The return of real estate lending has taken institutional lenders by surprise.

Real estate investment trusts and other private capital groups, virtually the only active lending sources during the early 1990s, have fared well in the early comeback activity.

Many banks and insurance companies have more recently returned to real estate lending, and indications are that more financial institutions (including pension funds) are poised to become active lenders in 1996.

For borrowers, the turnaround has meant greater availability of capital, from more sources, with lower rates and innovative underwriting techniques. For some lenders, however, the return of real estate could be shaping up as a mixed blessing.

Bank lenders who hope to take advantage of the current wave of opportunities will need to feel comfortable with today's more complex deal structures.

In order to compete with the newer breed of private lender, institutions must complete the evaluation and underwriting of transactions faster than in the past. The "smart" money today is different from that of the 1980s. Banks and other institutions are now competing against REITs and private funds that are more horizontally structured and more focused than in the past.

In order not to be at a competitive disadvantage, institutional lenders must be more aggressive and creative.

For example, private lenders as well as REITs have targeted specific markets, such as loans to or investments in hotel and specialized retail opportunities. By definition, these private capital groups and REITs are familiar with the specific markets they have targeted and understand the complexities and nuances of such markets.

Since real estate lending groups of major financial institutions are not always so market-conversant as private lenders, they may not possess as much of the specific industry knowledge necessary to compete successfully for these financings. They must accelerate their learning curve and must assemble the expertise necessary to understand a niche market and evaluate and react to a loan proposal in a timely fashion.

Lending institutions should consider establishing specialized groups within their real estate lending divisions that would focus on markets such as retail, hotel, multifamily, credit lease, and mixed-use properties.

Real estate lenders can help themselves in a complex and competitive market by remaining focused on their objectives and knowing in advance their institution's capacity for risk and desired rate of return.

Today, the need is greater to work through complex structures, not to walk away from them. Lenders with a cloudy vision of their underwriting criteria in the context of the current real estate environment are likely to move more slowly and to pass on opportunities that are insufficiently familiar to them.

With the assistance of counsel, lenders should consider reevaluating some underwriting criteria that may be outdated or no longer relevant. For instance, lenders that previously shied away from leasehold mortgage loans for certain bankruptcy-related reasons might be surprised to find out that recent legislation may have relieved their concerns.

Borrowers may not have the patience to respond to outdated loan covenants, and banks searching for "plain vanilla" real estate lending may find fewer and less rewarding opportunities available.

The hotel industry is one area that has commanded significant interest in the past year. Loan-to-value ratios were in the 50% to 75% range as recently as a few years ago. Today, a more typical scenario is 65% to 75%. Lenders who were able to communicate well internally, and had a sound awareness of their risk tolerance, were able to act earlier and quicker.

While hotel industry opportunities are not all gone (according to The New York Times, the hotel market in Manhattan has never been stronger), many of the best investments have already been made, as is usually true of any exploding market.

Private real estate investors are not eager to see institutions streamline their underwriting and decision-making processes. Keeping more of the market to themselves would increase their leverage and ability to retain higher rates of return.

What appeals to some institutional investors about the "comeback" market in particular is the ability to participate in loans in ways that suit them.

In the past, institutions may have had to pass if the terms did not reflect underwriting parameters at a given time. Today, with various tranches of debt available, institutions can select the level of return and risk that is right for them.

Borrowers are encouraging institutions to participate, and many are willing to structure deals that will accommodate lenders' desired risk- reward ratios by offering senior, mezzanine, and subordinated debt opportunities in the same property.

Institutions are more likely to identify situations that are right for them if they communicate to borrowers early what is and is not acceptable to them.

REITs and other more focused real estate investors, by nature more aggressive than institutions, have had to identify ways of analyzing loans that will allow them to sort out the opportunities faster. By necessity, private investors adjust their objectives faster in response to market conditions.

This makes it necessary for institutional lenders who wish to be active in the real estate market to have a clear understanding of the role they wish to play.

Banks, for example, should be prepared to respond if and when what they require becomes available. Hotel internal rates of return, which were in the 18% to 20% range, have fallen to the low to mid-teens in the past year. Waiting to respond until trends are clear and returns have peaked may not work in markets where dollars are chasing the best deals.

The alternative, selecting an appropriate tranche of debt, can be viable for less aggressive real estate investors who want to participate in deals with attractive returns without losing sight of their objectives.

If more banks, as well as insurance companies and pension funds, can convey to the real estate community their interest in lending - and that they can respond when presented with appropriate opportunities - they will see more lending opportunities structured to accommodate their needs.

In 1996, more opportunities will be available for institutional lenders to apply their underwriting criteria. Real estate departments of institutions that streamline their review process can help themselves significantly.

These departments may want to consider bringing in professionals earlier than in the past, especially investment advisers and legal counsel. Working through the complexities of a lending opportunity does not have to be painful.

Real estate specialists should be asked to look briefly at deals that may not otherwise be readily analyzed without assistance. Spending an hour or two and offering a general opinion can save enormous time, money, and embarrassment.

Real estate counsel with the right experience can render an effective summary opinion without getting involved in a costly analysis.

With regard to real estate, two things are clear: Lending is back, and banks and other institutions will be competing more directly with private money - as well as each other - for their share of the market in 1996.

Mr. Neveloff is director of the real estate practice group of Kramer, Levin, Naftalis, Nessen, Kamin & Frankel, a New York law firm.

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