"Real estate is important again!" I remember hearing a senior credit officer saying this to a group of commercial real estate lenders at an MBA conference in 2009, but he didn't explain when or how the real estate - the security for repayment – had become unimportant. With pressures to increase returns, the growth of real estate prices year after year makes it easy to believe that this is the normal state of affairs, but the cyclical nature of commercial real estate means that periodic correction is also part of the normal state. Lenders can protect themselves from downside risks, but only if the real estate remains important. Relying on credit tenants, repayment guarantees, cap rates and cash flow projections is not enough.

The Need for Comprehensive Risk Management

A post-recession study conducted by the Office of the Attorney General (OIG) concluded that "Boards and management at too many other institutions pursued profits through growth and higher-earning, risky assets, in an era of easy credit, while lacking robust risk management practices...". Rapid loan growth, inadequate risk management practices and internal controls, asset concentrations in commercial real estate and acquisition, development and construction (ADC) loans, and inadequate capital reserves were cited as primary drivers in a majority of bank failures during the recession. Risky funding plans and incentive compensation programs were also identified as contributing factors.