Crowning Achievement to Disastrous Loss

"Crowning Achievement to Disastrous Loss,"

September 14, 2001, CoStar Group News, by Tim Trainor


Developer Larry Silverstein vows to rebuild, but path is strewn with legal and financial obstacles

For Larry Silverstein and his company, Silverstein Properties, the twin towers of the World Trade Center represented the crowning achievement of a long and distinguished career among Manhattan's elite community of developers.

This past July, the 70-year-old stood in triumph after besting several much-bigger rivals to lead the investment group that purchased a 99-year lease for the World Trade Center complex from the Port Authority of New York and New Jersey for an astounding $3.2 billion.

"This is a dream come true," Silverstein said in a statement at the time. "We will be in control of a prized asset. There is nothing like it in the world."

But after Tuesday, the buildings and his investment lay in ruins. Silverstein, who told the Wall Street Journal that four of his employees remain missing after the attack, said he is focusing on the rescue efforts and helping the victims of the tragedy before even considering the enormous legal and financial issues facing the developer.

Through a spokesperson, Silverstein declined to comment, but in the Wall Street Journal interview, Silverstein sounded undaunted. He said his lease was insured against acts of terrorism and he is determined to help rebuild the trade center site as well as 7 World Trade Center, a neighboring office tower Silverstein owned on land he leased from the Port Authority that also collapsed in the attack.

"It would be the tragedy of tragedies not to rebuild this part of New York," Silverstein said. "It would give the terrorists the victory they seek"

A Potential Legal and Financial Firestorm

It is clear, however, that once we have come to terms with the loss and dealt with our grief, a legal and financial challenge every bit as daunting as the clean-up operation for the mountain of rubble left after the attack face those with ownership or financial ties to the two former towers.

Real estate lawyers we consulted said that typically the leaseholder in a long-term lease agreement such as Silverstein's retains control over the site in the event the building is destroyed by a fire or a construction collapse. The leaseholder is free to pursue construction financing and rebuild the project.

However, such agreements also include provisions under which either party, the leaseholder or property owner, may cancel the agreement, if certain contingencies are met.

Another consideration is time. It would take a minimum of three years to design and rebuild a complex the size and scope of the World Trade Center. And each year that goes by without rental income makes it more difficult to finance because investors have fewer years over which to recoup their investment.

Meanwhile, it is the lender who has the right to any insurance proceeds in such a situation, said real estate attorneys. If any proceeds from insurance claims are left after satisfying all mortgage obligations, they may be divided among any other investors, including the leaseholder.

"Of course the Trade Center is a very complex and special situation, involving possible Acts of War exclusions and the federal government potentially stepping in (with financial aid). All of which makes it extremely difficult to speculate," cautioned Wayne Tatusko, a partner in the McLean, VA office of Watt Tieder Hoffar & Fitzgerald and one of the experts consulted for this article.

A Complex Agreement for a Complex Property

According to records, Silverstein's investment group finalized lease negotiations with the Port Authority and entered into 99-year net leases for World Trade Centers One, Two, Four, and Five on July 24, 2001. Silverstein created separate bankruptcy, remote single purpose entities (SPEs) to hold its leasehold interests. Westfield America, Inc., also formed an SPE for its net lease of the retail components of the trade center.

Under the agreement, the Port Authority was to collect a $616 million up-front fee from the lessees, plus an annual base rent that increases over time but started at $102 million, as well as a percentage of gross revenues from the net leased properties, additional base rentals, and certain payments-in-lieu of taxes.

At the time of the agreement, GMAC Commercial Mortgage, a unit of General Motors Acceptance Corp. (GMAC), the finance arm of General Motors, agreed to provide $833 million in first mortgage financing and options for mezzanine financing, for a total potential investment of up to $1.3 billion.

Over the summer, GMAC Commercial Mortgage and Bank of America issued nearly $1 billion in bonds to finance or buy commercial mortgage loans connected to the World Trade Center.

Reuters quoted a GMAC Commercial spokesperson saying the GMAC affiliate ended up lending $763 million to the Silverstein investor group, of which $563 million was first-lien mortgages and bundled as collateral for bonds. The rest were mezzanine loans that were not converted into securities, and will likely be covered by insurance for the property.

Insurance for the properties backing the GMAC commercial mortgage bonds has provisions to cover acts of terrorism, said the spokesperson. But it wasn't clear whether similar insurance protection existed for the $383 million commercial mortgage bonds issued by Bank of America. According to sales materials, proceeds for those bonds were used to buy the outstanding debt on the World Trade Center buildings, not equity interests, Reuters reported.

Investors who bought bonds secured by mortgage loans for the damaged World Trade Center will likely recover at least a portion of their money from insurance claims. But experts said it would take months, or even years, to review all the financial issues connected to what will easily become the most-expensive man-made insurance claim.

Catherine J. Weatherford, executive vice president of the National Association of Insurance Commissioners, said it is too early to tell what the financial impact of this tragedy will have on the insurance industry. A disaster of this magnitude has never occurred in the history of American civilization, she said. However, early loss estimates are in the $10 billion range.

Beyond the $2 billion property value of the World Trade Center itself, large-sized claims are expected to emerge for the tens of billions of dollars in revenue lost by the corporations, airlines and financial services firms shut down by the attack.

The reinsurance market, which essentially insures the primary insurance firms for extraordinary claims, will bear much of the financial loss. Despite their enormity, Weatherford doubts claims resulting from the attack will put any single insurer out of business.

"America's insurance companies have time and again shown their ability to respond to and recover from other significant disasters," Weatherford said.

"Policyholders can rest assured knowing that the insurance industry in the United States is an $850 billion industry with assets of over $3 trillion. We have every confidence companies have the financial ability to keep the promises they've made to their policyholders in this instance."

Any insurance claims involving the World Trade Center disaster are further complicated by Acts of War exclusions and a strong effort expected from the insurance industry to make the federal government to play a central role in the financial recovery.

Robert Hartwig, an economist with the Insurance Information Institute, an industry trade group, said he plans to encourage and work closely with federal officials, along with the city and state of New York and private investors, to help rebuild the financial district.

"We're really looking at a Marshall Plan for Manhattan," Hartwig said.