John Petrovski has taken an interesting road to becoming the group president of Chicago-based Heller Real Estate Finance. After graduating with a degree in chemical engineering from the University of Illinois, he received a law degree at the University of Michigan and practiced as a real estate attorney for six years. Since coming to Heller in 1987, he has held various titles, including managing director of structured business, national manager of the central region and senior legal counsel.

Petrovski talked to NREI about his vision for his department, how his years as an attorney help him now and his thoughts on the hotel segment.

NREI: What has been your biggest challenge in the industry since joining Heller in 1987?

Petrovski: What's my biggest challenge or real estate's biggest challenge? I think I can answer them both together. I think the whole industry has come of age, if you will, in the last 10 years. You look how far we've come - it's quite remarkable when you look back to the early to mid- to late-80's, when the information flow in the industry was weak, there were tax incentives to build buildings that didn't financially make sense, there were weak banking regulations which encouraged speculative development. And, consequently, the country got overbuilt and fortunes were lost, both from the development side and the equity owner side and the debt side.

I think the industry learned a terrific lesson there, and since that time I think you're seeing in today's environment the concept that real estate cycles will exist, but they'll be watched a heck of a lot more carefully, and the cycles will be muted somewhat or attenuated because the information flow is better, capital is more disciplined. When things look like they're getting out of whack, the capital will recede.

I think we've seen that happen with respect to the REITs, with respect to the CMBS product, with respect to money for speculative development. So I think the biggest challenge, to come full circle to your question, the biggest challenge was having the industry become more sophisticated in its approach to debt and equity investing, and I think it's really done that. And, of course the real test will be if the economy does slow, we do get a recession, just how well real estate as an investment type will perform. And, of course, that turns on how long and how deep the recession is and when it is. But, I think that will be the acid test to say, "Did the more sophisticated approach to real estate as an investment type weather the storm?" And until it does weather a storm, I think there will always be critics that say it's a cyclical business and when it goes down, there are fortunes that are going to be lost.

NREI: In a nutshell, what is your overall strategy for the Real Estate Group at this point in the cycle?

Petrovski: It's our strategy to be consistently in the real estate business, providing both debt and mezzanine loans on all property types, in all markets in the United States. But, it's our strategy to be nimble within that market, so that we shift our capital among what's a more attractive risk-reward between markets, property types, and debt vs. equity. For example, we're originating fixed-rate loans for securitization. We're also buying CMBS. I think there's times when it makes sense to buy CMBS because the risk-reward is great and the spreads are wide, and there's other times when it makes sense to more aggressively originate loans and sell into the bond market. There's an example of where we're effectively on both sides of the market, and I think we'll continue to do more of that.

It's our goal to have about seven or eight different products that we're in, so that we're making money in seven or eight different areas. In any given year, if five or six do well, that's enough to carry the day. I think, quite frankly, the days of being a one- or two-product shop don't work because if the wind's blowing in your face with respect to that product, it's going to be a weak year. Whereas today, Heller Real Estate has a floating-rate debt product, a high-yield floating-rate debt product, mezzanine loans, hotel-lending group, affordable-housing lending group, vacation-ownership lending group, CMBS purchases, some Mexican investments. When you roll all of that together, you get pretty diversified income sources.

NREI: How has your law degree helped you to run the business?

Petrovski: The law degree is one thing. Being a practicing real estate attorney for six years before I moved into the business was probably the better experience, insofar as you know how to close transactions, you know how they're documented, you know the value of good documents - both the strengths, and there's limits to what documents can do for you. I've been through the workouts, and I think that experience on the legal side has really helped hone the investment strategy of picking the right investments and the right developers to invest with.

NREI: How do you differentiate Heller from your competitors?

Petrovski: Everybody has an idea of how they differentiate themselves, and the real question is, Are they really different? I think what objectively is really different about Heller Real Estate is we're a full product provider with the floating-rate debt, high-yield floating rate debt, mezzanine loans. That we're nationwide, we have nine offices so we're close to our markets, close to opportunities. We offer fixed-rate debt. I think you combine all of that and you say, 'Full-product provider that can serve clients in multiple ways.'

And the second area which I think its absolutely critical is we're a smaller organization that's very decisive and very nimble and very quick in responding to opportunities. Ourbreadth of our products makes us look like a large institution, but the speed of our responses makes us look like a small institution, and I think that's how we set ourselves apart. There's people that are bigger, but aren't as quick. And, there's people that are smaller, but they're don't have the product breadth.

NREI: Heller has announced that it is bullish on the hotel segment. Why is that?

Petrovski: Heller is getting back into the hotel-lending arena because we feel it's an underserved market niche. Am I bullish on hotels uniformly performing well over the next several years? I would say we're not. I would say I think there are storm clouds on the horizon for hotels because of oversupply and the fear that the economy slowing will put less demand on rooms, will create less demand for rooms. I think what that's done is, those storm clouds on the horizon have caused capital to recede from that property type. We view that as an opportunity to go in and pick the stronger performing assets and serve those clients. We feel that those assets will perform well, should the clouds on the horizon turn to a storm.

But I do think that if the storm does come, that's there going to be some weaker properties, weaker flags that are going to struggle. So, I would say that we're not uniformly bullish on the hotel industry. What we are bullish on is that there are some good clients out there with good properties that are currently being underserved.

NREI: How have you changed the culture of the Group since Michael Goldsmith left?

Petrovski: How we've changed the culture is I think last year and in the prior years our focus had concentrated on fixed-rate lending as our number one product. I think the bond-market tumult of the fourth-quarter of '98 caused us to change that strategy. So, in 1999, I embraced a strategy of being a multiple-product lender, where fixed-rate is a piece of the equation, but it's not the major piece. It's just a piece. Instead of a major piece and minor pieces, there's eight major contributors to our bottom line. I think by changing that product to a broader breadth, it's created more opportunities for our people to jump in and create value and run with an opportunity. So, I think it in effect is an exciting place to be from a personnel standpoint because of the breadth of product and opportunities and the chance to create value.

NREI: Who is your ideal borrower/client?

Petrovski: Obviously, we view ourselves as a middle-market borrower, at least serving a middle-market borrower. By that, we mean somebody that might own five to 20 properties, acquires or develops one, two or three properties a year. So it's generally not a really large company or a large holder, but it's not a guy that only owns one property. What we admire most about people in that venue is their hands-on expertise, so that when they look at an opportunity or look at a development opportunity or an acquisition opportunity, that they speak with credibility because of their years of experience at running that property type and developing or acquiring that property type. So, in a nutshell, we look at a guy that's got a little dirt under his fingernails, has experience at doing what he says he can do and, frankly, is looking for either our debt or our institutional mezzanine loan, which functions like institutional equity, to team up with on an investment.

NREI: Where will the Real Estate Group end up overall at the end of 1999, in terms of performance?

Petrovski:We're going to have a strong year. We'll finish the year with about $3 billion of funds employed. We will have had a strong year from our mezzanine loan investments that we're still harvesting. These investments were made in the 1996, 1997, 1998 time frame, and they're performing real well. So, we're going to have a good year.

NREI: How, if at all, has the company changed since going public last year?

Petrovski: I think we've become more disciplined in our approach to the use of capital, which is not unexpected. What's the return horizon look like for a particular product or venture over the next one, three and five years? Are you going to get an adequate return for the use of the capital? I think that discipline has been ratcheted up a notch since becoming public.

NREI: Are you still finding good investments in the real estate market?

Petrovski: The answer is yes. We are finding good investments today. I will say this - they're harder to find today. If you look back in the last three or four years, you had an environment where the wind was at your back, so that helped all investments do well. I think the environment that we're in today is what I call an 'environment of no wind' and investments have to perform on their own. And, since you're seeing a little bit of leveling off of values in real estate nationwide as a generalization, that plateauing of values means its harder to acquire a piece of property and create value and have it appreciate substantively in a three- to four-year horizon. I think four years ago, that turned out to be easy to do. Today, it's more difficult. And, of course if next year we move into an environment where the wind is in your face, it will be harder still.