Michael is a local Cincinnatian, and commercial lending expert. As Vice President of the commercial real estate banking division of US Bank, Michael has underwritten around $300 Million in commercial real estate loans. If you enjoyed today’s episode remember to subscribe in iTunes and leave us a review!
Best Ever Tweet:
“Every year or two we have to get a new valuation and new loan documents” – Michael Schablein
Michael Schablein Real Estate Background:
- Vice President, Designated CRE Specialist Community Banking at US Bank
- Almost 20 years of experience in commercial real estate
- Has underwritten around $300 Million in loans
- Based in Cincinnati, OH
- Say hi to him at michael.schableinATusbank.com
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Joe Fairless: Best Ever listeners, how are you doing? Welcome to the best real estate investing advice ever show. I’m Joe Fairless, and this is the world’s longest-running daily real estate investing podcast, where we only talk about the best advice ever, we don’t get into any of that fluffy stuff. With us today, Mike Schablein. How are you doing, Mike?
Mike Schablein: Doing great.
Joe Fairless: Well, I’m glad to hear that. Best Ever listeners, if you listen to it on the podcast or watch it on YouTube, come visit us in Cincinnati. That’s BestEverCincy.com. We meet the last Tuesday of every month, except for December. I don’t think we’re gonna do December… But last Tuesday of every month, come hang out; you can go to BestEverCincy.com. We’ve got people from all over the Midwest.
Introducing Mike – Mike is the vice-president; he’s the designated commercial real estate specialist, community banking at U.S. Bank. Did I say that right?
Mike Schablein: You did. It’s a mouthful.
Joe Fairless: It is a mouthful, that’s alright. He has almost 20 years of experience in commercial real estate. He’s underwritten around 300 million dollars worth of loans. Based in Cincinnati, Ohio. With that being said, Mike, do you wanna give the Best Ever listeners and everyone hanging out a little bit about your background and your current focus?
Mike Schablein: Sure. Well-rounded background – I started in banking 30 years ago, as a teller, during college, and progressed up to a branch manager, and then got into some consumer lending, and some mortgage lending (residential). This is with the small savings loan that no longer exists; they were bought.
In 1999 I went to Fifth Third Bank and I was in their commercial credit area for two years. In 2001 I transitioned into commercial real estate. I started downtown in the Tower, and then ended up working in Butler County, off the Union Center highway exit. In 2007 I left Fifth Third and came to U.S. Bank, and I’ve been there since.
I am in Butler County still, in Hamilton, and we can talk about what makes that different than being in Cincinnati per se. I’m not actually part of the group or the team that is Cincinnati Metro Banking for U.S. Bank. I am part of community banking, which means my peer are not so much in Cincinnati, or St. Louis, or Seattle, they’re more in Topeka, Kansas, and South Dakota, more of the outside of the metropolitan areas. So what is a challenge, I guess – most of my clientele is within the 275 belt loop, as to not trip over my compatriots with U.S. Bank in Cincinnati.
You mentioned designated real estate specialist… There are two of those in community banking in the state of Ohio – me, and then another gentleman who’s up in Toledo. There is one real estate lender in downtown Cincinnati who does only real estate, and she looks generally at only things 20-25 million dollars and more. So those are big projects. I look at projects generally from 250k up to 5 million, although I can do projects of any size. It just is that most of the deals that I come across are in that 250k to 5, maybe 7-8 million dollar range.
There are, as far as I know, somewhere between 40 and 50 U.S. Bank business bankers around Cincinnati. They can do real estate deals; they are not real estate specialists. So they can do financing for a company, through a line of credit, or they can do a loan to buy an apartment building… They’re general lenders. I am specifically real estate.
I think the other differentiation would be types of deals. I will do probably deals that could be a little more complex, or deals with developers, construction loans… That definitely is a specialty that we may not see the business banker do so much. But I’ve been doing real estate now for 18 years, and I really enjoy it, and that’s probably what I’m gonna do until I retire.
Joe Fairless: What’s the last deal you did?
Mike Schablein: Unfortunately, it’s been a while. It’s been a very competitive market.
Joe Fairless: What’s a while?
Mike Schablein: A couple months. I’m working on a couple right now, but it is very competitive out there, and that should be something we touch on. The last deal I did was for a project in Over-The-Rhine that is mixed-used retail on the first floor, and developing condos for sale on the upper floors.
Joe Fairless: And when you underwrite that, what are some important things that you look at?
Mike Schablein: That kind of a deal we place a little more weight on our guarantors, our sponsors, who’s behind the deal, what their personal liquidity and other sources of income are, more so than, say, buying a strip center where you’re placing your underwriting way more on the tenants and the leases, and underwriting that cashflow. This one, again, is construction. It did have one COI for the retail space, but all of the residential units are being built to sell with no identified buyers… So again, we’re looking real hard at our sponsors and what their ability is to carry this along if they don’t sell quickly.
Joe Fairless: COI stands for…?
Mike Schablein: Sorry, I meant LOI.
Joe Fairless: Okay, got it.
Mike Schablein: And that’s in [unintelligible [00:07:11].28] if we have a letter of interest with approximate terms. That kind of thing will generally start that for the underwriting process. Obviously, if someone brings us a lease that’s already executed, even better… But nine times out of ten on a new construction real it’s more prospects and letters of interest versus hard leases.
Joe Fairless: And you said that kind of deal we look more as a borrower. Is it because it’s more of a speculative deal, and not currently cash-flowing?
Mike Schablein: Correct. Anything that we can underwrite the cashflow… Again, say multifamily – we have years of financials, and we have a rent roll; we feel like we can do a pretty good job underwriting and projecting how that may service the debt. Again, with the strip center with leases and cashflow, we can underwrite that. When you have something that’s more speculative in nature – construction – you’re looking at market rates out there, and you’re coming up with a proforma, but that proforma is only as good as the research you’re doing. And again, when you’re getting into speculative underwriting, then you’re gonna look more at your secondary source, which is your guarantor… So when we look at the guarantor, the first thing that we’re looking at is liquidity. We’ll collect a personal financial statement and what they note as liquid accounts, so checking savings, investments that can be easily liquidated, things like that; we’ll get statements to correspond to those figures.
Joe Fairless: What’s the liquidity typically required?
Mike Schablein: Yeah, this is definitely more an art than a science. I’d say when you have a construction deal, a speculative deal, we’re gonna look for a little higher proportion – say 25%, or 30%. It depends on the deal, of what the debt is.
Joe Fairless: After deposit.
Mike Schablein: Yes, yes. And we’re also looking at their other personal and other commercial exposure. So at the end of the day, again, it’s art more than science, but the larger the deal and the stronger the cashflow – we tend to relax a little bit on what we’re looking for with liquidity. But we still wanna see it. And that would be part of maybe what we might wanna touch on with Best Ever advice… I would say Best Ever advice is look at your lender like your partner. When you’re buying a multifamily at 80% loan-to-value – we’re in this thing at 80%, with your 20%, and we wanna know every bit about that project as much as you would.
So we will ask a lot of questions, we will ask for a lot of information upfront… But look at it more as a partner, not “Oh, the bank is asking me for more stuff, and they never stop asking questions.” We ask a lot of questions because we care, and because we wanna know. I wanna be able to answer questions that are put to me if we get financials in that show the property is not doing as well as we thought it might do. I wanna know why. Well, if I’m not really paying attention and I’m not asking you questions as we go, it’s not gonna help me explain your case to the folks on my end on the credit side, that need to answer to people above them on the audit and on the examiner side.
So it’s a partnership, and we don’t ask for things we don’t need just to ask you for more stuff. We ask for it because we think that gives us the ability to understand you a little better, understand your business, and be able to present that more. Because at the end of the day, I’m your advocate, I’m the one that’s talking to the credit people, and the examiners, and everybody else… And if I do a lousy job of presenting your situation, it all flows downhill.
Joe Fairless: Will you take us behind the scenes? A lot of people in the room have probably gone through the process of getting a commercial loan, and some are particularly focused on residential… But I think regardless, it would be good to know when your company (U.S. Bank) has asked all the initial questions, and received the information – will you take us behind the scenes and let us know what are some typical follow-up questions that people you report to are asking you, that you’re having to field?
Mike Schablein: That is a good question. Well, let’s spread the curtain – there’s no Wizard of Oz here; the questions and the information on a commercial loan aren’t just upfront, at purchase, “Hey, I gave it to you. You approved it. We close the loan, we’re good.” Most of the time – and some of it is driven by the size of the loan and what our bank’s policy is as far as ongoing underwriting requirements… But on deals of size and larger, we have what are called annual reviews. And you have reporting requirements in your loan documents… So every year, I’m probably collecting a personal financial statement, I’m collecting liquidity verification, I’m collecting tax returns (personal), your business returns, K1’s… All kinds of things. It just generally will elicit ongoing questions; anything that changes substantially year-to-year.
A part of that requirement with the annual reviews is we’re pulling updated credit reports. So we’re looking at not only the property or the properties and how they’re performing relative to how we initially underwrote them, but we’re also looking at your personal situation; if there’s any significant changes, we’re asking those questions.
So it’s definitely not ask it all at once and maybe some follow-up and then we’re done. It can be an annual process. And in some cases, if it’s a large enough deal, we’re collecting quarterly financials; not so much on you, but your property. So quarterly P&L’s, and rent rolls. We’re obviously looking at occupancy on multifamilies if we see significant changes there… More units vacant, if we see costs that we’ve underwritten for a period of time spike… Maybe there was a [unintelligible [00:13:11].09] leak… Things that we’re gonna ask about.
Generally, properties don’t perform like your one-time proforma underwriting forever. There’s always gonna be changes.
I’d say the other thing is with loan documentation – again, some of it is dependent on deal size, but there may be a performance measurement in there. You have to hit a certain debt service coverage. That could be a quarterly measurement, it could just be a once-a-year. A lot of times, for various reasons, the property may not hit that during the term of the loan.
Joe Fairless: What happens?
Mike Schablein: Well, that’s a real thing, right? What happens is if it’s a true measurement and it didn’t work, but we can get our arms around why, and determine it’s not necessarily an ongoing issue that can’t be rectified, maybe a one-time issue, you’re gonna get a default letter issued, with a waiver. So we’ll waive the default, but you’re gonna get that letter. It looks kind of onerous; we’re quoting the language in the loan documents that say “Hey, this is what it was supposed to do, and it didn’t meet that measurement, so we’re putting you on notice, kind of thing…” But we’ll waive it. If we can’t get our arms around it and you can’t helps us get our arms around it… “Well, we’re having a hard time filling a unit, for whatever reason.” Well, you may get a default letter without waiver, and then we start having very regular internal discussions about your deal, and we’ll amp up the question asking and probably ask for more frequent financial reporting that you’ve provided in the past, and we’ll monitor it very closely until it either improves, or we get to a point where it just isn’t gonna get better and it’s not performing, and we’ve gotta have discussions about “Can we pay this down some, or do we have to send this to folks that are gonna –” I call it the workout group; those are real folks that all they do is monitor these accounts until the loans mature. At that point, they either help the client find a way to get that note renewed and meet the terms that it’s gotta meet, or they help the client find a new bank. That’s real.
Joe Fairless: And what are those internal conversations like, whenever you are talking about a deal that’s not performing and you can’t get your arms around it?
Mike Schablein: What makes it more real is that we actually have a higher-level credit approver on [unintelligible [00:15:35].26] in Hamilton. So they’re not necessarily located everywhere, we just happen to have one right in the building, and he’ll come down the hall and talk about it, which is good… But those conversations – I think they want to see some timeframes given to things. They don’t wanna just hear “Well, we’ll have a conversation.” They wanna hear “Okay, within 30 days this is what I wanna see” or “I want you to report back and say that you’ve had this done.” It’s more defined, I guess, than when something’s maybe struggling but hasn’t quite hit that radar of “Well, it’s not performing.”
Joe Fairless: And then on the acquisitions side, after a potential borrower has submitted all their information and you’ve all received it, what are some typical follow-up questions that are asked, for whatever reason?
Mike Schablein: What I’ve found, and more so on the smaller – and when I say “smaller”, I just mean… We look at deals of various sizes. They can be a deal to buy a six-unit, it can be a deal to buy a 200-unit. But what I tend to find is more on the smaller deals, where maybe the current owner, the seller – maybe they have other properties and maybe they do their own tax returns. Maybe they load up expenses that aren’t necessarily related to that property on that [unintelligible [00:16:56].10], things like that. That’s gonna require more questions and understanding “Well, I see a lot of driving expenses, or meals and entertainment, and stuff like that for a local play. What is that?” Getting our arms around what’s a real expense for the property, versus what’s somebody’s personal expense. You don’t really see that too much on the larger deals. Those are generally underwritten, and you know what you’re looking at.
On the bigger deals, in this environment, the challenge is that it’s such a seller’s market, properties are so hot that a property that’s maybe not performed so good in the past gets a strong three months, and all of a sudden the broker is underwriting the trailing three month, and trying to sell you “This is what it is.” “Okay, that’s what it is for the last three months. That’s not what it was for the last ten years.” So then we’re trying to get a sense of what’s a reasonable underwriting. It may not be the trailing three, but maybe it is definitely, and there are reasons why it has improved, and find a way to underwrite it that makes sense for us the bank, as well as the client, when they’re putting an offer in… Because again, it is a seller’s market, and a lot of properties are getting multiple bids.
Joe Fairless: What, if any, scenario would you all underwrite to the trailing three months?
Mike Schablein: More so maybe it was a distressed property that has been renovated, and re-tenanted, and “Hey, we got this thing up and going”, and we can get our arms around what our renovation expense is, and we can see this submarket or that property is — say it’s generally a 90% to 95% occupancy, and their prior couple of years were in the 50s and 60s while they were emptying it out to redo units. So there’s usually a story behind that, and we’ll underwrite to that story if we can understand it and make sense of it.
Joe Fairless: Let’s take a step back, and for anyone who has not gotten a commercial loan, but plans on getting one in the future, what are the things they need to keep in mind in order to be approved for a commercial loan when they’re used to residential?
Mike Schablein: Okay.
Joe Fairless: We talked about liquidity a little bit…
Mike Schablein: Yeah. So definitely liquidity. 80% loan-to-value on a multifamily is fairly aggressive; it’s a standard. We don’t necessarily wanna see — yes, we want the bank to do 80%, but I’m gonna get 15% as a seller, held second, and I’m gonna put 5% into it. We wanna see that you’re putting the necessary equity in this, on the commercial side. Now, I know on the residential side there’s still programs out there for homebuyers for 3% down, 5% down, 10% down. We generally wanna see 20% down.
Now, you may have partners in this deal, you may have investors in the deal. So you may show me on your personal financial statement you could put the 20% down, but you’re not necessarily doing that. You may have investors that are putting in cash; they aren’t gonna sign guarantees, but that’s how you’re gonna get to your 20%. Those are all things we need to understand. We need full tax returns, we don’t just want page one and page two, we want all the schedules, we want the K1’s. I don’t care if it’s 200 pages long. You can email them and we electronically store them.
So full returns, full information, personal financial statements… Really take your time. Do a good personal financial statement. Don’t just blow through it and — “Hey, the bank needs to see a little liquidity. I’ll put some of that there.” Let us know what you’ve got. Not that at the end of the day we’re needing that because we’re trying to figure out how we’re gonna turn you upside down and shake out the quarters if we have to… I haven’t had to do a workout deal at U.S. Bank in 13 years. And it’s cyclical. It may have a period, for whatever reason, where it struggles. You’ll get a little more latitude from the credit folks when they know we have a good, complete personal financial statement and we understand your capabilities to pull that deal along while you’re fixing it… Versus the one that doesn’t show us everything, and we’re like “Well…” Our margin for error isn’t very much, and then they start getting a little more nervous.
Joe Fairless: On the personal financial statement, you mentioned you need 25% to 30% liquidity for a new construction. What would be liquidity for —
Mike Schablein: What I would tell you is there’s no magic formula to that. It really all depends upon —
Joe Fairless: What’s minimum?
Mike Schablein: Again, no magic formula…
Joe Fairless: No minimum liquidity?
Mike Schablein: You obviously have to have enough to put the equity in that we need, and then we generally wanna see that you have at least another equal amount of that. So if you put 20% in on $100,000, we like to see you still have $20,000 after that, to account for one-time expenses or things you weren’t necessarily thinking would happen, that kind of thing. But a lot of it is driven by the size of the deal, and you have other partners in the deal… Do you have a bunch of other commercial loans, and how are those loans performing? If those other loans aren’t performing well, we’re probably going to see more than if you have a lot of commercial loans and they’re all cash-flowing at two times…
Joe Fairless: First one. This would be the first one.
Mike Schablein: This would be the first one… So we don’t wanna see that you’re putting every nickel you have into that down payment and you have nothing sitting there in reserve. You need to have reserves, you need to expect the unexpected, you need to expect that you’re gonna have that 20-year roof on there and all of a sudden it’s not what you thought it was, and it’s a major expense.
Again, I’m not gonna put a percentage to it, but I’m gonna say we’re always looking that you’re gonna have reserves. If you don’t have reserves, we’re gonna need to find another way to get you to that down payment, because as a bank we’re not gonna approve a deal where you’re putting every nickel in and have no reserves.
Joe Fairless: Same answer to net worth?
Mike Schablein: Net worth – we have a lot of clients with large net worths, but it’s–
Joe Fairless: What’s a large net worth?
Mike Schablein: It’s all relative. You can have a million dollar net worth that’s full liquidity… I consider that a big net worth. Your million dollar net worth is a little bit of property, but it’s $700,000 in cash. And we’ve got the 25 million dollar net worth person that has all kinds of real estate and has about $10,000 in cash. That one makes me nervous. Any of those properties go the wrong way, they don’t have the reserves. They’re having to either leverage their other properties, or get investors… Whereas that guy with the lesser net worth – very liquid. That makes us feel good.
Joe Fairless: What are your thoughts on a rule of thumb 10% liquidity, 100% net worth? Just a framework to throw it out there?
Mike Schablein: You’re gonna pin me down–
Joe Fairless: Just like your people like deadlines when you’re doing the workout, you’ve gotta have some sort of–
Mike Schablein: I can tell you, there are all kinds of things in our commercial loan policy, and I can quote you every ratio and percentage in what we wanna see on every type of property… That’s not something that’s actually covered in there. There’s nothing in our commercial loan policy that says they need to have this net worth or this amount of liquidity. It’s completely something that the credit approver — it’s arbitrary, and an art.
Joe Fairless: It is an art and a science–
Mike Schablein: Totally an art. There’s nothing that’s defined. Having said that, I’ll go back to the one with the high net worth and no liquidity – he’s gonna get scrutinized a little more than the one with the much lower net worth, but it’s a high percentage of liquidity. That one can withstand some bumps, and the other one is gonna have to leverage something to do that, and that requires – if it’s not our loan, it’s somebody else’s loan they have to leverage; that requires that other lender being okay with it. That’s as good as I can do for you on that.
Joe Fairless: Fair enough, I appreciate that. What are some no-go’s for you?
Mike Schablein: It’s flexible. That’s a good question, though. U.S. Bank has a lot of no-go’s. It makes my box a little smaller than I’d like it to be, but… We generally are only going to work with regional borrowers, buyers, investors. Regional – I can stretch those bounds, but realistically, say within 2-3 hours of the Greater Cincinnati Beltway. That’s where our borrower has to be located. We’re all about where our borrower is.
If you’re in Northern Kentucky or you’re in Northern Butler County, or you’re out in Eastern Indiana or out in [unintelligible [00:25:35].25] you’re in my market. If you’re up towards Columbus, you’re probably still in my market. But we’re gonna follow you, because we can get to you easily. I can meet with you on a day’s notice and drive out to see you.
Joe Fairless: The property has to be in that area, too?
Mike Schablein: No. We’ll follow you, Joe, if you’re buying a property in Florida. I’ll follow you and do that property in Florida, if it underwrites and it cash-flows, and we can get our arms around that market. The no-go is I can be looking out of my office window at the building across the street and somebody from California buys it – I can’t finance that. Now, I could refer it to U.S. Bank of California, but they generally don’t get that excited about doing that themselves. So that’s the challenge.
Joe Fairless: Why is that? Dollar size/amount?
Mike Schablein: Yeah, sometimes it’s dollar size, sometimes I know by policy the guy in California knows he could do it, but California is a big state, they don’t really know that client, it’s not a large deal…
Joe Fairless: Yeah, not worth their effort.
Mike Schablein: …and in Hamilton, Ohio – not worth their effort. They don’t think they can understand that market. The cap rate in Hamilton, Ohio is not the cap rate in Los Angeles. There’s a lot of different things going on there. So as a lender, philosophically that’s always a challenge for me, because if I’m looking outside at that building across the street, I know the real estate market in Hamilton, Ohio, I know what’s driving things… I get that property, but if that borrower is not local to me, I can’t do it. And conversely, I don’t understand sometimes why — I may know you, and that’s great; I have full confidence in you, and you’re telling me this property in Florida is a great deal, but I don’t know that real estate market and that concerns me. But in theory, I can do that. So out-of-market borrower – no go. Second bank financing behind this – no go. We don’t do that, as far as no-go’s.
The other no-go for us is recourse. We do not do non-recourse. If the guarantor, the member, the borrower, that person is not willing to sign the personal guarantee, we’re not doing the non-recourse loan. And it’s very easy on larger properties that cashflow; non-recourse loans are all over the place… That’s just something philosophically we don’t do; it’s more of a relationship-based thing, and the bank frankly wanting to have a second source of coming back if the property doesn’t work… Versus the non-recourse loan, where you can hand over the keys and you’re done.
Joe Fairless: Cool. We’re gonna go to the Lightning Round, because you’ve already said your best ever advice – treat it as a partnership.
Mike Schablein: Right. Think of the bank as your partner.
Joe Fairless: Cool. First, a quick word from our Best Ever partners.
Joe Fairless: First question, what’s the best ever way you like to keep up to date with what’s going on in your industry?
Mike Schablein: I meet a lot with real estate brokers, and loan brokers. To me, it’s both. I need to know what’s available in the lending markets. Over 20+ years you know a lot of lenders at a lot of banks, so you can kind of keep up just by meeting with them, with what they’re doing. The loan brokers tend to know not only what the banks and the credit unions are doing, but what the life companies, and the Fannie/Freddie programs and all the other types of financing sources are. So I wanna know what’s going on there… Also, from a real estate perspective, what are the hot areas, what are the new projects that are maybe under consideration, but haven’t hit the business [unintelligible [00:29:50].22] Because once it’s hit that, it’s too late. That’s six months too late.
Joe Fairless: How is knowing where the hot area is helpful for you?
Mike Schablein: Finding out who owns the property, I can dig and find that myself, and making those calls, and trying to find out what’s going on.
Joe Fairless: Making the call for —
Mike Schablein: To the developer, to see what their plans may be. “Hey, I see you’ve purchased some property in Silverton [unintelligible [00:30:17].27] there’s probably some new multifamily just down the hill on Stuart– understanding neighborhoods that maybe are in the midst of change. Greater Cincinnati is a gigantic place. My office is in Butler County and I can’t possibly always know what’s going on in every neighborhood, and maybe what is planned, what local municipalities are planning to do with land, and if there’s developers, who they are and what they’re planning to do. That’s a challenge.
A lot of times the real estate brokers, the folks at the CBREs and the Colliers and those places tend to have an inkling of what’s going on before it hits the publications, and that’s when you wanna be checking into that… Because again, once you’ve read it in the [unintelligible [00:31:05].03] they’re already six months down the road on getting their financing in place.
Joe Fairless: Best ever way you like to give back to the community?
Mike Schablein: I could do a better job at that… That ties into the book I just finished, Halftime. I’m probably in the middle of the third quarter than halftime at this point, but… Kind of that point where you get to “How do you give back more?” and how do you get to a point where you’re doing what you want to do more than what you need to do to pay bills, and that kind of thing. Just really a mindset change… But I am on a local not-for-profit board; it’s a very small — but sometimes you just can’t do everything and still have four kids at home, and a couple in college… So I do that. Do I wish I could do more? Sure… And I think my mind – I’m starting to wrap around “I need to”, it’s just the how that I haven’t mastered yet.
Joe Fairless: And the best way the listeners can get in touch with you to learn more about what you’re doing?
Mike Schablein: Yeah, that would be tough, trying to find it online, and probably even more difficult — U.S. Bank is a big bank; all the smaller banks, you might see [unintelligible [00:32:15].12] and actually be able to click on people. U.S. Bank’s got 70,000 employees, and a lot here in Cincinnati, so it’s not so much personalized and individualized. I have business cards I’m happy to pass out. I do a lot of emailing, because I can’t be everywhere at once.
Joe Fairless: Do you wanna mention your email?
Mike Schablein: Yes, sure. Michael.firstname.lastname@example.org.
Joe Fairless: Thanks so much for hanging out with us, and I’m opening it up to–
Mike Schablein: You spared me the Antonio Brown questions; I wasn’t gonna answer those anyway. [laughter]
Joe Fairless: I know what you’re talking about, but I have no idea of the context there. Let’s [unintelligible [00:32:58].00]
Audience Member: I wanna paint a lending scenario, and this is multifamily. Say I’m an existing borrower, current on all my payments, the various multifamily properties are performing, liquidity is okay, but when you review the debt service coverage ratio, I miss badly. I miss by 15% or 20%. So that’s a violation. What’s your thought process, or what would cause you to call the loan versus waive it?
Mike Schablein: Well, one, we generally don’t call loans. You may end up being monitored by somebody else other than me if they feel it’s a problem that’s system, that’s not going to go away. I guess what I would question is you say you’re performing well, but you’re missing your debt services. Why would that be?
Audience Member: Maybe I went a little too aggressive with the purchasing, and things are, for example, not fully renovated…
Mike Schablein: I’ll give you a situation we see all the time. What we see a lot is a property is performing, and then a year — it would be embarrassing if I didn’t know why for a full year, and then found out after the fact, but a lot of times you’ll get that next set of financials and all of a sudden your repair and maintenance expense is way up. “What the heck happened?” Well, yeah, I went ahead and renovated five units… Great. Okay, you didn’t ask me for the money, you did it on your own, but you drove your expenses up and your accountant decided they’d rather expense it than capitalize it, or maybe there were certain things that couldn’t be capitalized. We can get our arms around that, right? That’s a one-time thing. “Hey, this is what I did; I put my money back into the property, here’s how much I’ve spent…” I’ll normalize the underwriting and say “Well, had you not spent that $30,000, you would have hit your debt service coverage. It’s fine.” I can do that.
But I guess what I’ll struggle with is this scenario I’ve painted for you before, where “Well, I have a lot of properties and I travel to them a lot, and I’ve put all my personal expenses on the [unintelligible [00:35:02].00] for that.” That’s something that I may know what you’re doing, but that’s not necessarily an acceptable answer for not hitting your debt service coverage. So you’re either gonna change the way you’re doing that, or we’re probably gonna have an issue, and it’s probably gonna end up where somebody else monitors that account until it matures, and then our recourse at that point is just to tell you we’re not gonna renew the loan… And that gives you a chance to shop that elsewhere.
But again, as long as we can understand why, and underwrite it and normalize it… A lot of times that’s what it is. “Hey, [unintelligible [00:35:35].28] and put the money back into the property.” “Okay, great.”
Audience Member: Hi, Michael. I–
Mike Schablein: You look familiar.
Audience Member: I’ve done a deal with you on [unintelligible [00:35:48].10], brother. You made it very easy.
Mike Schablein: Yes. Well, that’s the one time I made it easy. [laughter]
Audience Member: Yeah, I don’t know about that. I’ve been told that U.S. Bank has a stress test that you would [unintelligible [00:35:56].25] a 10% vacancy and credit loss. Is that accurate?
Mike Schablein: We have what they wanna call a minimum vacancy. Say you’re in a market that CBRE says Pleasant Ridge’s multifamily vacancy right now is 3%. Our policy may say the minimum of 5% or market vacancy, the minimum. So we’ll use 5%, even though the market is 3%. Now, conversely, say it’s 10%. Well, we’re not gonna use 5%, we’re gonna use the 10%, the actual. So it’s always gonna be a minimum of 5%. Sometimes the actual may be less than that, but if that’s really causing a deal to not work…
Audience Member: [unintelligible [00:36:48].27]
Mike Schablein: Management fee, we’re gonna use 4% as a minimum. Now, if you’re paying somebody 7%, then we’re gonna use 7%. But if you’re paying somebody 2%, we’re gonna use 4%. So there are a couple things like that, but honestly, the rest of it is really based on historicals.
Audience Member: As far as the debt coverage ratio goes, depending on how you structure the loan, I’m assuming their payments are gonna be different. So if it’s an interest-only loan, then maybe a little bit lower monthly payment. If the term length is longer, over a period of time you pay less. Also the amortization – if it’s 15-year versus 20-year versus 25-year, that payment is gonna be different… So do you work with investors to structure a loan in order to make the numbers work, or…?
Mike Schablein: That’s a good question. We have what’s called a sizing tool. We actually size the loan based on a constant, and that constant will involve interest-only. Your payment may be interest-only, but we’re gonna size that if it was a P&I payment based on a certain interest rate and a certain amortization… So if the loan sizes to that and you do an interest-only payment, you’re gonna be fine, because you’re interest-only and we’re basing our loan size on a P&I payment. Having said that, where that comes back to haunt us sometimes – that sizing constant may be a little more conservative than what the actual debt service of the property is. So our sizing may say “This only supports a 5 million dollar loan”, but the actual debt service would size at 5,5 million dollar loan. Well, somebody’s gonna underwrite it for the 5,5 million dollar loan, and we’re stuck at 5 million, and that becomes a competitive issue.
Audience Member: [unintelligible [00:38:21].04]
Mike Schablein: I can’t really speak to the residential. Commercial loans, I’d say your best source of information on commercial loans — because every bank is a little different. There is no heat map that shows “This bank loans this loan for a quarter of a million here, and U.S. Bank did this one here.” It’s really auditors’ sites, reporter sites… You can find who’s filing mortgages, and then obviously on auditors’ sites; if you know particular areas of properties, you can see who’s bought them, who’s transacted.
Audience Member: So if I have a smaller multifamily property, a 4-unit, and it’s in an LLC, and I’d like to do a HELOC on that, how would I go about doing that?
Mike Schablein: It is a good question. When you have the 1 to 4-family properties — I know residential lenders can do a multifamily 4-unit, unless they’re owned in your name. I think the LLC throws that out of the residential financing picture. On the commercial side, most larger banks don’t like HELOCs on investment properties. Number one, they generally limit the term. If they were gonna do one, they generally would be a year or two years, so every year or two we’re having to get a new valuation on the property, and new loan documents, things like that.
I’d say we generally will prefer a term note. If it’s a one-time need, we’d rather see that than a floating checkbook on an investment property. Now, having said that, if it’s a very low loan-to-value property, if it’s a 30%, 40%, 50% loan-to-value we would consider a HELOC. But again, I think the trade-off is you’re probably gonna have a shorter term than a term loan, and every couple of years you’re gonna get that papercut of costs, with a updated valuation, and title update, and loan documents, and that kind of thing.
Joe Fairless: Assuming that the HELOC did happen, what would be a case where that one-time need could make sense to the bank? What would that one-time need be?
Mike Schablein: Well, big-ticket items… So depending on — if it’s a 4-unit, maybe I already have two empties, and the other two, I’m just gonna let them walk at the end of their term, and I’m gonna redo the kitchen and the bathrooms in these units, and I’m gonna pump the rents, and we’ll underwrite it to the proforma… Things like that. That would make sense on a one-time basis. If you own a bigger property and you’re like “Hey, I’ve got ten buildings on this property and I’ve gotta do roofs, or I’m gonna redo all the parking lots”, that’s more of a term note thing than a line of credit. A line of credit thing is “Hey, I’ve owned this property 20 years and I’ve paid my loan down, or paid it off, and I just wanna have something in the event I decide three years from now I’m gonna put new roofs on it, or do that…” Then we would look at more of a HELOC situation. But not where “Hey, I’m at 75% LTV and I wanna get every bit of equity I have to have this just in case something comes up.” That’s when we’re looking at your liquidity reserves.
Audience Member: That makes sense. And also, can you repeat your email?
Mike Schablein: Sure. Michael.email@example.com.
Audience Member: So if you were to analyze a deal that’s just a 4-family, 8-unit, whatever you wanna call it [unintelligible [00:42:09].16]
Mike Schablein: I have some properties that required flood insurance. The flood maps change, too. It may be in the flood zone two years from now, and it wasn’t when we did the loan. You don’t know. But yes, we have a very dedicated group of folks that only monitor flood mapping. So if something like that comes up during the term and it wasn’t in a flood zone, we’ll get a notification, you’ll get a letter, and it gives you X amount of time to get that in place.
But as far as underwriting goes, I’m not gonna say no to the property because it’s in a flood zone. If it works, and you have the proper flood insurance in place, and it still cash-flows, we will do the deal.
Audience Member: I guess what I’m saying if you just compared apples to apples, same place, on high ground and flood zone – will there be a difference in the way you look at it?
Mike Schablein: I don’t look at the deal differently.
Audience Member: Okay.
Joe Fairless: I set the bar high, so let’s see what you’ve got…
Audience Member: Well, a couple questions. I’m a buy and hold investor, I’m relatively new to commercial. Everything until recently has been four units or fewer. My understanding is that U.S. Bank has as a commercial lender on real estate has a reputation of being very picky about what they will and won’t write on… But if they decide they would want to write on a property, they’re gonna blow everyone out of the water with the terms that they’re willing to write on. What’s your perspective on that reputation. Does that seem to hold true to you?
Mike Schablein: I don’t have that same perspective. I would say, in fairness, our box is smaller than a lot of financial institutions. And not because we’re picky about the types of properties so much, it’s that our underwriting terms – I could tell you, from the day I started 13 years ago to today, haven’t changed hardly at all… Whereas a lot of banks, leading up to 2007-2008, when things really went sideways, there was a lot of aggression out there. A lot of banks pulled back until about 2012-2013, and then it heated up again, and right now it’s the Wild West out there. It is definitely a borrower’s market for getting aggressive terms. Our terms haven’t changed.
On multifamily we’ll do up to a 10-year term, but on all our other commercial types, you can give me a Walgreens’ 15-year lease – it’s gonna be a 5-year term. So it can renew, but our terms are very conservative, so that makes our box small; not that we’re picky about what type of property it is.
Audience Member: Conservative, in a small box, but not picky. Okay. So if we experience a market shift and all of a sudden it gets a lot harder to get loans on our properties, would you expect that U.S. Bank would, in a market like that, end up feeling more aggressive than other lenders?
Mike Schablein: Yes. Again, when I came over it was just at the start of the crash, and from about 2009 through maybe 2013-2014 it was the most business I’ve ever done in commercial real estate… And that’s because everybody else pulled back. We weren’t doing anything differently, we weren’t offering any better terms, different terms. It was the same stuff. There just wasn’t any competition. Now everybody’s out there, so it’s challenging. But again, we’re not doing anything different, it’s just everybody else is really going after it.
Joe Fairless: Last one and then we’ll wrap up.
Audience Member: Do you invest in real estate personally, and if so, what do you do?
Mike Schablein: Well, the answer is no. My Fifth Third days, 1999 through 2007, there was actually a rule within the commercial real estate group – we couldn’t invest and lend at the same time. Number one, they didn’t want any clouding of thinking; number two, they didn’t want that to be your day job instead of the commercial lending aspect of it. U.S. Bank doesn’t necessarily have that same rule. What’s precluded me is four kids, two in college, a lot of other things going on right now. Would I invest in real estate? Absolutely. But it’s just not the right time yet.
Joe Fairless: Mike, thank you so much.
Mike Schablein: Thank you.
Joe Fairless: I appreciate it.