Charney Group Faces Squeeze on NY Offices

The owner of a heavily leveraged office building at 119 West 40th Street in Midtown Manhattan is facing a cash squeeze that could put the property in play.

The ownership group, led by investor Leon Charney, hasn't achieved the increases in rents and occupancy that it projected when it bought the property two years ago for $182 million. Now the group has almost burned through a reserve account set up to cover its mortgage payments, putting it at risk of default.

When the group purchased the 334,000-square-foot building - at the top of the real estate market - generous debt financing was readily available. Lenders were willing to value properties based on projected increases in rents and occupancy levels, rather than in-place levels. That inflated the amount of proceeds borrowers received. What's more, lenders often provided additional financing to cover expenses for upgrades.

As a result, buyers were often able to borrow most - or even all - of the purchase price. The Charney group, for example, lined up $182.3 million of fixed-rate financing: a $160 million senior mortgage that RBS securitized and a $22.3 million mezzanine loan from RBS and Wachovia. The mezzanine loan was sold in early 2008 at a discount, for $16.8 million, to a fund operated by Wien & Malkin of New York.

At acquisition, the Class-B property seemed to have plenty of upside. The occupancy rate was just 68% and rents averaged $21.95/sf, well below the average 92% occupancy rate and $56/sf average asking rent for comparable buildings at the time.

The senior mortgage was underwritten with the expectation that the Charney group, which planned to renovate the building, would be able to quadruple the cash flow, to $11.4 million from $2.8 million. But even though the occupancy level has risen to 92%, cash flow is projected to rise to only about $6 million this year, well below the $10 million needed to service the senior loan. At the same time, the Charney group has depleted all but $569,000 of a $10 million reserve set up to cover loan-payment shortfalls, according to a servicer report.

Complicating matters, Wells Fargo, the second-largest tenant, is vacating 62,000 sf at yearend. That will drop the occupancy rate to 73% if a replacement isn't found.

The senior mortgage, which doesn't mature until 2017, was transferred to special servicer CWCapital last month. Charney and his partners - Fortis Property of Brooklyn and George Comfort & Sons of New York - have begun discussing their options with CWCapital.

The Charney group, which didn't return calls seeking comment, may have to seek an equity partner or pursue an outright sale. If it defaults, it's possible mezzanine lender Wien & Malkin would move to foreclose. According to the servicer report, the mezzanine loan's reserve account had fallen last month to $970,000, from $3.5 million in 2007.

In addition to Wells, the tenants at the building, which is between Broadway and Avenue of the Americas, include Hampshire Designers (77,000 sf until 2022), USPA Accessories (31,000 sf until 2018), Kensington Publishing (25,000 sf until 2024) and Easton Associates (16,000 sf until 2019).

Kensington and Easton, each of which signed leases late last year, were given several months of free rent - a step once unheard of in Manhattan that has become commonplace in the past year. Kensington, which is paying $52/sf, received five months of free rent, through February. Easton, which is paying $53/sf, paid no rent for two months, through January.

The senior loan was securitized via a $6.9 billion transaction (GS Mortgage Securities Trust, 2007-GG10).

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