Crisis-hit property sees boom in insolvency

Unsold real estate projects are bringing down their developers in Romania. But is the choice of insolvency an oxygen bubble or a delay of the inevitable? Corina Ilie reports

March 2010 - From the Print Edition

Unable to pay wages to employees and bills and debts to the creditors, 3,600 companies in Romania’s real estate development and construction market entered into insolvency last year.
A collapse in sales, mostly on the residential market, put developers with important investments and ongoing projects in Romania on pause, in the hope they can reorganise their companies, or risk going bust.
Big names such as European Future Group (EFG), Mivan-Kier, Ozer Construction, Copper Beech and Plus Development all entered insolvency in 2009.
British company EFG set its sights high - aiming to develop a small town project in Buftea, Ilfov county, as part of 2.5 billion Euro in investments planned for Romania’s residential, offices and retail markets.
Now EFG has sold four of its projects to Austrian equity fund Immoeast, its partner in the projects, and is liquidating its assets in Romania. The company started feeling the first effects of the fall in December 2008.
“Investments in the real estate market started falling, investors started withdrawing from the projects and we, as a management company, would no longer receive our fees, so we went bankrupt,” says Jeff Kirby, owner of 50 per cent of EFG and its CEO. “Now we are completing all the legal procedures and closing the business in Romania.”
Kirby says that once the liquidation procedures is over, he will start a new business in Romania or in another country in the region.
“The real estate market was growing very fast in 2007 and 2008, so we made a lot of money very quickly” he says. “Our turnover reached 60 million Euro in only four years and this is why I think the fall was so dramatic.”
Irish company Mivan-Kier, developer of the Rahova-based mall Liberty Center and with a plan to create ten Tiago-branded malls in Romania, has entered into insolvency. This business joins Turkish developers Ozer Construction, which has a residential project in mountain resort Sinaia, Plus Development, the developer of Bucharest’s complex My Dream Residence on Soseaua Pipera-Tunari, and Indian company Copper Beach, an investor in the block of flats Blue Tower in the capital’s Colentina neighbourhood.
Cefin Real Estate Alpha, part of Cefin Group, the developer of the 270 apartment complex Cortina Residence in the Herastrau area, also entered insolvency.
“We had to declare the insolvency of the project as our partner, American investment fund Heitman, which owned 75 per cent of the project, withdrew and we did not have enough financing to continue the development,” Geo Margescu, general director of Cefin Real Estate, told The Diplomat.
Romanian developer Meridian Land, which is developing the residential complex Verdi Park in Bucharest, near Floreasca Lake on Strada Rahmaninov, does not have money to pay the 3.6 million Euro loans to the banks and has asked for insolvency. “The construction company, Marcora, delayed the delivery of the project for 14 months and we could no longer afford to pay the interest rates on our bank loans,” Emilian Oprea, shareholder of Meridian Land told The Diplomat. “We accumulated debts worth 3.6 million Euro in four years, for a project of 11 luxury apartments in which we invested 20.5 million Euro.”

Last option but failure

Insolvency is the last solution a company has before going bankrupt. It should allow the management time to reorganise and resume activity, after which it can start paying its debts to creditors. If the management cannot fulfill its tasks in three years, the bankruptcy process begins. Legally, both the creditors and the debtors can ask for insolvency. In a typical market, creditors who need to recover their money are the ones who ask for insolvency from the debtor.
But during the financial crisis, the situation changed and more debtors asked for their own insolvency, as a way to protects them from creditors. This is similar to attempting suicide in order to be put in the hospital under observation - as an alternative to risking becoming a murder victim.
Meanwhile the creditors, who for real estate projects are usually banks or construction companies, avoided asking for the insolvency of their debtors, because it would make it harder for them to recover their investments.
“In a bankruptcy procedure both the creditors and the debtors lose, so they all want to avoid this,” says Adrian Mihaila, insolvency specialist at real estate consultancy CBRE Eurisko. “Selling prices have declined and creditors are aware that, if the developer goes bust and the project is sold, they will recover much less than their initial investment. The projects that entered insolvency started two or three years ago, in a growing market, when the price estimations were much higher than today. If a bank finances 70 per cent of a project and the value of the project drops by half, so does the initial investment of the bank.”
To avoid insolvency, developers could try to find investors to pour money into the projects and continue the development. But there are few willing backers for failing projects, while developers are still unwilling to sell their assets at grossly reduced prices. Instead of losing money, many developers prefer to go into deep freeze for three years and hope for the best.

Don’t drop price, put on ice

“Insolvency has become a national sport,” says Francisc Peli, partner at law firm Peli Filip. “Developers submit insolvency requests to the law courts even for very low debts, worth 5,000 Euro, when the value of their projects is a few million Euro. This is because it is very difficult to decide to sell the assets at low prices. In some cases, even if the developers manage to sell their assets, they still may not be able to pay their debts.”
The legal system in Romania makes the insolvency procedure easy for creditors and debtors. Any company that does not have liquidity and does not pay its bills for 30 days can ask for insolvency, even if its projects are delivered or close to delivery and require no further investments.
Projects such as My Dream Residence entered insolvency very close to its delivery date. Arguably, this means that the developer did not have debts which were impossible to pay, but was not willing to lose anything from the value of the assets - but the law courts cannot refuse such requests.
“With delivered projects which can be sold to pay the debts, the developers are either not willing to cut the selling prices too much or the project cannot be sold, because potential buyers cannot get financing from the banks or do not trust the quality of the construction,” says Eric Domokos Hancu, lawyer at the law firm Schoenherr Romania.

Rescue or bust

Instead of being the last solution that can save a company from bankruptcy, insolvency is often the first step towards going bankrupt.
“Most of the projects that are facing financial issues started two or three years ago,” says Mihaila. “So if in the last two years the developers did not manage to sell the dwellings either off-plan or delivered, it is difficult to believe that they will manage to do it during the crisis.”
Meanwhile Domokos Hancu says only a “very small number of companies” manage to reorganise their activity and avoid bankruptcy.
The developers who adjust their offers to the market conditions have the highest chances of recovery, such as those in residential projects who adapted their product offer to conform to Government-backed schemes to keep the housing market liquid. This may mean dropping the prices on homes, but it keeps sales going and the banks happy.

Signs of a thaw

Not all real estate developments in insolvency are destined to go under. Residential complex Planorama, developed by Israeli company Euro Habitat in north Bucharest’s Strada Doamna Ghica, will resume works this year, after entering insolvency in 2008, when its Turkish constructor Yapitek went bust. The first of the 1,104 apartments will be delivered in May or June 2010. Euro Habitat will also contract a 2.5 million Euro loan for future work on the project.
To avoid insolvency, Domokos Hancu believes some residential projects will switch into office projects, as the demand in this segment is higher and investors are more willing to offer financing to these projects. Adrian Mihaila argues that new offices in good central areas, such as Piata Victoriei, Blvd Barbu Vacarescu and even Piata Presei Libere, were not under risk of insolvency in the last two years, unlike residential projects.
But the collapse in the housing market is not only due to the financial crisis, but one simple factor: bad research. The market believed it could sell to a middle class which did not yet exist. “The main reason why residential projects face insolvency is that most developers built for the middle high and high end,” says Mihaila. “When the highest demand is for low and medium low dwellings.”

Going to the wall

When the financial crisis hit Romania last year, this lead to over 18,000 companies entering into insolvency, according to the National Office of the Commerce Registry (ONRC).
This is 1.8 per cent of the one million companies registered in Romania.
One fifth of these companies (3,600) were in real estate and construction.
The number of insolvencies rose by 25 per cent in 2009 compared to 2008.
Most of the insolvency cases were registered in the Bucharest municipality and the counties of Constanta, Bihor and Cluj.
Retail, construction, real estate, leasing and transport were the sectors most affected by insolvency.