policy and notice any claims.

25. 25 DUE DILIGENCE (cont’d)   UCC Search   Has the UCC filing lapsed?   Equipment - PMSI or leases?   Litigation search on borrower and guarantors.   Judgment liens   Bankruptcy filings

26. 26 DUE DILIGENCE (cont’d) Property Due Diligence  Appraisal  Environmental concerns O&M Plan (lead paint, asbestos, storage tanks) Mold Remediation Plan Phase I Assessment

27. 27 DUE DILIGENCE (cont’d) Update Financial Information   Property Operating Statements   Detailed Income and Expenses   Identify Reserves   No odd accounting (cash not accrual)

28. 28 DUE DILIGENCE (cont’d) Financial statements for Borrower, Principals and Guarantors.  Identify liquid and unencumbered assets.  Trust assets / community property  Signs of larger problems

29. 29 STEP FIVE: ANALYZE SOURCES OF RECOVERY  Full recourse or guaranteed exceptions to non-recourse?  Exceptions breached?  Fraud  Waste  Conversion of insurance  Bankruptcy trigger

30. 30 SOURCES OF RECOVERY (cont’d)  If personal liability of borrower or guarantor, are assets available?  Do the principals have the resources and commitment to contribute to a workout?

31. 31 STEP SIX: PURSUE WORKOUT AND FORECLOSURE SIMULTANEOUSLY  Identify and document defaults.  Payment  Non-monetary  Send demand letter to borrower and guarantor.  Copy other interested parties (e.g., servicer, subordinate lenders, others in title).

32. 32 PURSUE FORECLOSURE (cont’d)  Send non-waiver letter if partial payments received.  Consider time frame for foreclosure (judicial vs. non-judicial)  Consider special state laws (e.g., single action rule, election of remedies.)

33. 33 PRACTICE TIP: CONSIDER TAX CONSEQUENCES   Depreciation recapture may be triggered by foreclosure or a write down of principal.   Negative tax basis creates taxable gain on sale.   Gain = (Unpaid Debt) – (Depreciated Value of Property)   Modification of a securitized loan may expose the REMIC or other securitization vehicle to severe tax penalties.

34. 34 PRACTICE TIP: CONSIDER BUSINESS CONSEQUENCES   Demand, acceleration or foreclosure may make a workout harder to achieve.   Impair borrower’s effort to refinance   Trigger defaults in other lending agreements   Affect credit facilities for borrower affiliates   Scare commercial tenants   Senior housing / hotels

35. 35 STEP SEVEN: DOCUMENTING THE WORKOUT  MATURITY EXTENSION  Continue regular payments  Breathing space to refinance  FORBEARANCE – “WAIT AND SEE”  Default, but Lender stands still  Short term  Plausible borrower exit strategy

36. 36 DOCUMENTING THE WORKOUT (cont’d)  TRANSFER AND ASSUMPTION  White knight in the wings  LOAN MODIFICATION  Rate reduction / I/O conversion  Accrue and defer interest  Principal paydown  Reamortization / Term extension

37. 37 DOCUMENTING THE WORKOUT (cont’d) TYPICAL LENDER CONDITIONS Additional guaranty Additional guaranty  Increase base guaranty  Additional guarantors New Money  Debt service escrow / letter of credit  Repair and/or replacement reserves  Repair escrow / Schedule of repairs / budget

38. 38 DOCUMENTING THE WORKOUT Lender conditions (cont’d) New management New management Additional collateral Additional collateral  Cross-collateralization / cross-default WARNING: Preference issue Other  Cash flow participation  Equity participation on sale  Hope note  Lock box

39. 39 PRACTICE TIP: BANKRUPTCY STAY WAIVER Waiver of the automatic stay in workout documents. may be enforced if a) debtor is sophisticated with competent counsel; b) debtor receives consideration (e.g., forbearance from foreclosure); c) other parties are not affected; d) debtor has no feasible plan. See In Re Bryan Road, LLC, 382 B.R. 844 (Bankr. S.D. Fla. 2008).

40. 40 CONCLUSION  The recession is likely to continue for the near future. Turnaround will take time.  If credit markets remain tight, there will be many more CRE maturity defaults.  If economic fundamentals such as employment and property values continue to deteriorate, payment defaults will accelerate in all areas of commercial real estate.  With careful preparation and a methodical approach, lawyers can help both lenders and borrowers achieve a successful workout.

41. 41 Kenton Hambrick Associate General Counsel – Litigation and Distressed Real Estate Freddie Mac, Mail Stop 202 8200 Jones Branch Drive McLean, Virginia 22102 Telephone: (703) 903-2473 Email: kenton_hambrick@freddiemac.com