Last year, Diane Batayeh, CEO of Village Green, faced a situation that has become all too familiar to many apartment managers around the country.

The Southfield, Michigan-based apartment firm, the No. 35 apartment manager in the country, was operating a property in Chicago for an owner that turned out to be overleveraged with its bank. The owner — who Batayeh declined to name — was handling debt service payments outside of the typical process where the manager makes those payments from the property operating account, which gives it better visibility.

“This anomaly occurred when the owner insisted upon controlling that [process], which likely happened due to a change in the debt load and structure and a potential over-leverage situation outside of our visibility,” Batayeh said.

Eventually, the lender stepped in and took the asset back, bringing in its own operator to run the property. “We weren’t aware it was in trouble until late in the game,” she said.

Batayeh isn’t alone. Other managers have told Multifamily Dive they were blindsided when properties with high occupancies were foreclosed upon in recent months. With the multifamily distress rate rising to 13.3%, according to data firm CRED iQ, that trend seems likely to continue.

“I've had lots of conversations that people are on the edge,” said Woody Stone, president of Dallas-based Cushman & Wakefield Multifamily Asset Services, the No. 5 manager in the country. “I don't know how long they can hang here, but they're scrapping to figure out how to get through this and get to the other side.”

While even the best managers can be caught off guard when properties they operate struggle financially, there are often things they can do to identify problems and even help owners before they lose their properties to the bank. Here are five tips:

Vet clients carefully

Property management firms can learn a lot from the ownership group they work with long before they take the keys to the property. “It starts when you start the relationship,” said Ian Bingham, senior vice president of business development at Indianapolis-based operator Buckingham Companies.

When Bingham is vetting potential clients, he will ask about things like the terms of their loans and financial issues. “I'll ask the uncomfortable questions because I want to pre-qualify it and make sure that they're in a really good space to work with,” Bingham said.

At the same time, his accounting team checks the ownership group’s numbers and determines whether it has a stable capital structure. 

The global financial crisis of 2008 and its aftermath brought increased importance to that pre-qualification routine, Bingham said. “And, I’ve kept some of those habits with me just to make sure that pro formas are set in reality.”

For instance, if an ownership group budgets five years of rent growth without capital expenditures on the property, their expectations might not be realistic. “Those are big risks,” Bingham said. “So we always look to see if it is based on reality.”

Look for signs of trouble

If a property owner is having financial troubles due to loan issues, the manager is often, though not always, the first to know. 

“We don’t necessarily know the ins and outs, but we can see it on the financials when it’s not going well,” said one property management executive in the western U.S. who has lost properties and preferred not to be identified for fear of alienating clients. 

A real indicator of a potential problem is when an owner can't cover expenses to pay the property’s vendors, like painters and landscapers. “We definitely see when they start falling behind on vendor payments,” the western manager said. “We’re seeing situations where we’re not getting paid for managing, or they’re having a hard time covering payroll.”

On the other hand, hurrying to spend money on capital improvement projects, such as fixing roofs and renovating units, under a tight timeline can also be a sign of trouble, according to Bingham. 

“It can be a discreet red flag,” Bingham said. “It's not always the case. But typically, when they're in a rush to spend that money, it's because they're going to spend it or they're going to lose it.”

Provide financial counseling

Denver-based Atlas Real Estate manages for clients who own duplexes up to properties with 300 apartments. With 6,000 units under operation, the firm has bigger finance and accounting teams than many of its clients. This part of the organization often works with smaller clients, helping them understand basic loan structures. 

“We've spent time at the whiteboard with some of these folks, telling them what debt service coverage ratio means and why it matters,” said Tony Julianelle, CEO of Atlas Real Estate. “We can step in and help a little bit. At that point, you're just trying to make sure the operation is as clean and as crisp as it can be.”

Batayeh says her firm will also help clients become more efficient and cut costs. But maybe more importantly, Village Green has brought fresh equity to the table for struggling clients who needed capital.

“Many owners in that situation are looking to replace the general partner’s interest or come up with additional equity,” Batayeh said. “As long as the basics of the deal are sound — it's in a good market and has upside potential — it's just a matter of capital structure. We've been able to help in that manner.” 

If a manager would like to vouch for an ownership group, it’s not unprecedented for them to also go to the lender on behalf of their client. “We've absolutely gone in and said [to the lender], ‘This is the business plan,’” Bingham said. “‘Our operations team and our asset management team have reviewed this, and we do think it's achievable,’ and we're putting that stamp on it.”

Don’t be afraid to walk away

At a certain point, managing for an owner that can’t pay its bills requires extra energy that may be better spent elsewhere. 

“The surgical cash management that's happening right around being able to make the mortgage payment versus are we going to turn that unit versus are we going to paint or not paint is challenging,” Julianelle said. “We're a property management company. Our job is to lease units and make residents happy.”

Reputational risk is also a real concern when the apartment operator can’t pay the property’s vendors on behalf of the owner. To them, the asset and the operator are synonymous.

“You don't want to be known as the management company that doesn't pay its bills because the vendors, for the most part, aren't going to differentiate,” Bingham said. “They're not going to say, ‘Well, that was actually ABC owner. The management company pays its bills just fine.’” 

When bills aren’t being paid, it may be time to pull the escape hatch through a with-cause termination. The manager may be able to use language in their contract to force owners to raise money and commit to paying their bills on time investors to raise money and commit to paying their bills on time, according to Bingham. 

Be open to managing for the bank

It's not just banks that have been providing multifamily loans. Firms that offer mezzanine debt or preferred equity loans can also take over a property. And they can be even more aggressive than traditional lenders.

“The preferred equity or mezzanine debt guys can take a property back in one to two months, whereas a whole receivership process [through the bank] can take five or six,” Bingham said.

In some cases, these groups may be open to adding to their own portfolios through foreclosure, according to Bingham. “They certainly have a more appropriate skillset to run the asset,” Bingham said. 

However, if the bank forecloses on a property, it could also be an opportunity for the manager. Banks have been known to bring the manager on board if the property is operating well and has strong occupancy, according to Bingham. 

Working for a bank that doesn’t want to hold a property for the long term may not be the ideal solution for managers. But it’s certainly not a bad option. “We're not in the business of trying to lose properties,” Bingham said. “If we can hold on to it, that's certainly ideal for us.”

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