It is possible to hit higher-than-average returns by taking over failed condo development loans, he says, since a low discount can be had, but there's also more risk involved than in a similar commercial property. "You have to be experienced and have solid information for your decisions," Blumberg says.

One expert in this field is former casino executive Wade Hundley, now CEO of Chicago-based ST Residential LLC. The firm jumped into the condo fray in 2009, when an investment group led by Starwood Capital purchased a 40% interest in the $4.5 billion of failed condo loans owned by Corus Bank. The investors reportedly paid about $123 per square foot for what had taken about $400 per square foot to create.

The loans were sold by the FDIC, which, in a desperate attempt to offload bulk distressed condo loans, auctioned almost $16 billion of these notes to companies such as Starwood of Greenwich, CT, Miami-based Lennar Corp. and Los Angeles-based Colony Capital LLC (which formerly employed Hundley as a senior partner).

ST Residential was hired by the Starwood-led group to manage its new portfolio. Since then, ST has become one of the nation's largest condo players, figuring out what to do with the 102 Corus loans and also branching out to buy more failed loans and try turnaround projects.

Hundley tells DAI that the going has been great. "We've sold about 2,000 high-rise homes so far, and we expect to sell another 2,500 in the next two years," he says.

He says an investor has to be extra-diligent when considering the purchase of a failed condo loan. "You have to be involved in the management process," he says. "It's not something you can easily turn over to a third party. There are so many things to consider with condos, such as associations and warranty issues." Hundley says Miami has been one of the best resurgent markets, bolstered by Central and South American investors who bring all-cash buying power to the table. "We've increased our prices by 15% to 20% in the past 12 months," he says. ST is doing the 500-unit Mint project, which has sold almost 300 homes since January, and Infinity, which has sold a home a day for the past six months.

Both projects were almost foreclosed, but ST was able to do a deal with the borrower. "We invested $2 million to $3 million into each project and added improvements to the core package," Hundley says. "The borrower is still involved, but we're calling the shots."

He says his company is also working on successful distressed projects in Atlanta, Phoenix and Los Angeles, but adds that a national picture is hard to read, since each market is subject to its own benefits and limitations. "Miami, New York City and Washington, DC are the strongest, of course, while Vegas continues to be the toughest market, along with the West Coast of Florida," he says.

The key to bringing back a condo project is all in the staging, he says. Condos that had loans drop from under them typically suffer from a distinct lack of attention during the developer's final months, be it trying to use cheaper materials to finish quickly and under budget, or just abandoning the project to vandals and the elements.

"You have to retrofit the project back to what's intended, to fix the cut corners," Hundley says. "You also have to regain broker trust. These properties are generally tainted in the minds of the brokers."

With a project that has some condos already sold, the new approach means getting into the building and establishing a presence right away, he says. For empty complexes, or those with only a few sold condos, the approach could include conversion to apartments, though if individual unit owners remain, the dichotomy between renters and owners can get difficult. Conversion is again returning to the forefront, though this time it's back to apartments. The national apartment market has seen a tremendous jump in value since, and because of, the housing industry downturn. In 2010, apartment building sales shot up 96% from 2009, to $33.7 billion, according to Real Capital Analytics data (see chart).

Funds such as Chicago-based Waterton Associates' Residential Property Venture XI have restarted after companies halted purchases in 2008- 09. Waterton's new fund, with $1.5 billion in purchasing power, uses cash to buy up defaulted multifamily construction loans or assist in completing a property that isn't financeable, says CEO David Schwartz. He says the company plans on pursing the conversion option. "There's a growing US renter market that will last for a good while, and the possibility that it will increase is quite high," he says.

For its first purchase, the fund made a surprising bulk purchase of 124 condos at the 141-unit Mondial River West project in Chicago to the tune of $250,000 per unit. Th e purchase rescued the new condo building for the developer, Citta Development Group, which had been in default on the debt-laden project. Mark Stern, SVP of acquisitions for Waterton, tells DAI that the company paid a little more for the building than necessary because they like the product, and the lender was pushing for a restructuring on the $38-million construction loan. "We'd much rather deal with the bank than a developer," Stern says.

Now, the firm has to figure out how to keep the 17 existing condo owners happy while the building is converted to rental, Stern says. "We need to make sure the buyers don't feel they made a bad investment, seeing as we bought the remaining units at two thirds of what they paid. The bigger issue is how to run the association, since we are the majority owner, and getting everyone to work together." Ideally, he says the company could buy the units back, but the owners are not willing to sell for less and the push would have to be for all the units at once, Stern says.

This owner vs. renter dynamic with the same building will be one of the many challenges that buyers of condo notes need to recognize and think through, says attorney Ross Yustein, chairman of New York City-based Kleinberg Kaplan's Real Estate Group. He works with investors on distressed purchases and developers trying to refinance troubled loans. He recently represented a venture of locally based Aristone Realty Capital and Elliot Management Corp. in the acquisition of debt and a forbearance agreement for the 11-story 245 10th Ave. in New York City, in coordination with developer/ owner Grasso Holdings, which is based in Philadelphia.

"In any distress acquisition, you have to do an extra layer of analysis, not only understanding the financing side but also the source of the distress," Yustein tells DAI.

Yustein says due diligence has to be done on how the property became troubled, as in, was the developer a victim of the downturn, or were there actually mistakes made. "If you're going to assist the developer in bringing back an asset, you have to be certain this is a good partner to have," he says.

Disagreeing with Mike Stern, Yustein says working the project out with the developer is the better deal, though it may require a lot more homework. He says he had a client who bought all the mortgage and mezzanine debt on a condo project in New York City and did a workout with the borrower, including extending the timing of the loan and changing payment terms.

"The banks were anxious to sell and tried to apply pressure on my client to close, but we took our time, as the workout proved to be extremely difficult," he says. "If we had done it right away, we would have lost leverage with the borrower." He wouldn't comment on the location of the building. You can cash in on condo conversions, but as Yustein points out: "The willingness to take advantage of a distress situation can add value; there's a big opportunity for upside. However, it requires you to do much more due diligence and be more thoughtful about cash flow and your economic model."

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