Outside Erie

16 Responses to “An Erie Manufacturer Needs a Miracle”

1. john morris
   December 2nd, 2008 at 11:48 am

   I was involved in a few of the projects in the depressed mill town of Braddock, outside of Pittsburgh. The title issue is a huge one. It seemed like one was lucky if 10% of the major properties along it’s main st were clear of debts. This went on for years, and sadly resulted in the loss of most of the town’s valuable structures. Now there are artists and other people interested but most of the town is gone and the title problem still remains.

   Good luck with this.

2. George Vietze
   December 2nd, 2008 at 11:09 pm

   The facts as explained need more clarification before a proposal for a solution can be suggested.

   You mentioned that you have a proposed sale of the building. You also mentioned that the debt exceeds the value of the proposed sale and therefore you cannot give free and clear title. You do not mentioned if all the debt is secured against the building or is some of the debt owned to creditors, and if so, is any of that debt unsecured and not collateralized against the building. Assuming all the debt to all the creditors is against the building is the debt in the form of a mortgage debt and are they more than one mortgage?

   If the sale of the building is for just the building only and does not include any of the other assets of the business, at all, and the only debt is the first mortgage, does that mortgage exceed the proposed sale price? You also don’t mention if the mortgage is current.

   Assuming the debt on the building alone exceeds the sale price, is that price close enough to the debt where the mortgage holder may be willing to accept less than the debt to avoid foreclosure? If the sales price exceeds the debt on the building which is secured by a first mortgage but does not exceed a second or third mortgage or is any of the debt you describe unsecured creditors? Are other assets of the business being sold other than the building? Another question involve personal guarantees which leave the question of what happens if all the debts are not paid, is there a matter of resolving any agreements for “personal guarantees” for any deficiency.

   The first approach, assumming the debt on the building is higher than the sales price is whether the lender is in a position to accept the sales price in lieu of foreclosure and waive the balance of the debt.
   That might make sense in todays economy if the lender thinks he can not sell the building after foreclosure for more than the sales price of your buyer. If there is a second mortgage, the first mortgage could foreclose the second or third mortgage and if the sales price is high enough the first mortage may accept the sale, subject to the foreclosure being successfull. There is always a chance the second or third mortgage may want to buy the building, the problem you might have is outstanding personal guarantees, if any, may leave you obligated for any deficiency.

   If the buyer has financing lined up or enough cash to purchase the building at a foreclosure sale, if the lenders won’t accept his sales contract presents another scenerio. A Chapter 11, which allows for a re-organization plan, using a sales contract from your buyer as part of the re-organization plan and the Bancruptcy Judge could be helpful in
   getting the lenders to accept the sale. Are there other assets, for example, equipment, is the debt on the equipment collaterized against the building or just the equipment? All these questions are important as well as other facts. If you want to discuss them on this forum that is up to you, if you want a private discussion, Peter can supply you with my email. I am assuming at this point you have attorneys and accountants who are advising you and not sure exactly what you are
   trying to accomplish except you are trying to figure a way to sell the building for less than the debt owned, as you can see, without those questions being answered it is difficult to come up with a solution.

3. Jim
   December 3rd, 2008 at 7:19 am

   I submit that this is another in a long line of unintended consequences relative to the county reassessment several years ago. That action eliminated a lot of credit equity in commercial and industrial properties, and the resulting financing problems similar to this example have been around ever since.

   I had the opportunity to attend a Speakers Forum put on by the Pennsylvania Speaker of the House at Gannon a couple years ago, and listened as an area manufacturer went through the numbers, as it affected his business, and credit.

   The inability to secure financing for these types of deals has been with us in Erie long before this latest financial meltdown. Unfortunately, we have done nothing to address the problem. Actually, we have proposed making it worse, through spot assessments, and a proposal to continually reassess. What I find so frustrating is the absolute lack of understanding of how the issue impacts property values, credit equity, and the ability to market and finance properties that have suddenly found themselves worth 25 to 30 % less, and in most cases no longer worth their construction costs. Look at how that impacted the Parade Street project as just one example.

4. George Vietze
   December 3rd, 2008 at 10:55 am

   Real estate is worth what a willing buyer and willing seller are willing to contract for and a lower assessment value than that price would make the real estate taxes LOWER than would otherwise been the case if the assessment matched the market value, thereby enhancing the ability to sell the property. A distress sale or a distressed credit market would effect market value, which in the subject case both circumstances wouldd effect the market value. If a building has a user occupant and that occupant is willing to sign a binding lease as in a commercial property one approach to value would be the income approach and the capitalization of value based upon the amount of the lease and the credit of the tenant, again existing lower assessed value would not effect the market value but the new sales price might effect the assessed value. As the demand for these properties increase, which has nothing to do with the current assessment, these properties will become opportunities because as you mentioned, some of these properties could not be reproduced at today’s cost, but the problem is MARKET DEMAND not assessed value. When I check lots for sale in the area of the new convention center most of the listed prices in the area substantially increased, again, based upon the demand that the convention center and Bayfront Plan will have on the area. The lack of existing financing because of the credit crisis could have more to do with the ability or inability to make a successful sale than the assessed value. One option to look at is to lease the building to the prospective tenant or owner until mortgage liquidity is more available, again, not effected by assessed value, the lender would look more at the credit value and income value of the leased than assessed value.

5. Jim
   December 3rd, 2008 at 2:25 pm

   I realize that real estate is your game, but, when credit equity is limited to a rule of thumb of 80% of the assessed value of the property, when you reassess a property from say $60.00 a square foot down to $45.00 a square foot, you dramatically reduce the credit equity in the property. Now what you agree to buy or sell a property for is one thing, but what local lenders are willing to finance is another matter entirely. I highly doubt you would have much luck trying to finance the purchase of an Erie industrial property if looking for a credit line equal to 80% of the pre assessment value. And the tax savings offered at those percentages would require a quarter century or more to make up in tax savings an amount equal to the lost credit equity. Makes expansion as difficult as resale of a property.

   And expansion is my concern here. I fail to see how we are ever going to attract new business, at least enough to provide any meaningful change in our economic circumstance. However, the expansion of existing business, so long as they can access and afford the necessary expansion financing is in my opinion where we should be concentrating our efforts.

   I agree with you regarding the option of leasing, if the lease is sufficient to cover any existing property debt service. Unfortunately, in Erie in many instances, the leases only cover between half and three quarters of those costs. So where does the rest of the money come from. In Erie, unfortunately, the answer is; it doesn’t, and you end up with what happened on Parade Street, to an extent Koehler, the original McGarvey plans for the Mercantile Building, and on and on.

   One other problem I see is that the demand for these properties is waning not increasing. We have essentially no demand, and a lot of inventory of declining value to absorb. As we have demonstrated on numerous occasions, it is seldom profitable to recycle these older properties, and where it has been done, it has required large amounts of tax dollars to make it work.

6. George Vietze
   December 3rd, 2008 at 6:37 pm

   Jim, you premise and assumption that credit equity is calculated on 80% of assessed value in not correct. It is calculated on 80% of Market Value as determined by an Appraisal. Assessed value is supposed to represent market value but many times it is either higher or lower than market value depending upon the circumstances. Currently in a lot of markets assessed value is higher than the current market value because of the current extraordinary economic current conditions.
   Many owners should look at challenging the current assessment value if the market value is currently significantly different.

   Please check with any finance officer of any financial institution that loans money on real estate to confirm that credit equity is not figured on assessement value unless that value is the same as Market Value which in most cases is different than assessed value.

7. anonymous
   December 3rd, 2008 at 7:01 pm

   Any new lender coming in to refinance this building will not finance 80% of assessed value. Realistically, a new lender will lend 60-70% of “liquidation” value.

   Some ideas:

   Raise the purchase price and take back some paper.

   Start a private business incubator. Erie needs one. Lease it out to multiple entreprenuers who are willing to pay a reduced rent for services and space in exchange for a minority interest in their new business ventures.

   You may want to do an out of court work-out with the bank and creditors. Do you really think the bank will take the building back? With the problem real estate loans in their portfolio, be assured they do not want to the building back.

   Keep the lawyers and accountants out. If they put you into a Chapt. 11, keep in mind less than 5% of all companies come out. They are liquidated and the only one who benefits is them.

8. TJ
   December 4th, 2008 at 1:34 am

   Mr. Hrnonas,

   Did you ever consider opening a business overseas? Would you be able to re-extend your expertise into the industry if you had access to lower cost labor/inputs?

   Surely, over the period of time that you existed, you had a sound client base and probably still have access to them. If I were you, I may consider contacting someone overseas that could benefit from your knowledge of the market and industry and possible any proprietary technology you developed. It would be better than the alternatives you are facing. Try to develop a strategic relationship that will enable you to use the space and your equipment.

   Did you look at all the common needs of your customers and seek synergies between their needs and your production capabilities? If not, go back and look for a common need between them that you may be able to meet.

   Some industries that are doing extremely well are plastic packaging (bags/films) and carbon fiber. Perhaps there is something in these that you could do with your current assets?

   The last bit of advice I have is: customers evolve. Make sure you evolve with them. If the industry is dying and you’re not changing, jump from the ship.

9. Jim
   December 4th, 2008 at 7:39 am

   George I really hate to disagree, but if you take an independent assessment of a property for sale at a price in excess of the assessed value, and the assessment agrees with the asking price, and lets say it is 30% above the assessed value of the property, I suggest you will not be able to easily put together financing for that property with only 20% down. Not in Erie. A whole host of problems will be immediately identified with the arrangement, and you would be lucky to find 50% from local lenders. Less of there was any existing debt service on the property.

   I have seen far to many small businesses in Erie fail in attempts to secure financing to expand, either in their physical space or in terms of adding technology to their businesses. And one thing I have consistently notices, is the shortfall in financing always seems to run in the 30% to 50% short range of making a project go. In those cases the businesses either have to take on outside partnerships, or some other dilution of ownership has to occur to make the growth happen. In most cases, the original owner comes out of the process owning a smaller percentage than he did going in, the business is sold outright, or goes out of business all together. In forty years in business here, I can recount a number of examples of former subcontractors, with stories to reinforce my opinions. I have personally assisted in a couple instances over the years. My point is, traditional lending sources do not meet the credit demand here, and haven’t for year, actually decades.

   Unfortunately, I have to agree with anonymous regarding his comment on the financing of “liquidation” value. I’ve seen it. But it is essentially an arbitrary number, at least in the cases I am aware of, and in those cases the real estate transfered ownership, which may have been the primary objective, but the properties never were as productive again.

10. George Vietze
    December 4th, 2008 at 1:57 pm

    Jim the assessed value of the property is NOT the criteria a bank looks at when making a loan. It is the appraised value of the property. That appraised value includes the existing “use” of the property and an evaluation of the future use, if the existing use, is no longer valid. A single purpose facility may not appraise as much as a multi-purpose building if that “single” purpose is not supported by market conditions or estimates of that market in the future. Erie’s older manufacturing facilities may have been considered “single” purpose (manufacturing)
    unless significant remodeling was done to change that use, in some cases that cost could not be justified given market conditions. My point is that MARKET VALUE may be significantly different than assessed value used to assess real estate taxes. Banks are in the business of making loans but good underwriting requires them to make “good” loans, they are not in the business of sharing the business risk with borrowers or subsidizing that risk. I am sure that some of the examples you have given were not able to receive the financing they sought from the local banks but if the banks were presented with a “viable” package that met with the underwriting criteria of the banks they could have received a loan. You are assuming that the local banks had some bias against loaning in the Erie area, I suggest it was not a bias but an assessment of risk based upon ALL THE FACTS that some of these loans were not acceptable. For example, if a manufacturing building was offered for collateral for a manufacturing company and that company was a “owner tenant” or occupant any financial institution would weigh the financial strength of that company to honor the financial commitment to occupy the building. If a company had a strong balance sheet with ADEQUATE CAPITAL to stay in business, those facts would be evaluated. Under capitalization is the single biggest risk of being in business, the banks are not going to take on normal business uderwriting criteria for companies that are undercapitalized and therefore require MORE EQUITY. GE for example with a strong balance sheet attracts more liberal underwiriting than Ma & Pa Jones who want to buy a building and run a business but have a weak balance sheet. This criteria can range from 0-100 in each diffferent circumstance, and just to say the Erie local banks have not provided financing using customary underwriting requirements for manufacturing companies and other ventures is a testament to the quality of their underwriting departments, unlike the “subprime” mess we are currently in .

    My personal experience, coming from California, and dealing with a local bank, NW Savings in Erie, was extremely positive and financing was made available at competive rates and without going into all the details it was conservative but worked for both parties, but the banks do not just look at collateral, they look at market conditions, method of repayment, credit history, working capital and the history of the borrower
    amongst other factors. So to say all these projects got turned down because the local banks do not want to lend on Erie projects is difficult for me to evaluate without knowing the collateral involved, the financial strength of the borrowers, market conditions at that time etc.,
    Current times, even strong borrowers are not able to get financing with the current credit conditions. Most of the time, good projects get financied and weaker projects either do not get financed or require MORE EQUITY before financing is available.

11. Jim
    December 4th, 2008 at 3:06 pm

    My point is, Erie County was sold a bill of goods by the city, when they succeeded in convincing the county that reassessment was a “fair” thing to do because the city was up against their municipal taxing limit.

    Pennsylvania, with its 67 counties, has 67 different assessment processes, none of which necessarily match, or assess property at anywhere near market values. It is done to get around millage limits municipalities have set for them by the state.

    In our case, in the supposed name of economic development, the reassessment formula had the effect of lowering assessments on industrial and commercial properties, and dramatically increasing them on residential properties, essentially shifting more of the cost of government onto the residential property owner, with the supposed benefit to business and economic development being reduced industrial and commercial real estate tax obligations. You will play hell getting those who were then in the know to admit their intentions, but if you want to illustrate the impact, go look up pre and post assessments on properties like the Erie Times and Erie Insurance, and consider who had to make up that tax difference.

    Some of these properties lost hundreds of thousands of dollars in assessed value, which reduced their annual tax obligation, but it would take up to 27 years to accumulate tax savings equal to the lost equity.

    Where this is of importance is for businesses carrying an encumbrance on a property, and looking to refinance to expand, or add on to the facility. If the appraisal done for the refinancing loan is out of line with the assessment, in other words, 30 to 40% higher than the assessed value, I maintain in Erie you are going to have an extremely hard time getting the necessary financing to make the project happen. The bottom line is that in the financing world, the lower number will be used, not the higher. In this case the assessment number will overtake the appraisal number, and the loan denied.

    I submit it is one reason we have seen some relatively major properties sell off, and then release the property, or decide to leave town, as Steris did. There have been a number of owner occupied properties in the metropolitan area that have sold out to third party owners, then leased back a subdivided portion of the same building to continue operations. So the argument that the reduced property tax was an incentive does not work, or apply.

    I agree that currently even strong borrowers are finding it next to impossible to secure financing. But in Erie, viable projects have been unable to secure adequate financing for decades, and we have had a credit crises here, managed by lender managements outside the area, setting portfolio limits we all have to live with. Part of that calculation is how much lending is local money, in essence how much risk is the local community assuming. Since Erie lags the national average by roughly 20% in wealth creation, the local risk is lower, and out of town banks will only bring a predetermined amount of out of town money in to risk on local loans.

    Like it or not, local decisions on setting tax rates using artificial assessment values, and lack of wealth creation within the community do negatively impact available credit for business development and expansion. All I am saying is that we should come to grips with that fact and start finding ways of addressing it, to help our local businesses gain access to the credit they need to grow, or embrace new markets. Makes much more sense to me than sitting back waiting for someone to decide to relocate jobs to Erie. We’ve been doing that for 30 to 40 years. I maintain that hasn’t worked out too well.

12. George Vietze
    December 4th, 2008 at 9:58 pm

    Jim, using your assumption that lowering assessed value on commercial and industrial properties actually lowered the market value of those properties is hard to understand because the definition of MARKET VALUE, as defined by MAI Appraisals used by almost all lending institutions do not use Assessed Value in determining Market Value of property, they use COMPARABLE SALES, ECONOMIC VALUES, COST APPROACH and generally accepted method of determining market value, none of which use assessed value. They mention the assessed value when referring to the real estate taxes levied upon properties but not as a method of determining value.
    That does not mean than any particular banker looking at the assessed value and thinking that the Tax Authorities use the assessed value as a “value of the property” and calculate equity based upon assessed value would indicate to me a lack of understanding of the determination of market value.

    I believe when they lowered the assessed value on business and industrial property and raised the assessment value of residential property as a way of enticing businesses with lower property taxes they did that to attract business but the market conditions at that time in Erie for business property and industrial property were not favorable and that MARKET conditions caused the reduction in equity value not the assessed value which is used to determine real estate tax value. There are properties in Erie as you mentiioned buildings owned by viable businesses like Erie Times building and Erie Insurance building, and I only iuse these because you used them in your example and I have not verified those facts, but if those assessed value represent true value or market value, try to purchase those properties for that value. There are many, many discrepancies in every municipality of assessed value to MARKET VALUE and most investors, bankers or real estate people know the diifference. I would rather purchase a commercial building with a significantly lower assessed value because using the Income Approach when determining value it would show a lower real estate tax than would otherwise be the case if the MARKET VALUE was higher, thereby showing more net income and thereby INCREASING THE VALUE, not lowering the value.
    Jim, I am not trying to convince you, because we have had this conversation in another post, but please check this out with people you khow and trust that actually work in the field of making loans on real estate before you start disseminating information that the lowering of assessed value on business property and industrial and manufacturing property was the reason that bankers did not provide financing to otherwise viable borrowers because it sheds a bad light on Erie’s local banking community because it sounds as if they were bias against lending locally which makes no sense to me, the fact that they lent money to other projects is because those projects demonstrated a better investment of their funds based upon economics not the fact that they were not in Erie, its the economics of the project that make an investment safe.

    You are a great commenter and add value to this forum and we do not have to all agree on everything or anything but this is an important point because it is a negative slant that the Erie financing institutions have been holding back the economic growth of this area when a major part of the reason I moved here was that the local banks were very community minded and relationship banking in most other places start with “What can you do for me today, not how long a relationship you have had with the bank or financing institution.” I find that a rare opportunity and I am a relative newcomer to the area with a far different experience than you are trying to convey to this audience. I am not saying that every project you referred did or did not qualify or should or should not have been granted a loan, I do not have the information of all the lending package and neither do you but to jump to the conclusion that the local financing institutions were overly critical of Erie projects and favored other locations more than likley had more to do with the MARKET conditions in Erie and the qualifications of the applicants than a bias of not making loans to Erie companies for some undisclosed reason or bias. Not making a loan because the financial institution underwriting department did not believe it was a safe investment, as long as that criteria was used fairly for all borrowers is why I leave my money in Erie banks, because they make safe loans and treat customers as customers not account numbers.

13. Jim
    December 5th, 2008 at 7:56 am

    I really wish you would have had the opportunity to see the presentation at the Speakers Forum at Gannon a couple years ago. The job that Mr. Hoover did in going through the ramifications of reassessment on financing was absolutely astounding. He had facts and figures to support what he was presenting, backed up with documentation from banks and economic development programs. It was an eye opening presentation, by an individual operating two companies in this region, employing I think well over 100 people.

    All I am saying is that we need a collective better understanding of what is necessary to provide, and just as important maintain those job opportunities here.

14. George Vietze
    December 5th, 2008 at 11:08 am

    Jim, if the law provides that assessed value represent 100%of market value and the tax authorities re-assess property value and dramaticaly lower assessed value on business property and industrial property I could see how a case could be made that the new assessment value then reflected the current market value and thereby cause financial institutions to reflect that market change, provided that comparable sales and other data supported that change in value. If the taxing authority lowered the assessment dramatically on business and industrial property as an incentive to attract business and industry and to balance the real estate tax roles by increasing the assessment on residential property then the new assessement on business property was in effect being subsidized by residential property then the financial institutions and everyone else should have been put on notice. A number of things could have been at work, one, the law could have provided for tax appraisals to be 100% of market value but the political situation allowed that business properties be evaluated at a lower value and emphasis a higher value on residential, regardless of the law. In that case, some bankers could or would not give a higher value than the assessed value because the law provided that amount to be market value and thereby causing the problem you elude to. Most real estate people know the disconnect of assessed value to true makret value for a lot of different reasons, in a small town such as Erie, business and industrial interests have usually more political connections than the average resident but the same people who own business property also own houses. It might be interesting to check the assessed value of the “important” people in the Erie area and compare there assessed value with other comparable property, if Erie is like most other cities and towns a great number of inconsistencies would be discovered, market value and appraisal value is fairly subjective and comparable value can be flexible, it is not an exact science and when you add the political angle things can get pretty out of whack. I am not saying a major re-assessment had no effect of the way financial institutions looked at value just that many other factors go into the decision of making or not making a loan and one could build a case that the main reason was the lowering of the values alone was the main reason but more than likely it had more to do with market conditions and the financial strengh of the project and the specific borrowers than just the lower assessment value.

    I am not suggesting that a study by made of the assessed value on the property of anyone, that has been done in many places, hundreds of discrepancies can be determined but there are so many reasons that values can and will be different as there are people who view these properties. Nothing will change, it will always be the case that everyone else has a lower value than you on comparable property when it come times to pay real estate taxes and when it comes time to sell the property everyone has a higher value than you, it is all in the eyes of the beholder and who controls the pencil.

15. annonymous
    December 6th, 2008 at 9:00 pm

    TJ: You totally missed the point. We are talking about using all empty buldings in Erie to build back up the tax base and help local entreprenuers lower their up front start-up costs. Since 90% of all businesses fail within the first 3 years, this would lower the risk.

16. TJ
    December 8th, 2008 at 10:58 pm

    Hi annonymous,

    The point of the story is that a business with skills is going to die. Rather than waste the skills and reduce the income tax base, he could opt to sell his knowledge or expand his market reach.

    Here is how I see it: he is faced with competition that is endowed with a critical resource that creates a competitive advantage that cannot be overcome with the way he is currently operating. Technology has standardized quality and his former advantage was technology/quality. He must change or choose to close. His ability to compete now resides in another resource he has control over and that is knowledge.

    You are right that 90% of businesses die within the first three years but the distinguishing characteristic of those business is that more than 95% of those are restaurants. The failure rate of manufacturing is very low over the short term. Long term though, a lack of change (evolution) kills everyone.