It is not uncommon for commercial real estate owners to structure a financing transaction with multiple layers of capital, each with a different risk-reward calculation.
For those commercial real estate and other businesses looking to add debt rather than equity when senior debt is maxed out near 70% LTV, borrowers may want to consider mezzanine financing. One of the uses of mezzanine debt is to add as much leverage as possible by increasing LTV to about 75-90%. It is also common for real estate developers to secure mezzanine loans when supplemental financing is needed.
By definition, mezzanine financing fills the gap between equity and senior debt in the capital stack and is subordinated to the senior. Sources of mezzanine debt include pension funds, insurance companies, other financial institutions, state agencies, and mezzanine debt funds.
Because mezzanine debt is considered riskier than senior debt with respect to collateral and cash flow rights, lenders of mezzanine loans tend to make their lending decisions based on the predictability of cash flow in excess of that required to service senior debt. In addition, lenders offering mezzanine debt frequently require an equity kicker above and beyond the higher interest income usually received to compensate for the added risk.
The maturity of typical mezzanine loans tends to range from three to five years, with principal payments commonly deferred until senior debt is retired. And while, by its nature, mezzanine financing has no hard and fast terms or structures, there are a few terms commonly used in commercial real estate transactions. The most common type used with stabilized properties is straight debt, where the lender receives no equity and has no management participation. On the other hand, when looking to increase LTV to 90%, borrowers may have to give up some cash flow equity and upside potential to lenders through the use of a participating note.
There are several types of mezzanine financing available:
Mezzanine Loans: Mezzanine debt can take many forms and can mean different things to different lenders. The most common and easiest type of mezzanine financing to understand is straight debt, also known as a second mortgage. With straight debt, the mezzanine lender is in a subordinate position, usually up to 85% LTV, with no equity participation in the cash flow and no management participation. Depending on the amount of leverage, the type of project, and owner history, yields typically fall within the 9-13% range, with terms similar to the senior debt.
One of the most important issues for mezzanine borrowers is the interaction between mezzanine and senior debt lenders. An inter-creditor agreement, which spells out the rights and remedies of a mezzanine lender and the interaction between a mezzanine lender and senior lender, is usually required in such transactions. Negotiating an inter-creditor agreement can be a difficult and time-consuming process.
Participating Loans: If higher leverage is the objective of a financing transaction, and borrowers are willing to give up some cash flow or equity for it, a hybrid form of participating debt instrument may be the way to go. With such debt, borrowers can usually boost LTV up to 90%, while lenders generally receive a slightly lower coupon rate on the note and may receive an exit fee when the property sells. Given the increased risk assumed by the lender from the amount of leverage involved, a higher overall yield is required from the combination of the coupon rate and the equity obtained in the transaction.
Hybrid Mezzanine Loans: Another type of mezzanine loan that is becoming increasingly popular is similar to a second mortgage with a major variation. Since many senior debt lenders prohibit second mortgages, this mezzanine loan is secured by the stock held by the company that owns the property involved. If the company fails to make timely payments on this type of mezzanine loan, the lender can foreclose by seizing the stock of the company. If the lender has control of the stock, the lender has control of the company and the property. Oftentimes, foreclosing on a loan secured by stock is much easier than foreclosing on a loan secured by property.
Because of the complex terms, costs and suitability of mezzanine financing, owners, developers and brokers across the country should consult expert advisory services to help successfully structure such challenging transactions.Immobilienmakler Heidelberg Makler Heidelberg
Source by Andy Bogdanoff