Mezzanine Lending: the Stuyvesant Town Saga

This sent the junior and senior lenders into years of legal infighting over control of the largest housing complex in the U.S.—a fight that has become legend for its messiness (an entire book was written on the subject) and has kept lenders on their toes as they negotiate loan contracts ever since.

In January of 2010, Tishman stopped paying their lenders, effectively handing over the keys to Stuy Town. But two funds, Pershing Square Capital Management and Winthrop Realty Trust, owned three senior tranches of the mezz and set out to foreclose on equity interest held by Tishman and push the complex into bankruptcy for a stint, while the asset presumably regained value. Then, the thinking went, they could pay off the senior lenders—a consortium that included Bank of America, Fannie Mae and Freddie Mac—possibly even at a discount.

The senior lenders, hoping to retain control of the property, asked for an injunction on the foreclosure and successfully argued that the intercreditor agreement stated that the $3.67 billion they were owed had to be paid off before any mezzanine foreclosure could take place. No one expected that interpretation, sources said.

“The Stuy Town litigation exposed some, oh let’s say ‘weaknesses’ in the documentation,” said an attorney who has represented one of the innumerable parties embroiled in litigation at the mega-complex. “As a result of those, people are using somewhat different documents,” in similarly structured deals now, he said. (No attorneys would comment on the record for this story—understandable, since it seems nearly every New York City commercial real estate lawyer has worked on some side of at least one case related to Stuy Town in the last eight years).

Many in the industry thought the decision, which left Pershing Square and Winthrop on the hook for a sum no one could raise at the point, was an unreasonable restriction on a mezz lender’s right to foreclose. Others thought that senior lenders, which are paid less, clearly should always be paid first. They are called “senior,” aren’t they?

Regardless of one’s opinion on the case, though, the best way to avoid a dispute over an intercreditor agreement is disarmingly simple, the attorney said: communication.

“You either negotiate that yes you have to pay off the mezz lender to foreclose, which would kill off mezz lending,” the attorney said, “or you make it clear that this is not required.”

In the end, the special servicer, CWCapital, brought yet a new dimension to the game when its parent Fortress Investment began raising funds for a $4.7 billion bid for the complex earlier this year. On June 3, CWCapital exercised a deed-in-lieu-of-foreclosure and said it would put Stuy Town up for sale.

The next round of fighting began about a month later, as this time junior lenders sued CWCapital, arguing that the were inflating the senior lenders’ bill, making it seem that they could never have been paid off, despite the fact that the building had, by then, risen in considerably in value, and every bondholder could conceivably be paid off, depending on how you do the math.

As of this writing, no sale has been finalized.