BoyarMiller Breakfast Forum: The Current State of the Capital Markets 2010
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BoyarMiller Breakfast Forum: The Current State of the Capital Markets 2010 Presentation Transcript

  • 1. The Current State of the Capital Markets Breakfast Forum September 10, 2010
  • 2. www.boyarmiller.com Equity and the Public Markets Andrew D. Kanaly – Kanaly Trust Chairman & CEO
  • 3. 2010 Market Performance Index Performance as of July 31, 2010 EQUITIES July YTD 12 Months S&P 500 7.0 (0.1) 13.8 DJIA 7.2 1.9 17.3 Nasdaq 6.9 (0.1) 15.0 Russell 2000 6.9 4.8 18.4 MSCI EAFE 9.5 (4.7) 6.7 MSCI Emerging Mkts 8.4 1.8 20.2 FIXED INCOME BarCap US 1-3yr Govt 0.3 2.2 2.9 BarCap Int Govt/Credit 1.1 5.7 8.0 BarCap High Yield 3.6 8.2 23.7 BarCap 5yr Muni 1.5 4.0 6.5 ALTERNATIVES HFRI Global Hedge Fund 1.2 0.0 5.8 DJ Wilshire REIT 9.9 15.7 54.9 DJ UBS Commodity 6.8 (3.5) 6.3 Gold (4.9) 7.7 26.4 Crude Oil 4.4 (0.5) 17.9
  • 4. Copyright 2010 Kanaly Trust. All rights reserved. 4 Recession Ends?
  • 5. Inventory Rebuilding • The “V”-shaped recovery was driven by inventory rebuilding • What will drive sustainable growth from here?
  • 6. Unemployment is a Lagging Indicator? • After 2001 recession, unemployment continued to rise until early 2003 • Stocks did not sustain a recovery employment stabilized in 2003
  • 7. Initial Claims Signal a Double Dip? • Initial Claims Stay in Recession Levels
  • 8. Lack of Credit Prevents Robust Recovery • Credit is the lifeblood of economic growth • The largest banks have reduced lending by over 25%
  • 9. Housing Market Not Out of the Woods • Monthly Resets on troubled mortgages will pressure housing for two more years Source: Credit Suisse $B
  • 10. After Gov’t Program Ends..Home Sales Decline
  • 11. Too Much Debt is the Long-term Problem
  • 12. Copyright 2010 Kanaly Trust. All rights reserved. 12 Where does the stimulus come from if the Gov’t is tapped out?
  • 13. Key Economic Issues in 2010 Markets are anticipating continued improvement in the economy, which likely hinges on a recovery in business spending and employment. Some of the key economic issues to watch include: • Withdrawal of fiscal and monetary stimulus programs • Efforts by China to slow economic growth • Potential for mortgage resets, commercial real estate troubles, and sovereign debt to create fresh credit concerns • Continued deleveraging of consumer balance sheets • Tax increases coming at both federal and local levels • Potential for higher interest rates to entice investors to buy Treasuries
  • 14. Earnings Estimates Likely to Come Down S&P 500 Annual Operating Earnings 38.23 45.17 52.00 47.24 54.15 67.01 87.72 82.54 49.51 81.32 95.59 62.20 77.08 44.23 39.56 0 20 40 60 80 100 120 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010E 2011E
  • 15. The “BUBBLE” is Likely in Bonds….
  • 16. ……….Not in Stocks
  • 17. Back to the 1970s? Source: Strategas Research
  • 18. Investment Strategy Portfolios should be geared more toward capital preservation to manage significant downside risks: • Pursue ultra-diversification, utilizing traditional asset classes as well as alternative investment strategies (stocks & bonds are not the only choices) • Actively manage the asset mix, and look for opportunities to hedge • Equity exposure should focus on high quality global businesses trading at attractive valuations (bias to large caps, emerging markets) • Be highly selective with fixed income: avoid high yield debt, and invest in only the most creditworthy municipal issuers • Add to inflation protection when it is cheap
  • 19. Current Allocations Traditional 30% Equity 60% Equity 30% Fixed ASSET CLASS 40% Fixed 40% Alts Large Cap Equity 30.00% 8.50% Small Cap Equity 15.00% 6.25% Micro Cap Equity 3.25% International Equity 10.00% 8.00% Emerging Markets 5.00% 4.00% Fixed Income 40.00% 30.00% Liquid Alternatives 11.00% Hedged Equity 6.00% Commodities 5.00% MLPs 5.00% REITs 3.00% Managed Futures 10.00% Expected Return 7.60% 8.60% Standard Deviation 10.74% 8.16% Sharpe Ratio 0.34% 0.56%
  • 20. Kanaly Trust Investment Model Performance – 2010 2010 YEAR TO DATE MODELS INVESTMENT PERFORMANCE as of 7/31/2010 (Equity/Fixed Income/Alternatives/Cash) Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Year to Date Balanced Models Growth (35/25/33/7) -0.6% 0.9% 2.8% 1.4% -3.6% -1.0% 3.2% 2.9% Growth - Taxfree FI (35/25/33/7) -0.9% 1.3% 2.6% 1.3% -3.6% -1.3% 3.3% 2.6% Balanced MF Portfolio (30/30/33/7) -0.6% 0.9% 2.5% 1.4% -3.3% -0.8% 2.9% 3.0% Balanced MF Portfolio - Taxfree FI (30/30/33/7) -0.9% 1.3% 2.2% 1.2% -3.1% -1.1% 3.0% 2.6% Conservative (15/50/24/11) 0.1% 0.7% 1.5% 1.3% -2.0% 0.1% 2.0% 3.7% Conservative - Taxfree FI (15/50/25/11) -0.6% 1.2% 1.1% 1.0% -1.7% -0.6% 2.0% 2.4% Small Model - Aggressive -2.5% 5.3% 2.6% Small Model - Balanced -1.1% 4.8% 3.6% Small Model - Conservative 0.8% 3.7% 4.5% Small Model - < $25K -0.5% 5.5% 4.9% Equity Only -3.2% 2.2% 6.4% 1.2% -8.3% -3.7% 6.9% 0.6% Fixed Income - Taxable 1.6% 0.0% 0.7% 1.4% -0.5% 1.4% 1.3% 5.8% Fixed Income - Tax Free 0.2% 0.5% -0.5% 0.5% 0.3% -0.2% 0.7% 1.5% ALTs - No MLPs -0.7% 2.0% 1.0% 1.0% -1.8% -0.3% 1.4% 2.6% ALTs - With MLPs -0.5% 1.2% 1.4% 1.9% -2.2% 0.5% 2.2% 4.5% S&P 500 (60%) / Intermediate Taxable (40%) -1.6% 2.0% 3.5% 1.3% -4.3% -2.6% 4.5% 2.6% S&P 500 (60%) / Intermediate Muni (40%) -1.9% 2.2% 3.4% 1.2% -4.5% -3.0% 4.7% 1.6% S&P 500 Index -3.6% 3.1% 6.0% 1.6% -8.0% -5.2% 7.0% -0.1% Barclays Aggregate Bond Index 1.5% 0.4% -0.3% 0.9% 1.2% 1.5% 0.8% 6.1% BarCap 1-10Yr Muni Index 0.6% 0.8% -0.6% 0.7% 0.7% 0.3% 1.2% 3.7% * The asset allocation models above represent an approximation of how the portfolios perform; actual results may differ from the models. Returns are shown before fees and are not AIMR/GIPS compliant. The return information provided above represents past performance and is not necessarily indicative of future results. Further, specific client portfolio(s) investment returns and results may vary from figures noted above based on account-specific circumstances.
  • 21. Equity and the Public MarketsSeptember 10, 2010
  • 22. www.boyarmiller.com Private Equity and Mergers & Acquisitions David W. Sargent – Growth Capital Partners President & CEO
  • 23. 23 I. GCP’s View of the U.S. Economy and Capital Markets II. Private Equity III. Debt Markets IV. Mergers & Acquisitions V. Conclusions Table of Contents
  • 24. GCPGCP’’ss View of theView of the U.S. Economy and Capital MarketsU.S. Economy and Capital Markets
  • 25. Sept 7 Federal takeover of Fannie Mae and Freddie Mac Sept 14 Merrill Lynch is sold to Bank of America Sept 15 Lehman Brothers files for bankruptcy Sept 17 Federal Reserve injects $85 billion into AIG Sept 18 $700 billion emergency bailout bill is proposed Sept 19 Federal Reserve guarantees money market funds Sept 25 Washington Mutual is seized by FDIC; assets are sold to JP MorganChase Sept 29 Citigroup Inc. to acquire Wachovia SEPTEMBER 2008,SEPTEMBER 2008, AA SEPTEMBER TO REMEMBERSEPTEMBER TO REMEMBER Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke tell key legislators: "If we don't do this, we may not have an economy on Monday."
  • 26. 26  Slow growth economy “new normal” (1% to 2% growth vs. 3% to 5%)  Historically high employment will last for several years  “Deleveraging” the financial system will take time  Record deficits and low interest rates leave fewer traditional “tools” for the government and Federal Reserve to accelerate the U.S. economy  Demographics also add to U.S. growth challenges  Higher taxes, healthcare costs and "reregulation" will add additional head winds to the U.S. economy  Consumer related businesses will continue to face challenges (except Apple!)  Global growth will partially offset a slow growth U.S. economy  Several industries can grow faster than projected U.S. GDP, including energy, infrastructure, security, business services, food, healthcare and technology  Texas economy continues to fare better than those of many other states . Texas has an ideal combination of low taxes, diversity of economy, low cost of living and above vs. average population growth GCP’s View of the U.S. Economy
  • 27. 27  Investors/lenders/buyers will not need a dramatically improving economy to make investment/acquisition decisions but will need to be convinced that the economy has bottomed out and stabilized – started to happen in early 2010  Strategic buyers (primarily public companies) will be compelled to complete acquisitions to offset slow organic growth  Substantial amounts of committed, but un-invested, private equity capital are finding ways to participate in the current market environment  Baby boomer entrepreneurs are anxious to realize liquidity and will not miss the next opportunity  Smaller transactions (lower middle-market) have begun to represent a larger portion of overall M&A activities GCP’s View of the Capital Markets
  • 28. 28  The spread between the 3-Month LIBOR and 3-Month Treasury bills often suggests the perceived credit risk in the general economy. 1. The 3-Month Treasury Bill rate is regarded as risk-free. 2. The 3-Month LIBOR rate reflects the credit risk of lending to commercial banks.  The long-term average spread between the 3-Month LIBOR and 3-Month Treasury is between 30 to 50 basis points. In October of 2008, the spread rose above 300 basis points indicating a wide-spread fear of an economic meltdown. Source: Federal Reserve 0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 0.00 1.00 2.00 3.00 4.00 5.00 6.00 7.00 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Spread(percent) LIBORandTreasuryRate(percent) 3-Month LIBOR 3-Month Treasury Spread Record High Interest Rates
  • 29. 29 Sources: U.S. Department of the Treasury, Federal Reserve Board U.S. Federal Debt as Percent of GDP and U.S. Household Debt as Percent of Disposable Personal Income, 1980–2008 and Projected 2010  The federal public debt totals $8.2 trillion today, and it's headed toward $20.3 trillion in 2020, according to CBO's deficit estimates. That figure would equal 90% of the estimated gross domestic product in 2020, up from 83% at the end of fiscal 2009.  U.S. household debt as a percent of disposable personal income has doubled since the early 1980’s. In late 2007, household debt was $12.5 trillion, which was 133% of disposable income. 20 40 60 80 100 120 140 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 ? (inpercentages) US Federal Debt as % of GDP U.S. Household Debt as % of Disposable Income 122% of Disposable Income 94.3% of GDP U.S. Federal and Consumer Debt
  • 30. 30 Source: Capital IQ S&P 500 Aggregate Cash and Cash Equivalents Balances (1994 – June 2010) ($ in Billions) $0 $200 $400 $600 $800 $1,000 $1,200 $1,400 $1,600 $1,800 ($inbillions) Record Level at $1.6 trillion  S&P 500 companies are holding a record amount of cash totaling a record $1.6 trillion. During the same period, the debt to equity ratio for those S&P 500 companies is down to the 2000 level of 1.3x from a peak of 1.9x in 2008. Strategic Buyers – Record Amount of Cash on the Sidelines
  • 31. Private EquityPrivate Equity
  • 32. 32  The proliferation of institutional private investment funds has continued to create a significant buildup of un-invested capital as a result of record fund raising in 2007 and 2008 combined with suppressed deal activity during the credit crisis.  In the near term, reduced fund raising, combined with an accelerated investing environment and higher equity contributions, will diminish the build up of private equity overhang. Source: PitchBook Data, Inc. Private Equity Raised and Overhang ($ in billions) $0 $100 $200 $300 $400 $500 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 YTD Q2 2010 Cumulative Overhang Equity Raised Equity Invested Private Equity Environment
  • 33. 33 Source: PitchBook Data, Inc. Years to Invest Dry Powder at Annual Rates (Cumulative Overhang / Annual PE Capital Investment)  At levels of investment similar to 2009, the current private equity overhang would take 11 years to invest.  Most private equity capital has a 5-year investment period, meaning the capital will have to be invested at a faster rate than 2009 or private equity firms will have to return un-invested capital to investors.  With the record un-invested private equity overhang and challenging bank lending environment, many traditional LBO/majority recapitalization investors are seeking more creative ways to deploy capital, including over-equitizing the capital structure, investing in smaller transactions and seeking minority and growth capital investments. 8.4 4.3 3.3 2.7 1.9 0.7 3.0 11.0 4.9 0.0 2.0 4.0 6.0 8.0 10.0 12.0 2002 2003 2004 2005 2006 2007 2008 2009 Annualized 2010 Private Equity Environment
  • 34. 34 American Central Gas Technologies, Inc. – Range of Indications of Interest  Through GCP’s aggressive sale process, we received a high level of interest and were able to significantly ratchet up the final price to $240 million.  Of the four top bids, three were financial sponsors, which illustrates the growth in private equity that has resulted in higher than normal valuations paid by private equity groups. Indications of Interest ($ in millions) $210.0 $207.5 $180.0 $175.0 $160.0 $151.0 $150.0 $150.0 $140.0 $137.5 $125.0 $120.0 $94.0 $225.0 $220.8 11.1x 10.3x 10.2x 7.4x 4.6x 5.9x6.2x 6.8x6.9x 7.4x7.4x 7.9x 8.6x8.9x 10.9x $0.0 $50.0 $100.0 $150.0 $200.0 $250.0 A B C D E F G H I J K L M N O EnterpriseValue 0.0x 2.0x 4.0x 6.0x 8.0x 10.0x 12.0x EBITDAMultiple Financial Buyer Strategic Buyer GCP Case Study
  • 35. 35 Debt MarketsDebt Markets
  • 36. 36  The average debt multiple for LBO loans declined from 2007 through 2009, with Total Debt/EBITDA for transactions with companies below $50 million of EBITDA at 3.4x at the end of 2009, down from 5.3x at the beginning of 2008 and 4.4x at the beginning of 2009. Debt multiples have shown an increase this year as of June 30, 2010. Average Pro Forma Adjusted Credit Statistics of Middle-Market LBO Loans (EBITDA <$50 million) Sources: Dealogic, William Blair & Company, and S&P LCD 3.8x 4.0x 3.6x 3.5x 3.9x 4.1x 4.4x 5.0x 4.9x 5.3x 4.4x 3.4x 4.2x 3.1x 3.2x 3.0x 3.3x 3.4x 2.4x 3.9x 4.4x 4.8x 4.6x 3.3x 3.1x 3.0x 0.0x 1.0x 2.0x 3.0x 4.0x 5.0x 6.0x 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 6/30/10 Total Debt / EBITDA Senior Debt / EBITDA Middle-Market Credit Statistics
  • 37. 37 ($ in thousands) 3.0x 4.0x 5.0x Valuation: TTM EBITDA $10,000 $10,000 $10,000 Valuation Multiple 5.0x 6.6x 8.3x Enterprise Value $49,816 $66,421 $83,026 Sources & Uses: Debt $30,000 $40,000 $50,000 Equity $19,816 $26,421 $33,026 Total Capitalization $49,816 $66,421 $83,026 Equity Returns with 7.5% Annual Growth 25.0% 25.0% 25.0% Equity Returns at $83MM Valuation with Less Debt 14.6% 19.0% 25.0% Required Annual Growth to Satisfy Min 25% Equity Returns 19.2% 13.8% 7.5% Total Leverage 2x Additional Leverage 67% Increase in Enterprise Value Use of Leverage in Recapitalization (Example)
  • 38. 38  Syndicated loans have decreased dramatically from the 2006/2007 time period.  The bond market, in particular the high-yield market, has rebounded strongly as investors are seeking higher yields in the historic low interest rate environment. U.S. High-Yield Debt Issuance ($ in billions) Source: Thomson Reuters ($ in billions)U.S. Syndicated Loans and Bonds $1,673 $1,687 $764 $531 $1,191 $137 $136 $648 $- $400 $800 $1,200 $1,600 $2,000 2006 2007 2008 2009 $inBillions SyndicatedLoans Bonds $34 $78 $57 $131 $138 $96 $146 $136 $43 $147 $104 $0 $20 $40 $60 $80 $100 $120 $140 $160 2000 2001 2002 2003 2004 2004 2006 2007 2008 2009 1H 2010 Debt Markets
  • 39. Mergers & AcquisitionsMergers & Acquisitions
  • 40. 40  Although larger transaction volume was down considerably in 2009, transaction volume began rebounding in the later months of the year and is up significantly through June 2010.  Overall, the lowest end of the middle-market showed the most strength in the 2nd half of 2009.  This trend has been primarily driven by the lack of syndicated financing for large size deals, making it easier to finance smaller middle-market deals. Sources: Dealogic and William Blair & Company U.S. Middle-Market M&A Activity 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2007-2009 % Change 6/30/09 YTD 6/30/10 YTD 6/30/09 - 6/30/10 YTD % Change < $50 MM 4,524 3,396 4,686 3,317 2,827 2,846 2,895 2,757 2,695 2,535 3,102 3,021 19.2% 1,531 2,487 62.4% $50-$250 MM 1,446 1,419 1,581 1,009 889 1,064 1,216 1,266 1,292 1,327 1,190 775 (41.6%) 341 494 44.9% $250-$750 MM 429 527 512 296 289 314 403 425 533 624 417 267 (57.2%) 107 192 79.4% Total Deals 6,399 5,342 6,779 4,622 4,005 4,224 4,514 4,448 4,520 4,486 4,709 4,063 (9.4%) 1,979 3,173 60.3% - 1,000 2,000 3,000 4,000 5,000 6,000 7,000 8,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 6/30/09 YTD 6/30/10 YTD #ofTransactions < $50 MM $50-$250 MM $250-$750 MM 60% Increase Middle-Market M&A Activity
  • 41. 41  During the first two quarters of 2010, the market displayed a heightened appetite for lower middle-market transactions as made evident by increased deal volumes.  M&A activity outlook over the next 6 to 12 months is expected to be positive due to: 1. Resurgence in financial sponsor activity (to avoid return of un-invested funds). 2. Corporations seeking growth through acquisitions. 3. Increasing Debt/EBITDA multiples. Sources: Dealogic and William Blair & Company U.S. M&A Activity ($ in Billions) $226 $181 $137 $157 $209 $274 $337 $353 $219 $209 $211 $159 $0 $50 $100 $150 $200 $250 $300 $350 $400 0 2,000 4,000 6,000 8,000 10,000 12,000 14,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 6/30/09 YTD 6/30/10 YTD AverageDealValue DealVolume > $750MM Middle-Market Undisclosed Average Deal Value 25% Decrease in Avg. Deal Value U.S. M&A Activity
  • 42. 42 Sources: William Blair & Company Valuation Multiple -- Strategic vs. Financial Buyers  EV/EBITDA multiples were driven up in 2007 because buyers were able to maintain targeted returns with the use of leverage.  The 2009 M&A environment saw tighter credit conditions which forced buyers to use higher equity contributions in transactions – lowering valuation multiples. Strategic Peak: 12.6x in Q3 2007 Financial Peak: 13.1x in Q4 2008 0.0x 2.0x 4.0x 6.0x 8.0x 10.0x 12.0x 14.0x Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2006 2007 2008 2009 Strategic Financial Strategic vs. Financial Buyers – Valuation Multiple
  • 43. 43 Sources: William Blair & Company, PitchBook % of M&A Deal Value -- Strategic vs. Financial Buyers  Strategic buyers have increased their acquisition activity relative to financial groups. 88% 88% 87% 82% 64% 81% 93% 95% 91% 12% 12% 13% 18% 36% 19% 7% 5% 9% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 2003 2004 2005 2006 2007 2008 2009 6/30/09 YTD 6/30/10 YTD Strategic Financial Strategic vs. Financial Buyers – M&A Activity
  • 44. ConclusionsConclusions
  • 45. 45 Representative Recent Transactions
  • 46. 46 U.S. economic challenges are structural vs. cyclical Deleveraging process takes time Formidable global competition Demographics Smaller is better Easier to finance Less “strategic” risk for buyer Less integration risk for buyer M&A activities (assuming no major economic shock) will accelerate Overhang of private equity Strategic buyers (with record amounts of cash) will need acquisitions to offset slower organic revenue growth Demographics Be prepared Easier to slow process down than speed process up React quicker to strategic or private equity inquiry Audits, management, ownership transfers Conclusions
  • 47. www.boyarmiller.com Real Estate Finance Thomas J. Melody – Jones Lang LaSalle Managing Director / Co-Head Capital Markets Real Estate Investment Banking
  • 48. US Debt & Equity September 2010
  • 49. • It’s all about the banks (50%) and CMBS (20%) • Significant gap between bid and asking prices • 80% reduction in transaction volume (institutional sales and financings) 2007-2010 • Loan defaults/delinquencies continue to increase • Delays in working through distressed situations, especially on large loans…restructures • Note Sales (performing/non-performing loans and auction process) are increasing How has the recession impacted the overall availability of capital for commercial real estate? Commercial Banks, 51% CMBS & CDO, 21% Life Companies, 9% Agency / GSE Portfolios, 9% State & Federal Gov’t, 5% Finance Companies, 5% REITs, 1% All Other, 2% $3.4 trillion
  • 50. Distressed property levels are high Net growth in level of outstanding troubled properties has at least temporarily stalled as lenders boost pace of workouts Source: Real Capital Analytics, Jones Lang LaSalle • Troubled deals are in “limbo”…owners cannot respond to tenants needs (new leases, TI’s, Commissions) • The Restructured loans are primarily short term solutions and not a “fix” • Financial Institutions do not want to foreclose $0 $25 $50 $75 $100 $125 $150 $175 $200 $225 Jan-08 Feb-08 Mar-08 Apr-08 May-08 Jun-08 Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 billions Troubled REO Restructured
  • 51. Deleveraging has forced recapitalization 2004 – 2007 • Value changes reflect NCREIF data (adjusted 4 quarters to account for the lag in the index) 2010 • 100% of the Equity & Mezz and $21.6 MM of the B-Note of the 2007 deal is wiped out, as prices return to 2004 levels • Borrower needs to invest 1.2x their original equity in order to refinance asset ADDITIONAL EQUITY TO REFI DEAL: $5.0 MM Source: Jones Lang LaSalle $160 MM $100 MM 2004 DEAL: $100.0 MM 2007 DEAL: $152.2 MM LOST VALUE: $52.2 MM EQUITY: $7.6 MM NEW EQUITY: $5.0 MM DEBT: $70.0 MM B-NOTE: $42.6 MM MEZZ: $22.8 MM EQUITY: $25.0 MM DEBT: $75.0 MM EQUITY: $25.0 MM A-NOTE: $79.2 MM LOST VALUE: $52.2 MM EQUITY: $7.6 MM NEW EQUITY: $5.0 MM DEBT: $70.0 MM B-NOTE: $42.6 MM MEZZ: $22.8 MM EQUITY: $25.0 MM DEBT: $75.0 MM EQUITY: $25.0 MM A-NOTE: $79.2 MM 2010 DEAL: $100.0 MM • Recapitalization is a loan restructure, refinance and/or sale… 2004-2010! • 35-40% value loss… depending when existing debt was placed, may not be possible to sell or refinance • The issue: “value” has been the problem, not capital availability… hard to sell or refinance • Today: “Tale of Two Cities”… Core assets in D.C., SF, NY, Boston and Houston faring very well thank you!
  • 52. Source: Morgan Stanley, MBA, FDIC, FFIEC, Intex, PPR, and Jones Lang LaSalle Commercial real estate debt maturities by lender Bank maturities dominate landscape and will be most challenged • There is about $1.5 trillion of debt maturing in the next 3 years, $1 billion of which is banks debt • Life Companies ($40 billion annually) and the GSE’s ($50 billion annually) will account for less than 20% • There will be no option other than foreclosure or loan restructuring/modification for many loans • GOOD NEWS: There is a lot of inexpensive debt/equity (L+ 250 or fixed at sub 6%) available with LTV up to 75% - 100 200 300 400 500 600 2010 2011 2012 2013 2014 ($Billions) Life Insurance Companies GSEs CMBS Others (including pension funds) Banks (construction loans) Banks (income-producing properties)
  • 53. How and why are loans being restructured? Source: Jones Lang LaSalle • Start the process of talking with lenders well before problems occur! • It depends on the lender: banks, life companies and CMBS (master/special servicers) • Success in restructuring/modifying loans depends on a number of factors: • Is the loan non-recourse or recourse? • Is the loan “current”? • How is the owner/sponsor viewed by the lender? • What is the owner/lender relationship (bank lines or one off)? • What is the owner/sponsor ability to “share in the pain”? • What is the “size” of the loan and “magnitude” of the problem? • Strategic Defaults: Borrowers with lots of cash option to default because it makes business sense
  • 54. • Cost of Capital: pricing is as aggressive as it has ever been with fixed rate loans as low as 3.5% (5 year term) and LIBOR floaters at L+175 • Leverage: debt levels up to 85% LTV…depends on product, sponsor and market • Capital Provides: • Life companies/pension funds: Met Life, Cornerstone, TIAA • German Banks: Deutsche Bank, West Immo, Helaba Bank • Domestic Banks: Wells Fargo, JP Morgan, Bank of America • Agencies: Fannie Mae and Freddie Mac, HUD • Private Equity Funds: Blackstone, Blackrock, Fortress • REITs: KBS, Starwood, Dividend Capital • CMBS: Goldman Sachs, Barclay’s, Morgan Stanley • Other: GE Capital, Mesa West, Apollo Who are the lenders?
  • 55. • Equity markets are “open” and off the sidelines…belief we are at the bottom • Low cost of capital (debt and equity) “drives” value • Roughly $250 billion of equity earmarked for real estate • Everyone chasing CORE assets in select markets, and “distressed” asset plays with very high yields and low cost per pound • Capital is tired of yielding less than 1% • Institutional equity moves in “herd mentality”, and the herd is moving What is happening in the equity markets?
  • 56. Source: Bloomberg, Jones Lang LaSalle 0 200 400 600 800 1,000 1,200 1,400 7/6/07 8/17/07 9/28/07 11/9/07 12/21/07 2/1/08 3/14/08 4/25/08 6/6/08 7/18/08 8/29/08 10/10/08 11/21/08 1/2/09 2/13/09 3/27/09 5/8/09 6/19/09 7/31/09 9/11/09 10/23/09 12/4/09 1/15/10 2/26/10 4/9/10 5/21/10 7/2/10 AAA 10-Year CMBS REIT Senior Debt A 10-Year Corporate Rational pricing returning to market • There has been a huge “spread” compression and this continues today • Concern: money gets impatient when it is not deployed…are investors investing to invest or is there good reason? • If spreads rise again there will be significant losses…cap rates definitely follow cost of debt • Bank of America recently claimed that the 10 year treasury will be around 1.75% for a couple years
  • 57. CMBS market slowly reemerging 2010 issuance already exceeds 2009 with several deals upcoming Source: Commercial Mortgage Alert, Jones Lang LaSalle; 2010 issuance is estimated • CMBS was the “engine” that drove the RE market • The banks and CMBS were part of an “assembly line”…CMBS stopped; the banks were left with the product • The CMBS engine is again starting • The deliverability of a CMBS loan is still less than other sources • “The light at the end of the tunnel”… Goldman’s bonds were over-subscribed and traded at spreads lower than expected • The emergence of new vintage CMBS results in the reduction in overall credit spreads • Delinquency rates, according to Trepp LLC, rose to almost 9% in July 2010, the highest rate in the history of the CMBS industry CMBS Issuance 1996 - 2010 $0 $23,500 $47,000 $70,500 $94,000 $117,500 $141,000 $164,500 $188,000 $211,500 $235,000 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 (millions)
  • 58. Commercial RE Transaction volumes down 89% in 2009 from peak Volumes through first half of 2010 are well ahead of 2009 pace Source: Real Capital Analytics, Jones Lang LaSalle • Still a “product-starved” market • Lots of debt and equity for CORE markets, stabilized product and/or great opportunities • The market needs balance which will happen when RE is in new hands of new ownership $0 $50 $100 $150 $200 $250 $300 $350 $400 $450 $500 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 TransactionVolumeinBillions
  • 59. Cap rates have returned to 2004/2005 range Outlook is for bifurcated market with primary markets leading the charge Source: Real Capital Analytics, Bloomberg, Jones Lang LaSalle • Cap rates are declining and are very low for the top markets and the CORE product • June 2010 market wide Cap rates were at 7.62%, well above the 6.39%of June 2007 • Note, there have been Cap rates/trades in the low 5% range & high 4% for CORE product • Not likely that Cap rates will drop much further for CORE but may for other product • RE fundamentals (consumer confidence and retail sales) declined in the second quarter 5.00% 5.50% 6.00% 6.50% 7.00% 7.50% 8.00% 8.50% 9.00% 9.50% 10.00% 10.50% Jan-01 Jul-01 Jan-02 Jul-02 Jan-03 Jul-03 Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Apartment Industrial Office Retail • Cap rates declined from 2001-2007, increasing RE value without improved fundamentals • Cap rates rose steadily over the past two years, however, we really do not know how high they went since very few trades
  • 60. Bank charge-off rates: commercial vs. residential Charge-off rates for CRE loans have now surpassed those at height of the S&L crisis Source: Federal Reserve, Jones Lang LaSalle • As you would suspect, “charge offs” with banks are climbing with increasing troubled assets • A “charge off” is the first step toward balancing the asset/building’s capital structure to reflect the current marketplace • Once this balancing occurs, the asset /building hold/sell/recapitalization decision is rational and “deal” will flow back into the marketplace 0.00 0.25 0.50 0.75 1.00 1.25 1.50 1.75 2.00 2.25 2.50 2.75 3.00 3.25 1991Q4 1992Q2 1992Q4 1993Q2 1993Q4 1994Q2 1994Q4 1995Q2 1995Q4 1996Q2 1996Q4 1997Q2 1997Q4 1998Q2 1998Q4 1999Q2 1999Q4 2000Q2 2000Q4 2001Q2 2001Q4 2002Q2 2002Q4 2003Q2 2003Q4 2004Q2 2004Q4 2005Q2 2005Q4 2006Q2 2006Q4 2007Q2 2007Q4 2008Q2 2008Q4 2009Q2 2009Q4 2010Q2 Overallcharge-offrate,allcommercialbanks(%) Residential Charge-Off Rate Commercial Charge-Off Rate
  • 61. • According to the WSJ (Sept. 1, 2010), more than 10% of US banks remain at risk of failure • Banks won’t sell until they have accumulated enough reserves to withstand the losses they will incur and stop “extending and pretending” • Small banks have more exposure to commercial RE with 40% of their bank loans • Until the FDIC and the OCC are comfortable that the banking system can withstand the losses, they will continue to kick the can down the road • Banks 2nd quarter profits totaled $22 billion, as compared to $4 billion in 2009…balance sheets have stabilized? • Banks are willing to sell “distressed” assets, non-performing notes and smaller unattractive REO since values have bounced back from their lows • The larger the loss, the longer the bank will try to extend • Banks are utilizing the “Auction” process (JLL/REOs) Source: July 2010 Commercial Markets: Publication 1941 When will banks begin to foreclose on their “broken” real estate loans and sell back to the market?
  • 62. Take Aways: Source: Federal Reserve, Jones Lang LaSalle • Lots of capital for stabilized RE • Declining fundamentals in second quarter • Increasing values have resulted from low cost of capital • Debt restructurings will continue • Banks will begin to sell more notes and take losses
  • 63. About Jones Lang LaSalle JLL is in business to develop enduring client relationships built on quality service, collaboration and trust. JLL creates and delivers real value for clients, shareholders and our own people. • JLL is a financial and professional services firm specializing in real estate services and investment management. • JLL has more than 30,000 people in 750 locations in 60 countries serve the local, regional and global real estate needs of clients. • JLL assembles teams of experts who deliver integrated services built on market insight and foresight, sound research and relevant market knowledge. • Real Estate Services: Agency Leasing, Consulting, Corporate Capital Markets, Investment Sales and Acquisitions, Real Estate Investment Banking, Project and Development Services, Property and Asset Management, Research, Tenant Representation, Valuation, Value Recovery Services
  • 64. About Jones Lang LaSalle Capital Markets JLL Capital Markets is a full-service global provider of capital solutions for real estate investors and occupiers • JLL has in-depth local market and global investor knowledge — whether a sale, financing, repositioning, advisory or recapitalization execution. • JLL Capital Markets completed more than $143 billion of transactions globally. In the last three years, JLL’s Capital Markets team comprises approximately 700 specialists, operating in 180 major markets worldwide.
  • 65. About JLL Real Estate Investment Banking (REIB) JLL REIB is a trusted advisor who helps owner clients navigate the capital markets in order to ensure that clients make informed decisions as it relates to best capital solutions • JLL REIB offers expertise in: • Debt and equity capital raising • Restructuring and recapitalization strategies • Distressed asset workouts • Valuation and strategic advisory • Programmatic and asset specific joint ventures • Equity “Fund” raising via JLL Securities • Note sales • Investment Sales • Auction capabilities • JLL REIB is headquartered in Houston with offices in New York, Washington D.C., Chicago, Los Angeles and Miami
  • 66. www.boyarmiller.com Commercial Banking Steve Stephens – Amegy Bank of Texas President
  • 67. 2010 Amegy Bank N.A. Member FDIC. • FINANCIAL REFORM ACT IS THE PRICE FOR GOVERNMENT SUPPORT YET A HINDRANCE TO GROWTH • MONEY TO LEND BUT LESS WILLING AND QUALIFIED TAKERS • SMART TO BE CAUTIOUS, DANGEROUS TO BE OVERLY PESSIMISTIC
  • 68. 2010 Amegy Bank N.A. Member FDIC. FINANCIAL REFORM ACT IS THE PRICE FOR GOVERNMENT SUPPORT YET A HINDRANCE TO GROWTH • The key implications of the Frank-Dodd Financial Reform Act are growth limits on the largest banks, less leveraging of industry, increased regulatory compliance burden, new consumer protection laws, and better FDIC insurance coverage. • Outside reform act, the national and state regulatory agencies continue to examine banks’ credit quality and require adequate capital and loss reserves. To date, the large banks have received the most scrutiny. • All banks are in various stages of recovery from credit problems. The good news is most banks have built up meaningful loss reserves from operations and capital markets to offset growing losses and resume lending.
  • 69. Dodd-Frank Wall Street Reform and Consumer Protection Act 2010 Amegy Bank N.A. Member FDIC. • New Financial Stability Oversite Council created • Designates “systemically important” financial companies - Automatic for all BHCs of $50+ B assets* - Non-bank financial companies specifically identified • Federal Reserve assesses “systemic regulation fees” * Includes off-balance sheet assets • Federal Reserve required to establish enhanced risk-based capital, leverage, liquidity, overall risk management requirements, credit exposure reporting for systemically important firms. - Must be more stringent than standards applicable to non- systemically important firms. - Fed is permitted to require “contingent capital” - Firms must have Resolution Plans (“Living Wills”) - Firms must have “Risk Committee of the Board Systemic Risk Regulation
  • 70. 2010 Amegy Bank N.A. Member FDIC. • Prohibits any banking entity from engaging in proprietary trading, or sponsoring or investing in a hedge fund or private equity fund. • Exceptions: - Treasuries, Agencies, Munis - Risk-mitigating hedging - Trades “on behalf of customers” - SBIC investments - Selling or securitizing loans • Establishes current bank capital standards as statutory “floors” • U.S. regulators could not implement any Basel III standards that are less stringent • Potentially higher capital requirements for firms with significant volumes of derivatives activity, securitized products, and assets for which reported values are model-based • Hybrid capital, e.g., trust preferred securities disallowed as Tier 1 capital for BHCs of >$15B in assets. Existing TRUPS phased out 2013-2016. The Volker Rule Bank Capital (Collins Amendment)
  • 71. 2010 Amegy Bank N.A. Member FDIC. • New Executive Compensation requirements – All Comp Committee members must be independent – Stricter determination of comp consultant independence – Pay and Performance disclosure: Disclose relationship between a company’s executive compensation actually paid and its financial performance – Internal Pay Equity disclosure: Disclose median compensation of all employees (ex-CEO) compared to CEO – Broker discretionary voting eliminated for directors, exec comp or any other “significant matter” as determined by SEC – Say on Pay and Say on Golden Parachutes: non-binding shareholder votes required – Clawback: required disclosure of incentive compensation based on publicly reported financial results, and pay clawback policies following restatement – Financial institutions: additional statutory compensation disclosures (appear to be similar to what already is required by TARP and Fed) Investor Protection
  • 72. 2010 Amegy Bank N.A. Member FDIC. • Assessment based on assets minus tangible equity, rather than deposits (shifts burden toward larger banks) • Minimum FDIC reserve ratio increased to 1.35% of insured deposits (up from 1.15%). • Effect of increased assessments must fall on banks larger than $10 B in assets. • Maximum deposit insurance amount permanently increased to $250,000. • Non-interest bearing transaction account balances fully insured up to any amount through 2012. • Counter-cyclical capital and leverage requirements: banking regulators must require higher capital in times of economic expansion and lower capital in times of economic contraction. • Expansion of nationwide deposit cap: 10% cap is now based on all insured depository institutions. • New liability concentration cap: No financial company can acquire another if its resulting total consolidated liabilities would exceed 10% of aggregate liabilities of all financial companies. • “Source of Strength” doctrine: now established by statute. FDIC Insurance Reforms Regulation of Bank...Institutions
  • 73. 2010 Amegy Bank N.A. Member FDIC. • New Federal agency with very broad powers and a substantial budget – Within the Federal Reserve, but completely autonomous – Exclusive rulemaking, examination and primary enforcement authority under Federal consumer financial law for banking organizations with assets > $10 B – For smaller institutions, prescribes rules, may participate in examinations, but has no enforcement authority – Budget = 10% of Fed’s total operating budget, plus an additional $200 million if the Bureau Director determines that it is inadequately funded • Rules may only be set aside by 2/3’s vote of 15 person Financial Stability Council (Chair is this Bureau is one of the 15) • OCC Federal preemption of state consumer laws is weakened. • States attorneys-general may bring civil action against national banks to enforce regulations prescribed by the Bureau • Bureau is authorized to prohibit or limit mandatory pre-dispute arbitration provisions Bureau of Consumer Financial Protection
  • 74. 2010 Amegy Bank N.A. Member FDIC. • Interchange fee regulation: Federal Reserve must prescribe regulations requiring that interchange transaction feed must be “reasonable and proportional to the cost of the card network’s expense for processing the transaction, include the cost of fraud to card issuers. • Paying interest on commercial DDA accounts will become legal. • Rating Agency ratings: appears to direct bank regulatory agencies to develop credit standards that do not reference rating agency ratings, but the summaries that we have are not clear. Other Notable Provisions
  • 75. 2010 Amegy Bank N.A. Member FDIC. All FDIC Insured Institutions
  • 76. 2010 Amegy Bank N.A. Member FDIC. Reserve Coverage Ratio* 2007-2010 *Loan-loss reserves to noncurrent loans. The industry's "coverage ratio" of reserves to noncurrent loans improved for a second consecutive quarter, from 64.9 percent to 65.1 percent, as the decline in noncurrent loans outpaced the reduction in loss reserves. All FDIC Insured Institutions
  • 77. 2010 Amegy Bank N.A. Member FDIC. MONEY TO LEND BUT LESS WILLING AND QUALIFIED TAKERS • Broad financial deleveraging combined with regulatory impact create significant loan and fee revenue pressure for banks. • Bank credit is contracting at an unprecedented 15% annual rate as lenders sit on a record $1.3 trillion of cash. • Banks are anxious to lend money. Yields on investment securities are unattractive and, contrary to public perception, it is punitive for banks to invest deposits in fed funds at .25% when their direct costs are well in excess of that. • Banks’ enthusiasm to lend is tempered by more restrictive underwriting tests to prove cash flow capacity to service debt.
  • 78. 2010 Amegy Bank N.A. Member FDIC. Problem C&I Loans by Market Segment Includes loans rated special mention, substandard, doubtful and loss
  • 79. 2010 Amegy Bank N.A. Member FDIC. • 707 financial institutions received TARP funds. • $245 billion in TARP funds were distributed to banks in FY2009. • Through May, 2010, TARP repayments totaled about $194 billion, surpassing the outstanding TARP funds by $4 billion. • The projected lifetime cost of the TARP program has decreased by $11.4 billion to $105.4 billion since the FY2011 President's Budget. Troubled Asset Relief Program (TARP) TARP Funds Loans Outstanding Loans Repaid $190 billion $194 billion
  • 80. 2010 Amegy Bank N.A. Member FDIC. Federal Deposit Insurance Corporation Equity Capital FDIC-Insured Commercial Banks United States (50 states and DC) Balances at Year End, 1966 - 2009 (Dollar amounts in thousands) $1,135,571,9237,2832007 $1,147,063,9447,0862008 $1,303,870,8216,8392009 Total Equity CapitalNo. of InstitutionsYear
  • 81. 2010 Amegy Bank N.A. Member FDIC. SMART TO BE CAUTIOUS, DANGEROUS TO BE OVERLY PESSIMISTIC • Unlike the 1980s, Houston is relatively well-positioned to withstand economic stress. Two of the primary reasons are a quicker rebound of energy prices in this cycle and a faster and more successful response by the business community to changing conditions. • Similar to the 1980s, Real Estate exposure is biggest concern in banks, yet better contained. • The business community must strive for a good balance between caution about the economy and confidence to invest and expand. Money velocity (the average frequency of money spent) must increase by private sector to avoid inflationary surplus money supply, or worse, a downward deflationary spiral.
  • 82. 2010 Amegy Bank N.A. Member FDIC.
  • 83. Questions & Answers