Underwriting – as it is applied to commercial income-producing property capital financing transactions – is the process of reviewing, investigating and analyzing the income-generating ability of a given commercial income-producing property in terms of its debt support characteristics, its collateral value, the supporting credit issues that pertain to liquidity support for the future operations, and the issues that may result in a default. This underwriting process is undertaken by the INVIZEN Final Check program model in light of current capital market conditions and expectations, as well as the realities of the impacts that are likely to occur as a result of forecasted near-term market conditions. Capacity underwriting is the most important part of the underwriting process as the chief means of creating wealth and value for commercial properties is derived from the income-generating capacity of the property once the raw land has been converted into a commercial use via improvements. Accordingly, in a market economy such as that of the United States, capacity underwriting is the most important component to the overall underwriting regimen, with the results of said capacity analysis acting as important drivers for the three (3) remaining underwriting analyses that are routinely conducted to determine the overall risks and rewards potential a given property or business may present to the capital markets.
The key issue that cannot be eliminated pertains to market disruptions. By their very nature, market disruptions are not foreseeable and are therefore outside of the scope of consideration, as this portion of market risk is not manageable by any means in 100% of cases. That aside, the market feasibility analysis process pertaining to a specific class of business operations within a given geographical marketing area, provides a strong basis for better decision-making where the latest data is available at any point in the decision-making process. The INVIZEN approach is predicated upon the idea that continual updates of data sets throughout the project life cycle will, over time, allow capital market participants to make better decisions regarding the deployment of capital funds by focusing on a forecast window of only 24 months, as this period is the longest period of a forecast that is likely to have a predictable outcome and provide the opportunity for an orderly sale of the business in cases where the market opportunity is expected to continue to deteriorate.
The final phase of underwriting analysis performed by the underwriter with respect to a proposed investment is the default risk underwriting analysis. There are three (3) key elements to this risk analysis process of:
- Term default risk – the risk the borrower will not make timely payments of interest and principle required to satisfy the terms of the loan repayment schedule over the term of the loan, thus indicating the investment is at greater risk of loss.
- Maturity default risk – the risk the loan will not be repaid at maturity because the borrower can neither retire the debt from the borrower’s own resources, nor would the borrower be able to refinance the debt, thus indicating the investment is at greater risk for loss.
- Technical default risk – the risk a covenant (affirmative or negative) of the component securities agreements may be violated, thus indicating the investment is at greater risk for loss.
In the case of maturity default risk, the issue again comes down to market preferences, the nature of which are uncertain at best once the forecast window exceeds the 5-year forward-looking period because of changes in consumer purchasing preferences, changes in the macro-economic structure of the overall market, changes in capital market preferences, and changes in regulatory/tax policy that are not foreseeable. Maturity default risk is only really manageable over the term of the investment holding period by continually updating the profile of the market so as to identify any emerging trends that need to be exploited or dealt with (as the case may be). INVIZEN approaches the entirety of the maturity default risk issue by providing the Final Check client with access to continual real-time updates of the market opportunity facing the given investment over the entirety of the holding period without charge. Accordingly, failure to manage maturity default risk due to one of the aforementioned factors can be reduced to a relatively manageable level.
The technical default risk issues are beyond the scope of the INVIZEN Final Check process at this time because these are subjective issues, by and large, that require prudent management execution in order to effectively manage them. The logical result of this issue is to have strict covenants regarding administrative issues that may arise and a full understanding of the requirements necessary to sustain documentation of the securities instrument file. This is accomplished by qualifying the investment opportunity for the INVIZEN Stop Loss investment protection care program that monitors technical default risk in real-time to prevent these issues from becoming significant enough to impair asset values. This relies upon a further understanding of the INVIZEN model’s default risk underwriting approach.