Though fears linger that regulators are letting banks kick problems down the road, most observers say guidelines released last week that outline ways to modify commercial real estate loans gave banks much-needed clarity for handling troubled credits and would ultimately prove beneficial.

The guidelines included measures to help lenders determine more precisely how much the value of the collateral on their loans had changed, without necessarily requiring them to record partial chargeoffs if they had dropped.

The guidance is expected to provide cover for examiners to avoid penalizing banks for not marking down performing loans and to give bankers new ways to refine their practices.
But whether it will help stabilize the commercial real estate market — and steady some shaky balance sheets — remains unclear.

"It's definitely going to be helpful," said Richard Spillenkothen, the Fed's former director of supervision who is now a partner at the Deloitte Center for Banking Solutions. "But as the guidance said, it's kind of a reiteration of the longstanding notion that for certain borrowers restructuring can be helpful both for the borrower and the lender. That's the tricky and difficult judgment."

William Isaac, a former chairman of the Federal Deposit Insurance Corp., said the guidelines show that regulators are taking a countercyclical approach, easing up on banks during hard times so as not to hurt the availability of credit.

"There are a lot of bankers who believe that the regulators simply will not tolerate them having these problem real estate assets on their books and [that] they sure don't want them to add to them by doing more loans, and we need to counter that," said Isaac, who is now chairman of LECG Global Financial Services in Washington.

The guidelines said lenders would not necessarily have to mark down loans in situations in which the borrower was still making payments but the property's underlying value had fallen below the loan's balance.

They also included specific examples in which banks should mark down troubled loans and laid out scenarios in which a workout or extension on a CRE loan would help both the bank and the borrower.

Many observers said the scenarios would help bankers and examiners apply the guidelines.
"There are more real-life examples of how it could work," Spillenkothen said.

Industry representatives said it will be important how well banks can document and explain their judgments to examiners.

"The key to all of this for banks is going to be written documentation for loan workouts," said Mary Francis Monroe, a vice president in the American Bankers Association's office of regulatory policy. "The guidance says that loan workouts should be designed to maximize the bank's recovery potential. So the documentation should be designed to lay out the plans for how the workout will" do this.

Bob Franko, the chief executive officer of Beach Business Bank in Manhattan Beach, Calif., said the guidelines helped justify his existing workout practices.

"I think that it clarifies things to the extent that there might not have been a level playing field because one person interpreted something different from how other people interpreted it," he said.

But he said he did not think regulators were going to be soft when it comes to troubled credits.
"I've heard people say, 'Oh, I hear it's going to make it easier, and the regulators are going to back off, and examiners will back off' — I'm not sure that that's the case," he said, adding that bankers would still have to make decisions about whether to write down their loans based on each specific set of conditions. "I think it really is facts and circumstances of the individual property."

Some industry observers said they expect the guidelines to have a large impact on the CRE market.

"It does seem to me that if the examiners actually apply the guidelines that it will be a great help to the banks that actually have large commercial real state portfolios," said Ron Glancz, a partner at Venable.

"All of the interests have aligned themselves in the commercial real estate area to work things out here … . I got a call from a client who — a bank that failed — and we're representing directors and officers there, and his view was that, if this had been in effect when the bank failed, it would have made a difference."

But there are still those who fear regulators are aiding and abetting an "extend and pretend" strategy by banks. Eventually, banks will have to recognize more losses, they said. "I think it is pushing the can down the road a little bit in trying to buy time for some banks," said Brian Gardner, an analyst at KBW's Keefe, Bruyette and Woods."Whether that's successful or not, I don't know."

Gardner said he viewed the regulatory shift as resulting from Capitol Hill pressure, where members of Congress have criticized regulators for being so tough on institutions that they are shying away from lending.

"I think small banks are getting a very receptive audience on the Hill, and the Hill is sending a message to the regulators," he said.

But the guidelines have also pleased Wall Street investors who agree that, given more time, many CRE loans will improve.

"Investors view this as an overall positive," said Jaret Seiberg, an analyst at Washington Research Group, a unit of Concept Capital. "The banking sector faces a wave of commercial real estate loan renewals in the next 18 months, so there was a need for clarity on whether the regulators would punish banks that modified or extended loans that may no longer meet loan-to-value criteria."

Glancz said the current CRE crisis appears less severe than the real estate crunch that contributed to the wave of failures during the savings and loan crisis in the late 1980s and early 1990s.

"In the case of the S&L crisis, so many of [the CRE borrowers] were severely underwater, whereas I think at this point in the cycle we're going to know within, say, 15 months, whether we've made it," he said. "A lot of banks feel that if they can hang on for the next 15 months these commercial real estate borrowers will be able to pay back."

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