In this third of a four-part series on capital and commercial real estate, Connect CRE reached out to experts to learn what they’re looking for to finance a deal. This article follows two that have been published: “Understanding Capital Creativity” and “Capital Markets: The Rearview Mirror and the Road Ahead.”
Anyone looking at commercial real estate lending news these days can be forgiven for the assumption that there is no capital to be had for investment. Or the available capital costs a figurative arm and leg.
The days of cheap and easy money are indeed gone, for now. However, debt can be found. Experts told Connect CRE that today’s lenders need assurances that their risks will be well worth it.
Because of this, “loans are being looked at more critically,” said T.R. Hazelrigg with Avatar Financial Group. Hazelrigg explained that borrowers should prioritize substance over form. “Money will be available for high-quality projects, with strong, experienced sponsorship that can keep some skin in the game,” he added.
The Interesting Assets
One part of an essential story for lender consideration is the asset involved. Or, as Jonathan Lee with Colliers Structured Finance Group noted, “Banks and insurance companies are simply not compensated well enough to take risks in product types that don’t have consistent and demonstrable cash flow.”
Those product types are the standard darlings of years past: multifamily and industrial. This, despite the growing unease over debt maturities (multifamily) and increasing vacancy rates and possible overbuilding (industrial).
At the other end of the list – unsurprisingly – is office. Gary Bechtel with Red Oak Capital Advisors acknowledged that owners of urban office buildings are struggling. On the other hand, suburban office product tends to perform reasonably well. Still, when it comes to financing, “certain asset classes are going to be very challenging and may require significantly more structure, assuming they have a compelling story,” Bechtel said.
This is where less traditional asset types might appeal to lenders. MetroGroup Realty Finance’s Ivan Kustic said his company represents a life insurance company that has been active in the market for 50 years. In the past year and a half, that lender provided long-term financing on car dealerships, a storage yard, a cement plant – and even office buildings in Chicago and New York.
“The point with some lenders is if the property has a compelling story, the tenancy is stable, and the applicant an experienced property operator, non-traditional properties are financeable,” Kustic remarked.
Meanwhile, retail is catching the attention of lenders. Revere Capital’s Jeff Salladin said retail was an asset class overbuilt during the late 20th century and underbuilt following the Great Financial Crisis.
“I think we have seen a lot of the ‘Amazon Effect’ already baked into the market,” he added. “There are many good reasons for shoppers to visit well-positioned and managed properties, and I see opportunities there.”
Lighting Up the “Dry Powder”
Also of interest to lenders is more money from borrowers. Lower leverage and higher equity are almost a must in this day and age.
Bechtel explained that many of the loans Red Oak is seeing (both maturing permanent loans or acquisitions) require more borrower equity than in the past. “Private lenders are providing some of this equity, or it’s being done on a stand-alone basis through various forms of rescue capital,” he added.
Another challenge is that trying to pin leverage down right now is a little complex. But Colliers’ Lee contended that as lenders move stalled loans (leading to more viable basis plays), new lenders will be more likely to offer leverage based on the new values.
A reduction in the Effective Federal Funds Rate could also help move that dry powder from the sidelines to the borrowers. “If you combine a lower rate environment with the disposition of struggling assets, there will be a tremendous resurgence of capital available to transact on these opportunities,” Lee observed.
The takeaway is that lender capital is available. But lenders are pickier these days than in the days of “easy money.” Noted CapRock Partners’ Jon Pharris: “Lenders will be more accommodating to large borrowers and less forgiving to smaller developers or investors who don’t have strong balance sheets.”
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