Securing Liquidity for Transitional Asset Projects

By Jon Leifer, Director of Acquisitions, Case Real Estate Capital LLC

With asset bubble concerns in equity and property markets, stalled CMBS 2.0 issuances and pending regulatory changes that will affect conventional real estate lenders later in 2016, the first quarter of this year saw meaningful gyrations in real estate capital markets that caused lenders of all stripes to re-assess their appetites for risk.

While fears in certain segments of the capital markets seem to have abated in the second quarter, many of the “easy” credit terms available for complex assets in 2015 have tightened, resulting in liquidity constraints in the bridge lending space. This market pivoting has posed challenges to holders of non-cash-flowing assets in particular, leading many sponsors to ask: How can we ensure funding when seeking project development bridge loans in today’s capital markets?

The answer to this question is nuanced and hinges on several key factors, including project type, competitive positioning, sponsorship experience and the lender’s likely investment basis. I’ll attempt to answer from the purview of lenders serving sponsors’ bridge loan needs for infill redevelopments in the Northeast.

Today, sponsors with mid-stream entitlement deals in the residential, retail and industrial sectors often report lenders failing to honor initial land loan commitments after conducting project due diligence. Commonly, these lenders withdraw loan offers after realizing their originators mis-priced or wrong-sized initial loan terms, after appraisals failed to support exit values or revealed inadequate loan-to-value cushions. Other loans fell apart because lenders initially misjudged loan exit potential by overestimating sponsors’ financial ability to complete pre-development, or underestimated sponsors’ likely timeline to clear remaining entitlement hurdles critical to realizing asset sale or construction loan takeout events.

In order to procure certainty of loan execution and avoid expensive and time-consuming funding failures, borrowers should turn to market-specific lenders with past experience in funding loans for like-kind projects.

For example, if a borrower is seeking a bridge loan to complete approvals for a residential redevelopment undergoing New Jersey Redevelopment Area entitlements or a project that must complete even the latest stages of New York’s State Environmental Quality Review Act (SEQR) entitlement process, the borrower is well-served to make sure the lender has done business in the local market area. Specifically, borrowers should ensure their lender knows the procedures, timelines and other nuances characteristic of those approval processes prior to focusing on negotiation of pricing, guaranty structures, loan reserves or other facets of the initial term sheet. If the project involves timing pressure to complete funding, or complex operational or ownership aspects that might raise questions regarding project marketability and loan exit potential, the borrower should ensure the lender understands the underlying economic impacts of those complexities prior to seeking their loan commitments. All too commonly, those “high-touch” deals involving environmental remediation obligations, mixed fee-simple and ground-leased ownership or non-conventional development program elements like retail marketplaces or office/industrial condominium sales result in failed funding when the wrong lenders are matched with project sponsors.

A 10 to 12 percent interest-rate loan commitment from an in-market lender that is well-versed in the project type, realistic about project reserves and execution, and willing to provide flexibility on structuring burn-offs for guarantees may yield a far better execution probability for the project than a 9.0 percent rate loan commitment with soft reserve and guaranty requirements from an out-of-market lender that will accept non-refundable loan due diligence deposits only to fail to close at the time of funding.