When Tishman Speyer Properties and BlackRock Realty acquired Stuyvesant Town-Peter Cooper Village on Manhattan's lower East Side for $5.4 billion three years ago, it was billed as a marquee property purchase. But a recent New York Court of Appeals ruling against the developers threatens to unravel the deal and further roil a fragile commercial real estate finance market.

The properties were first opened in 1947 - many attracted GIs returning from the war - and they were borne of a state law designed to encourage slum clearance by private firms. The 11,000-unit complex, which was owned by an affiliate of MetLife, covered 80 acres and was popular with middle-income families. In the 1990s, 25,000 residents lived in the complex, according to published reports.

Tishman and BlackRock's purchase was predicated on assumptions about how much rent rolls would rise after they would convert the 56-building complex's apartments into luxury dwellings. It was an assumption that at the time seemed like a fair one. After all, the economy was growing rapidly and landlords could readily hike rents on a wide range of properties nationwide. But what no one appears to have factored in - not the deal makers nor lenders nor even rating agencies - was how a New York court's ruling could impact income earned by the apartment units.

"The deal was done at the height of property values. At the time, the plan seemed sound on paper, and in order to make the CMBS investors and rating agencies comfortable, they had to establish substantial reserves at issuance," says Steve Kuritz, a senior vice president at Realpoint, a Horsham, Pa., rating agency. "They were lofty goals, but not unachievable."

Tishman and BlackRock can't be entirely faulted for the large deal that secured the rating agencies' blessing because of the debt service reserves established for the transaction, Kuritz said.

Thomas Lemmon, a spokesman at Moody's Investors Service, said the risks of the deal were fairly considered from a rating standpoint.

"I would suggest that it's really not that the rating agencies and developers made bad assumptions. The [New York State] Division of Housing and Community Renewal issued an advisory opinion saying that you can apply luxury decontrols to these properties," says Richard Leavy, a partner at Mayer Brown. "I would think that was a reasonable assumption for the developers and rating agencies to rely upon."

BlackRock deferred comment to Tishman. Officials at Tishman said in a statement to Investment Dealers' Digest: "While we respect the court's decision, we view this as an unfortunate outcome for New York. The ruling, which reverses 15 years of government practice, raises a number of difficult issues that will need to be resolved by the courts and various government agencies in the coming months and years."


Paying for It All

Citigroup, Merrill Lynch and Wachovia arranged a $3 billion loan for the massive property deal. A $400 million debt service reserve was formed around the financing, along with $60 million for capital expenditures and a $190 million reserve account, which has largely been depleted, according to various analyst reports.

The loan, paying interest at 6.3% over a 10-year term, was separated into five pari passu notes totaling $1.5 billion, $800 million, $250 million, $247.7 million, and $202.3 million, which were sold through commercial mortgage backed securities transactions. Additionally, $1.4 billion of mezzanine financing was arranged for the acquisition of the 11,227-unit property.

Moody's said it has continued its watch status for the possible downgrade of 85 classes of CMBS certificates in the five transactions because of the legal decision.

For Tishman and BlackRock, the appellate court ruling on more than 4,000 apartments situated on the east side of Manhattan means that additional units cannot be de-regulated, and it could reverse apartment rents that had previously been de-regulated. The developers face $150 million to $200 million in exposure on the difference between market and regulated rental rates, according to Barclays Capital, which noted the court's Oct. 22 ruling pushes the property closer to default.

The ruling undercuts the property's value to roughly $1.8 billion and implies broader implications for New York properties, according to Bank of America Merrill Lynch CMBS strategist Roger Lehman. "There are other loans that were predicated on the ability to turn rent-regulated apartments into market rent. To the extent that these loans are also subject to J-51 tax abatements, we can see that having a negative effect," he said.

J-51 is the tax abatement designation for a program run by the New York City Department of Housing Preservation and Development, encouraging the renovation of residential properties through the granting of tax exemption.

When it comes to Stuyvesant Town and Peter Cooper Village, the court ruling was the outgrowth of a class action suit filed in May by a tenants association. The lawsuit alleged that Tishman improperly instituted primary residence challenges against hundreds of rent-stabilized tenants "solely in an attempt to oust plaintiffs from their homes and to cause the apartments to be vacated and deregulated."

Standard & Poor's, meanwhile, is examining CMBS transactions it has rated to determine whether other transactions may be materially affected by the ruling.

According to Barclays, there are at least an additional 10 New York multifamily loans valued at $1.8 billion.

(c) 2009 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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