Mezzanine finance - liquidity's best kept secret

Mezzanine finance - liquidity's best kept secret




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Residential developers have experienced huge challenges over the previous four years. Values in many locations have fallen, buyers have struggled to get mortgages and sourcing development finance has been tortuous. Bridging & Commercial heard from Andy Blenkinsop, Partner at Pluto Finance (UK) LLP, who reflects on the current state of mezzanine finance…

Banks that still offer funding will only lend up to a maximum of 65 per cent of costs and when contingencies/cost overrun guarantees are taken into consideration the gearing can reduce further.

It’s difficult to recall the generous terms once offered by the likes of the Irish Banks, HBOS, GMAC, Anglo, Clydesdale and Dunbar.

Developers were courted with corporate entertainment, tickets to sporting events, and golf days. Competition was intense with the clients able to negotiate terms and having a number of options.

No one envisages a return to the ‘heady’ days and the consensus of opinion is that the squeeze on credit from the traditional lenders is here to stay. It’s not enough that the Banks remain nervous about the housing sector, the economy and Europe but they have had further restrictions imposed upon them by Basel III and tightening capital requirements.

So is it all doom and gloom? Not quite. Investors and Funds are resourceful in identifying investment opportunities and have homed in on the potential good returns offered by development finance. If they can mitigate the risks of speculative construction then the sector can provide them with the required returns.

Accessing the funds, family offices and private investors can provide developers with the liquidity required to fund new and stalled projects. For experienced developers with sites in good locations and profit on cost of minimum 25 per cent it is possible to achieve additional finance to bolster senior debt.

Developers are often shocked by the rates charged by mezzanine finance, which in the case of residential can range between twenty and thirty per cent depending on location and size. However, the increased cost of debt usually equates to half the profits which still enables the developer to return twice the initial cash equity.

It’s imperative that developers are realistic in their assumptions of gross development values, costs and program. If the projections prove unrealistic then this can have a dramatic effect on the total interest charge. By the very nature of the industry, developers have to be optimistic but any uncertainties should be covered by adequate allowances for contingencies within appraisals. It’s rare that mezzanine lenders will speculate on the outcome of planning consents and will require the developers to start construction within three months of acquisition (after allowing for a short period of prelims and site enablement).

Pluto Finance have raised a residential development mezzanine fund and since the launch in May 2011 has experienced good traction in enquiries and completed transactions. Funding up to 90 per cent of total costs is available for developments around London and the South East. The minimum loan size is £1 million. They have assisted a number of developers requiring additional capital for existing sites as well as new acquisitions.

In conclusion, provided projects are accurately appraised and in good locations it can be possible for developers to attract additional funding which will still enable them to double their equity stake. It’s imperative the appraisal and program is realistic to ensure the higher rates of interest do not diminish the developers return.

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