Archive for February 15th, 2011

A little good news from Anglo

Last week a couple of details went largely unnoticed even though on the face of it, both represented multi-billion euros of good news for the nation.

(1) The first was the release of Anglo’s unaudited financial information for full year 2010. Although we could be forgiven for swooning at the headline record Irish 12-month corporate loss of €17.6bn, the four-page release went on to say that this loss included “a loss of €11.5bn on disposal of eligible assets to NAMA”. At the end of 2009, the previous year, Anglo had €35.602bn of loans destined for NAMA against which a provision of €10.12bn had already been reported as a loss. Adding the loss of €11.5bn for full year 2010 means that Anglo has made a cumulative loss of €21.52bn on some €35.602bn of loans (that is a 60.7% haircut). Now a 61% haircut is bad but it is not as bad as the 67% estimated by NAMA back in September 2010 (in the base scenario) or 70% in the adverse scenario. As indicated on here last week, there has been no new transfer of loans from the NAMA banks to NAMA since before Christmas (the total transfers in the pre-Christmas update were €71.2bn and that hadn’t changed when NAMA spoke to the press last week). And although NAMA has still to absorb €17bn of loans, €12bn relates to sub-€20m exposures at Allied Irish Banks and Bank of Ireland. The remaining €5bn relates to Paddy McKillen (€2.1bn) and other objectors. But the betting is that the €5bn represents “cherry assets” so the haircuts are unlikely to even get as high as 61%. This would therefore all seem to indicate that Anglo’s final losses on its NAMA portfolio are approximately €2bn (67%-61% * €35bn) less than previously thought. Sadly the non-NAMA loan losses are in many people’s opinion likely to be more than previously reported so the conclusion to the NAMA tale might not change much, but on the face of it, we actually got some good news last week. And I notice from the court application by Fir Tree Capital in New York against Anglo that they claimed some €35bn of Anglo loans went to NAMA at a 62% discount (I think they’re 1% out though that’s not relevant to their case)

(2) Alan Dukes, the chairman of Anglo last week claimed that the banking bailout might cost nearly €100bn (comprising €46bn earmarked by the Department of Finance in September 2010 + €35bn of the IMF/EU bailout  + €15bn additional funding to restore a decent banking system in the State and none of this 15bn was for Anglo). And again, naturally we all focused on the €15bn extra which this former Minister for Finance and Anglo chairman since June 2010 and before that, for 19 months, he had been a public interest director appointed by Minister for Finance, Brian Lenihan. His claims for future bank bailout costs were attacked by Minister Lenihan and Alan Dukes’ ability to predict capital needs in banks other than Anglo was questioned. So with all that hullabaloo going on, you might have missed the statement on the underrated Vincent Browne Show, practically uttered beneath his breath, that €29bn (the base scenario for Anglo’s ultimate bailout) might be enough – indeed the final figure might be a bit less. So it would seem that the adverse scenario which might cost us €34.3bn at Anglo is no longer seen by Anglo’s chairman as likely. Again, that is good news.

In the context of a financial crisis that is costing us in the order of €50bn at least, a few billion here and there might seem like an irrelevance but when we finally come to relate these astronomical costs to the reality of life in Ireland, they will be significant (€2bn still goes a long way).

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You have to hand it to the good folk at our Department of Finance. Here’s the problem

“Anglo Irish Bank (Anglo) and Irish Nationwide Building Society (INBS) owe money to depositors and to bondholders. The depositors are civilians and should get the money back. The bondholders are investors and should face a discount if not a complete wipe-out. But the law equates depositors with senior bondholders so if you’re going to impose any loss on the senior bondholders, you’ll have to do the same to the depositors.”

And here’s the solution

“Transfer the deposits out of Anglo and INBS so that neither institution has any depositors left, just bondholders. And then wipe out the bondholders.”

It’s like the Hotel Rwanda but instead of blood thirsty Hutus, you have the beleaguered Department of Finance whose intent isn’t to “chop the cockroaches” but to “burn the bondholders”. But first they needed the Blue Helmets (in our case represented by Granny Ni Houlihan’s life savings on deposit in Anglo) to leave before it becomes a free-fire zone. And perhaps as soon as next week, Granny Ni Houlihan’s deposits will have been transferred out of Anglo following the decision last week to auction off the deposit books of Anglo and INBS. What will then stand in the way of burning the bondholders?

But the ingenuity (“plan and brazen violation” of bond agreement according to Fir Tree) of the DoF seems to have been uncovered by bondholders in the US who have sought to protect their position by seeking redress in the US courts. New York hedge fund, Fir Tree Capital purchased USD $200m of Anglo subordinated debt in 2005 (that is, pre the September 2008 guarantee and now apparently exposed) and although its action includes a complaint that Anglo is deliberately destroying value in itself through transfers to NAMA it seems that  that the main aim of the action is to extract value from its investment before Anglo’s deposit book is auctioned off. Anglo’s transfers to NAMA commenced almost a year ago and it seems a bit late in the day to be complaining that value is being destroyed at that golem bank especially since NAMA is paying Anglo by reference to property values some 14 months ago (Ireland’s property market where Anglo is particularly exposed has continued to tank since then) and is paying a Long Term Economic Value premium, averaging 10%, on top of the current market values.

But the other strand, that Anglo is disposing of deposits (and assets of equal value) seems well-worth pursuing because in a couple of week’s time bondholders won’t be able to complain that they are being treated differently to depositors because Anglo may no longer have any deposits. The complaint appears not yet to be online in the US courts system (and it is hoped that more detail can be attached here later today) but it seems that this action has the potential to stall, if not scupper, the government’s plans for the wind-down of Anglo. UPDATE (1): 15th February, 2011  According to Bloomberg (and credit to Gerard Sheehy for pointing it out), the case is Fir Tree Capital Opportunity Master Fund LP v. Anglo Irish Bank Corp., 11-CV-0955, Southern District of New York Manhattan and we hope to have the application details later today. UPDATE (2): 15th February, 2011. The application is now available here.

UPDATE: 8th March, 2011. The Irish Independent claims to have seen Anglo’s response to the Fir Tree application and describes it as “highly agressive”. The response is understood to contend that Fir Tree’s application is “utterly meritless”.  The Independent says the response claims that Fir Tree bought the Anglo subordinated bonds at a deep discount after the IMF/EU bailout in November 2010 and were now seeking to profit in their attempt to be repaid at par.

UPDATE: 5th January, 2012. It is reported by John Mulligan in the Irish Independent that Anglo (or IBRC as it is now known following the merger with Irish Nationwide Building Society last year) won in its bid to be granted immunity from legal action by Fir Tree, on the basis that Anglo is now a sovereign entity pursuant to the Foreign Sovereign Immunities Act as it is 100% owned by the Irish state; that decision was in November 2010. The report in the Independent today says that Fir Tree is appealing the decision  – “the appeal has been deemed by the New York Appeals Court to be eligible for expedited proceedings. Fir Tree has until February 2 to lodge a brief with the court, while IBRC has 35 days after that to file its brief.”

UPDATE: 9th March 2012. In a question and answer exchange in the Dail (Irish parliament) this week, the Minister for Finance Michael Noonan confirmed to Sinn Fein leader Gerry Adams that “as things stand IBRC has a contractual obligation to pay interest and principal on the notes.”

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Ireland is believed to have been one of only two EU countries (the other being the UK) where upward-only rent reviews were common features of business leases (rental contracts) until February, 2010 when Section 132 of the Land and Conveyancing Law Reform Act 2009 banned upward-only rent reviews in new contracts. Many people may not have seen commercial lease agreements before but would expect to see a term in the lease setting out the rent to be paid for the relevant premises. Because business leases tend to be longer than residential leases and because the tenant may wish to occupy the premises for several years, provision is made in business leases for the determination of future rent. That future rent may be reference to growth in inflation, growth in turnover or to be determined by an independent valuer – these and others make for many ways in which a future rent can be determined. Up to 28th February, 2010 the likelihood was that the business lease would provide for rent reviews but that the rent review would only be upward (or have a nil increase, that is, stay the same). From 1st March, 2010 to reflect the collapse in our economy, upward only rent review clauses were banned. But only for new leases. Not retrospectively for old leases.

For existing leases, the existing terms continue to operate. So on Grafton Street you may well have a lease on one premises paying €800 psf per annum and next door paying less than €100. Businesses with “old” leases (ie those entered into before 1st March, 2010) are feeling the pain and feel particularly aggrieved at competitors whose rent is fraction of their’s simply through an accident of timing. After construction, the retail sector is said to have suffered most with employment dropping from over 300,000 at peak to 136,000 in the latest CSO Quarterly National Household Survey, retail is now the second biggest sector in the State after “Industry” and therefore a key employment sector, particularly for females. And with a general election on 25th February, political parties have been setting out their stalls. And with jobs towards the fore of the campaigns, both Labour an FG (policy document here and manifesto here) – the likely elements of the next government regardless of the current cattiness – have signalled that they will retrospectively alter old leases. Terrific news for business tenants, including the beleaguered retail sector. Dreadful news for landlords and other property investors, eg NAMA.

Interestingly the property professionals industry association, the Society of Chartered Surveyors (SCS, currently merging with the Irish Auctioneers and Valuers Institute) has issued a position paper. You might have expected this body which represents parties on both sides of the transaction to have been neutral on abolishing retrospectively upward-only rent reviews but no, it firmly comes down on the landlord side and sets out in some detail the expected collapse in commercial property values that would be expected in the aftermath of any such move. For instance, it believes that “least 20%” will immediately be knocked off commercial property values (capital values here are already down on average 60% from peak so another 20% would bring the total fall from peak to 68%, a level of fall that is already evident by the way in some cases). It also believes that property investors would seek compensation from the government with the taxpayer footing the bill and indeed a retrospective change to leases would harm Ireland’s image abroad as a stable home to foreign direct investment (FDI) which might see a government’s willingness to alter contract terms as an ominous sign (what next, the corporation tax rate of 12.5%).

NAMA of course controls the biggest commercial property portfolio in the country, worth €10bn according to the SCS. And a 20% further decline in values would see NAMA in line for a €2bn loss. The impact on our beleaguered banking sector could be even worse. Given the residual non-NAMA loans in the NAMA Participating Institutions (PIs, AIB, Anglo, Bank of Ireland, EBS, INBS) includes €70bn of commercial property lending (remember NAMA is primarily about land and development with commercial property sucked in under the heading of associated lending – pure commercial property exposures are left untouched by NAMA). So a further decline engineered by a new government might see losses at the banks balloon even further.

UPDATE: 16th February, 2011. The battle lines in the debate on retrospectively altering  commercial rents (mirroring the exchanges of comments on here between Brian Flanagan and commenter NAMAJew) continue to be drawn today. In the Irish Times, Bill Nowlan argues the case on behalf of what might be seen as “the property industry” whilst  in the other corner is Retail Excellence Ireland representing the retail sector which openly calls on members to vote FG/Labour to protect jobs (not sure I’d agree with its assessment of numbers employed in the sector which seems to be contradicted by the CSO Quarterly National Household Survey cited and linked above).

UPDATE: 18th February, 2011. For completeness here is the IBEC (employers association) retail sector statement on what was then only Labour’s commitment to the retrospective changing of upward-only review leases. There doesn’t appear to be an IBEC property sector statement on the matter …Oddly enough, the Construction Industry Federation (CIF) has yet to comment on the proposals, as has the Irish Property Council.

UPDATE: 23rd February, 2011. I have rarely seen such a carefully considered piece as the one penned by commercial property commentator, Bill Nowlan in today’s Irish Times in which he seems to accept the inevitability of FG/Labour’s plans for retrospective rent reviews. He cites IPD saying that on the portfolio in Ireland on which they determine their index (with the Society of Chartered Surveyors) the manifesto pledges would result in a 19.8% decline in capital prices on the IPD-monitored portfolio.  In one of the best written pieces I think you could expect to see on this subject Bill argues for a system which would protect tenants whilst deterring “chancers” and “try-ons”. Whilst still firmly speaking for the property industry (and I note the photograph used in the piece is of a shopping centre owned by Irish Life who are a leading pension provider in the State – so any decline in commercial property prices will affect grannies, geddit?), Bill suggests a system of reviews which would borrow from insolvency processes and kick in where rents constituted more than 10-15% of turnover. An interesting contribution that deserves to be studied though I would think the folks on other side of the argument, the tenants, might have alternative proposals.

UPDATE(1): 2nd March, 2011. With negotiations ongoing between Labour and FG to hammer out the terms under which a new government can be formed (and with not a small chance that the talks may fail, it should be said) it seems that the areas of difference as reported in today’s Irish Times citing “sources from the two parties, speaking on condition of anonymity” do not include retrospective rent reviews. And elsewhere in the Irish Times, David Fitzsimons from Retail Excellence Ireland gives his reply to Bill Nowlan’s article last week. He refers to the failure of Celtic Bookmakers, Hughes Hughes, Sasha, Four Star Pizza, Toni Guy and Chartbusters and claims “extortionate rents” as the “fundamental reason” for their failure. It is an interesting article that tries to spell out the benefits to the economy of lower rents in legacy leases (those created before 1st March 2010 when upward only rent reviews were lawful). He says that 30,000 jobs will be protected, mostIrish pension funds invest less than 3% in property and that in fact there has been little foreign investment in property in the last eight years in any event. Elsewhere in the paper, there is an article on the latest Cushman % Wakefield “Office Space Around the World” report which ranks Ireland as 26th most expensive office accommodation location with average rents including taxed and service charges of €42psf down from €47psf the previous year and that is attracting more foreign interest it is claimed. Cushman & Wakefield also say that London City and West End rents rose by 25% last year.

UPDATE (2): 2nd March 2011. Property services powerhouse and NAMA valuation panel member, CB Richard Ellis has just published its first “bi-monthly” (I believe they mean every two months rather than every two weeks) report looking at the commercial rental sector in Ireland. The press release is here and the (very slightly longer) report itself is here. It concludes that activity picked up in January and February 2011 no doubt boosted by the fact that prime rental levels are 50% off peak and there is little new space under construction. Indeed there are only five new Grade A buildings in Dublin 2 and 4 with over 75,000 sq ft.

UPDATE: 10th March, 2011. The Irish Times continues with what seems like a series of essays on the subject of upward rent reviews and today the Head of Investments and a director of agents, Lisney, Anne Hargaden gives her views on the matter. She starts her essay with an attack on “ill-conceived arguments presented through the media” and then goes on to make what must be the most vacuous arguments you are likely to hear on the subject (1) She attacks government’s interference in property rights disregarding the fact that governments constantly interfere in rights of citizens and companies all the time and she might consider that fact the next time she sees people having a cigarette outside their offices (2) She produces calculations which show that a 30% reduction in rent will have a, er 30% reduction in capital values (3) She claims that Irish citizens and banks and pensions are exposed to property and will be disadvantaged by reductions in rent (4) She says that existing commercial arrangements should see landlords willing to reduce rents when the tenant is at the point of insolvency and (5) Using wonky arithmetic (20% of 5% is 1%, not 2%) she claims that rent is but a small part of a retailer’s cost base and insolvent businesses which produce vacated premises will soon be filled again.  It is to be hoped that the property industry does not let this woman near ministerial offices if it wishes to moderate the effect of the manifesto pledge – “ill-conceived argument”,  highly-selective facts and wonky arithmetic will not impress.

UPDATE: 30th March, 2011. Bill Nowlan tries to progress the debate in today’s Irish Times where he suggests that the proposal be referred to the Law Reform Commission to consider, that being the body which only in 2003 reported “The Commission is clear that it would not be appropriate to impose a mandatory statutory scheme [on commercial rents] . This would run counter to one of the guiding principles stated in the Consultation Paper on Business Tenancies 36 and reiterated earlier in this Paper 37 namely, “removal of legislative provisions which militate against commercial practice and operation of free market choice” Elsewhere Bill refers to the “prancing of pressure groups” (take a bow, Retail Excellence Ireland!) and it seems clear where Bill’s sympathies lie in this debate. But a key point he makes, for the expeditious conclusion of this issue, seems welcomed by all parties regardless of their sympathies.

UPDATE: 2nd April, 2011. The Irish Times reports on a year-old letter from NAMA to the Department of Finance which complained in May 2010 to then-Minister, Brian Lenihan that altering upward-only lease terms to allow upward-downward reviews would devalue NAMA assets and force NAMA to overpay for the remaining tranches since it was valuing by reference to November 2009, disproportionately benefit “foreign” commercial tenants and have unhelpful consequences. The letter was penned by NAMA CEO, Brendan McDonagh and its Head of Portfolio Management, John Mulcahy. It is a year old and a Rice-Daviesesque reaction might be appropriate : “they would say that, wouldn’t they”

UPDATE: 18th April, 2011. David McWilliams has come out in favour of lower rents, though he doesn’t go so far as to support banning Upward Only Rent Reviews. John McManus delivers a barely literate and partly inaccurate article in support of changes to UORRs in the Irish Times. He incorrectly claims that the recent Central Bank of Ireland stress tests did not consider the abolition of UORRs when the explicit change projected in the adverse scenario was 20% different to the baseline scenario specifically to accommodate the expected 20% drop which the SCSI has said would follow the abolition of UORRs. The article focusses on improving competition by setting rents at market levels.

UPDATE: 11th May, 2011. John Moran, managing director of JLL in Ireland tells the Irish Times today that the “threat” of abolishing UORRs is stopping investment and he cites as evidence the one office investment transaction in Q1, 2011 in Ireland (the Layden Group reportedly bought 42,000 sq ft Boole House in Clonskeagh, Dublin 4 for €9.25m in April, 2011 which isn’t even Q1 – apparently it was a sale and leaseback by telecoms giant, Ericsson). John goes on to claim that there was €4bn waiting to enter the investment market at the start of 2011 but that most of this “has voted with its feet and chosen not to deploy itself, citing that Government interference with the market and contracts is an absolute impediment to investment.”

UPDATE: 8th June, 2011. A study has been conducted by CBRE in Wexford town, sponsored by a number of parties who would appear to have an interest in defeating the proposal to abolish UORRs. According to the Irish Times “The study found that of the 136 retail properties in the town only 2 per cent of them were refused rent abatement by their landlords. However, when the 45 per cent of the shops which are owner-occupied as well as vacant units and recently let stores are discounted from the survey, those refused rent reductions accounted for 19 per cent of the total.”

UPDATE: 17th July, 2011. Without citing sources, Aine Coffey in Ireland’s Sunday Times (not available online without subscription) reports that a Bill is making its progress through the Irish cabinet and will be presented to the Oireachtas in September/October. The Bill is to have a five-year sunset clause which the newspaper claims is to bat off challenges to its constitutionality. A sunset clause merely means the Act will be discontinued after five years but it is not clear why a sunset clause would make the Act immune to legal challenges by disgruntled landlords. Other features of the Bill are reported to include

(1) It will only be in “exceptional cases” that tenants will get changes to their leases

(2) The tenant must demonstrate that rents are threatening their viable businesses

(3) The tenant must demonstrate “the upward-only review clause prevents the rent from reverting to a market rate”. It’s not totally clear what this means, it might simply mean the tenant must show that the lease is an UORR lease.

(4) Landlords will be entitled to defend attempts to change rents if they can demonstrate rents being based on costs incurred on the premises, though a defence will not be available based on existing bank loans.

(5) The circuit court will be the court with authority to hear cases but the tenant must wait a year after a review was first sought from the landlord before becoming entitled to apply to the court.

(6) According to the Sunday Times “the circuit court will also have the power to rule on rent arrears”. Again this is not clear – perhaps tenants will be entitled to reduce their rents paid pending an outcome of the circuit court.

All in all, this report is worrying in the sense that all of the above details have the potential to change property valuations. Minister Shatter should be making a prompt statement on the matter and his Department has been asked for comment.

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