Cameron Hayes

How to enhance your corporate strategy through the use of mezzanine finance

In this second post on mezzanine finance, I am to highlight the ways in which developers can make the process of ‘gearing up’ more streamlined.

As we discovered in part one of this blog series, being able to secure a higher leverage can open doors to new projects and allow developers to scale up by allocating less equity to an individual project. This is a popular form of recourse in a buyer’s market if the borrower is appraising lots of new sites and requires additional liquidity to spread capital across multiple investments.

Mezzanine finance is often considered too expensive, due to most loans being priced in double digits. Mezzanine finance, however, allows a developer to borrow more capital and enhance their return on equity. Borrowers should therefore be encouraged to look at the performance metrics of the deal and focus on overall pricing, as well as the return on equity versus risk.
If using independent mezzanine and senior loans, developers often believe that this will result in higher overall pricing.  However, as Arc & Co has previously highlighted, the blended rate — which is the combination of the rate charged by the senior debt lender and the mezzanine finance lender, is often competitively positioned to provide the developer with a ‘pricing edge’. In these current times, with some stretched senior lenders reducing the amount they are willing to lend, the ability to achieve higher leverage can also include stretched senior debt providers and mezzanine finance lenders working together.

The benefits of blended pricing sometimes come with a slight trade off, given the time working through legal documents with the additional mezzanine provider. Upon securing the mezzanine debt, the two lenders (senior/mezzanine or stretched senior/mezzanine) will enter into an intercreditor agreement, which outlines the various clauses and will set the scene between both parties for the duration of the loan(s). Certain clauses are often drafted into intercreditor and mezzanine finance agreements which permit the mezzanine lender to have some protection throughout the duration of the loan. This cushions them from adverse scenarios, which are important given the second charge nature of the mezzanine lender’s security position. It will typically include the ability to cure a senior loan default,or the ability to buy out the senior debt provider’s position — both of which occur at a juncture that may affect repayment of the mezzanine facility.

In many cases, a well-established mezzanine funder will have an existing intercreditor deed in place with most senior debt providers, helping forego some of the additional time spent working through such clauses.

Arc & Co witnesses new entrants to the lending market on a weekly basis. In recent times, the team has seen a lot of private capital being deployed into new funds and vehicles in an attempt to capitalise on lower values. Arc & Co has established relationships with lenders across the capital stack, and this includes institutions and banks through to private family offices, credit funds, private equity houses and HNWs. Each of these lenders seek different returns to satisfy their lending profile, and the team at Arc & Co are well positioned to advise on structuring intercreditor relationships between debt and equity financiers. This can make the coupling of senior and mezzanine lenders more streamlined if, for example, additional debt is required, and at relatively short notice.

In recent weeks, increasing amounts of investors are requiring greater liquidity within their business for cashflow purposes, or looking to actively manage their equity across different projects. Arc & Co has, as a result of this change, been more actively involved in working with lenders higher up the capital stack. We are a trusted adviser to clients looking to fortify their financial strategy and explore alternative financing solutions. 

In the third and final part of this blog series, I will discuss mezzanine finance in even greater depth, as well as different methods of structuring equity for real estate transactions.

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