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Equity Investors Find New Opportunities as Debt Offerings Decrease
The increased need for equity to finance CRE deals offers opportunity for investors.
Jordan B. & Han-Gwon Lung
March 28, 2024
Together with
Good morning. With lenders tightening their belts, equity has taken the driver’s seat in the capital stack for a moment of time. Meanwhile, Brookfield is offloading another trophy office building in downtown LA, this time for 50% below its outstanding debt.
Today’s issue is brought to you by FNRP. Explore their latest investment opportunity, Horizon Village, a shopping center in Phoenix, AZ.
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Market Snapshot
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CRE Financing
Equity Investors Find New Opportunities as Debt Offerings Decrease
With lenders tightening their belts, the CRE industry is adjusting to a new reality where debt becomes a pricier commodity, reshaping how deals are structured and financed.
On the decline: According to MSCI, a trend has emerged where loan-to-value (LTV) ratios are being trimmed across the board. CMBS providers, in particular, have made notable cuts, reducing their LTVs by 14% to 55.7% from 2015 to 2023. This recalibration has led to a greater equity injection for penciling deals, potentially opening the door for investors.
Between the lines: “The CMBS market and the origination shops are geared towards execution,” Polsinelli shareholder John Vavas said. “The only way to do that right is to offer a lower-leverage deal. Higher interest rates, higher carrying costs, all equates to an increase in the need for equity for deals.”
Why it matters: The average loan size for CMBS lenders has surged, reaching nearly $22M in 2023, up from $10M in 2015. This growth, partly attributed to fewer deals, reflects a strategic shift among CMBS lenders towards lower LTVs. This trend predates the pandemic and has become more pronounced with recent interest rate hikes.
Data Courtesy Of MSCI Real Assets
Long-term impact: Tightening lending standards is a familiar response to economic downturns, with expectations of relaxation when conditions improve. However, the enduring financial viability of properties poses a long-term question. Jim Costello, MSCI Research Executive Director, suggests that while the immediate response to interest rate increases is lower LTVs, other factors, such as property income levels, could sustain cautious lending practices.
➥ THE TAKEAWAY
Big picture: CRE is in a phase of recalibration. The current climate, where borrowing costs mirror equity costs, prompts borrowers to seek additional equity partners rather than accruing more debt. This presents opportunities for equity investors in the CRE space. However, the window is closing. Elizabeth Wohlleb of Cresset Partners anticipates a return to pre-pandemic or early 2021 leverage levels as interest rates stabilize.
TOGETHER WITH FNRP
5 Reasons Why This Investment Could Be for You
First National Realty Partners is inviting accredited investors to partner with them on their latest investment opportunity: Horizon Village.
Horizon Village is a 113,252-square-foot shopping center located in Phoenix, AZ, one of the 10 most populous cities in the country per RetailStat. The center is 97% occupied and offers investors the opportunity for stable cash flows with potential upside.
5 Reasons Why This Investment Could Be for You
Institutional Favorite: Retail centers are on the rise as a preferred asset class according to CBRE, the Wall Street Journal, and many other sources
Prime Location: Dense, neighborhood in-fill location in rapidly growing Phoenix
Strong Tenant Mix: The center is anchored by a 62,868-square-foot Food City grocery store, an affiliate of Raley’s Supermarkets, and has operated at this location for over 20 years. Joining Food City are tenants including Ace Hardware, Oak Street Health, Buffalo Wild Wings, Burger King, Subway, and Boost Mobile.
Off-Market Advantage: Sourced through FNRP’s vast network of sellers
Passive Partnership: Leverage one of the leading sponsors of private equity commercial real estate for the potential to earn passive risk-adjusted returns.
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✍️ Editor’s Picks
Debt snapshots: A recent U.S. capital trends report through 2023 by MSCI reveals a 24-year high in the spread between corporate debt and CRE mortgages.
Billionaire blues: Billionaire Charles Cohen faced a $534M lawsuit for delinquent loans on hotels, design centers, and theaters as his total late debt surpasses $966M.
Navigating turbulence: S&P Global Ratings lowered its outlook on five banks due to their CRE exposure, affirming ratings with some mitigating factors.
Check-out, check-in: Douglas Development sold the 234-room AC Hotel in DC to Apple Hospitality REIT (APLE) for $116.8M as DC’s hotel market improves.
Transition triumphs: Former comptroller Brian Brooks was promoted to CEO of Meridian Capital Group, facing scrutiny from Fannie Mae and Freddie Mac.
🏘️ MULTIFAMILY
Multifamily momentum: CBRE’s 2024 Multifamily Investor Intentions Survey found 62% of respondents plan to buy more while 40% plan to sell, with 47% favoring high-risk strategies.
Hitting up Hollywood: Kushner Companies (KLOC) plans to buy plots in Hollywood for a 480-unit apartment project, and is seeking approvals for development.
Ritzy revamp: The long-awaited One Winnetka mixed-use development in a ritzy Chicago suburb was approved, featuring 59 residential units and 21KSF of commercial space.
Real estate roundup: February saw a record-setting supply of 644K apartments delivered, with 966K under construction. Housing starts hit 1.5M, up 5.9%.
🏭 Industrial
Crystal ball: Prologis (PLD) predicts a federal funds rate in the mid-4% range at some point this year, with the 10-year Treasury yield dipping below 4%.
Data boom: Developer DPK Hillside LLC plans a 245KSF data center in Hillside, Illinois for ‘hyperscale’ data tenants. The project is expected to be completed in two years.
🏬 RETAIL
Taking center stage: Netflix (NFLX) plans to open the Netflix House entertainment venue at PA’s King of Prussia mall with retail, food, theaters, and novel experiences.
Revamped food hub: American Real Estate Partners and Mothersauce Partners have reopened a 30KSF food hall in Rosslyn City Center in Arlington, VA.
Retail realty revival: CTO Realty Growth (CTO) finalized a $68.7M purchase of the 318KSF Marketplace at Seminole Towne Center in Orlando, FL.
🏢 OFFICE
Rents holding steady: U.S. office markets face high vacancies and record sublease space, but rents are holding at $35.24 PSF on average.
Bubble trouble: Speaking of which, U.S. office rents have risen to an average of $35.25 PSF, with increasing vacancies threatening market stability.
Trading spaces: FINRA is in talks to lease 40KSF at 101 N. Wacker Drive, part of a trend of office downsizing.
FIRE SALE
Brookfield Flips TrophyTower in DTLA for 50% Below Outstanding Debt
Brookfield's Brian Kingston and 777 South Figueroa Street (Getty, Brookfield, Carol M. Highsmith/Public domain/via Wikimedia Commons)
Brookfield Properties is selling Downtown LA's 777 South Figueroa Tower to South Korea's Consus Asset Management for around $145 million, 50% below its outstanding debt.
A trophy no more: Once a crown jewel in Brookfield's portfolio, the 777 Tower, encompassing 1 million square feet, is being sold for what seems like a bargain at $145 million. This transaction is indicative of the current market rate in Downtown L.A., roughly translating to $145 per square foot.
Zoom in: For context, the AON Center nearby was sold to Carolwood for $147.8 million, or $134 per square foot, in a transaction that also involved a deed-in-lieu of foreclosure.
Financial fumble: The backdrop to this sale includes Brookfield defaulting on $319 million worth of loans for the 52-story building, pressured by rising interest rates. With the tower's occupancy at about 52% and after receiving upwards of 15 bids, Brookfield opted to sell.
➥ THE TAKEAWAY
What they are saying: This sale highlights a broader trend in the Downtown L.A. office market, currently grappling with challenges from remote work, high vacancies, and loan defaults. Beyond the 777 Tower, Brookfield has defaulted on over $1 billion in loans related to its Downtown L.A. properties within the last year. However, BAM CEO Bruce Flatt has downplayed the impact, calling it a minor issue within the broader business scope.
📈 CHART OF THE DAY
Jerome Powell will go down in history as the Federal Reserve Chair who presided over the agency as it posted a record loss of $114B in 2023, with almost no U.S. Treasury remittances or capital surplus transfers to make up for it.
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