By: Justin Laub
Lender: “How much money do you want?” and “Do you want to sign your name personally to the loan, or would you rather not?” Borrower: “Lots, and, no, thank you.” That is pretty much the call-and-response answer for the vast majority of commercial real estate borrowers. The trickier part of the equation is how much you want to pay and what type of flexibility you want. The answer is complex and depends on the nature of the borrower and the asset in question.
There are a few key issues that typically drive the negotiation process with lenders. The biggest factors that determine the competitiveness of non-recourse financing today are (in order of importance):
i) Is there cash flow currently? If so, how much, and how durable is it?
ii) Where is your asset, and how does it compare to the broader market?
iii) Does your business plan represent a proven concept?
iv) What is the track record of the sponsor?
For recourse lenders, the most important factors are:
i) Who is my sponsor, and how strong is their balance sheet?
ii) Is there cash flow currently? If so, how much, and how durable is it?
iii) How does your asset compare to the broader market?
The bottom line is that recourse lenders tend to be more focused on the sponsor while non-recourse lenders tend to be more focused on the asset. In some instances the sponsor and the asset in question check all the boxes of both recourse and non-recourse lenders. MCA recently worked on two deals – a ground-up hotel project and a value-add shopping center – for two different clients where this situation occurred. The differences in leverage, recourse, and rate between the recourse and non-recourse lenders made for interesting case studies.
For the shopping center, our client had to decide whether to pay an extra 150-200 basis points in rate to get non-recourse financing for the same leverage, which was in the range of 75-80% Loan To Cost “LTC”. Further, our client had to decide whether they wanted the fixed rate being offered by the recourse lender or the floating rate being offered by the non-recourse lender. As for the hotel project, our client was faced with the decision of a fully recourse capital stack getting to 95% of the project cost versus a partial recourse capital stack (recourse 1st mortgage at 65% LTC plus a non-recourse mezzanine loan) getting to 90% of project cost. The fully recourse option got our client to 95% LTC and cost 250-300 basis points less than the partial recourse option. Conversely, the partial recourse option gave the client better control over his exit and gave the client the comfort of being personally recourse on only 65% of the project cost.
The higher rate for the non-recourse financing that we observed in these two deals is typical in the current market. The issue of leverage is more complex. It is not always the case that the recourse lender will go higher in leverage than the non-recourse lender, and vice versa. The nature of the asset, the sponsor and the deal will determine how recourse and non-recourse lenders approach the issue of leverage. Further, the prepayment flexibility and control over the business plan for the asset will vary depending on the lender and on the asset and sponsor in question.
These are difficult waters to navigate. The Borrower has to be able to find the right Lenders to bring to the table, tactfully negotiate with the interested lender, and finally sort through the maze of options to figure out which execution works best for the business plan and the Borrower. MCA has been doing exactly this for its clients for over 20 years on over $9 billion in closed financings. To further discuss your financing alternatives for your next commercial real estate project or property acquisitions, contact me at email@example.com or visit our website at www.metcapital.com