Should it be part of your Unconventional Equity Strategy?
As higher interest rates start impacting your ability to meet debt servicing requirements, we are asking the question “Should Mezzanine Debt play a part in your financing strategies?” For some time now we have been suggesting that investors bring unconventional equity into their overall financing approaches. Current high market prices and growing competition have effectively rendered traditional 65% to 75% bank debt / 25% to 35% equity funding options almost obsolete. Now higher interest rates are compounding the problems by their negative impact on debt servicing requirements.
For so time now we here at NorthBrook have been suggesting investors get more creative with their financings and bringing in various forms of Unconventional Debt to achieve their long term goals. (see https://northbrookcapital.com/unconventional-equity/ ). Continuing with those ideas we turn our attention to Mezzanine Debt to add to what we hope are your growing list of options for getting your properties financed and to grow your portfolios.
Mezzanine Debt is often a misunderstood and as a result little used for of financing. This is primarily because Mezzanine Debt is a financing instrument that can have many different terms and conditions attached to it.
In its base form Mezzanine Debt is funding that sits between traditional senior debt (typically your 1st charge bank debt) and your equity. But depending on what terms and conditions that get attached to the Mezzanine Debt that can be positioned a lot of places on your balance sheet.
- It can come after your second mortgage
- It can come before or after your preferred equity shares depending
- It can carry a low current pay interest rate or be all accrued interest
- It can be short term (1 to 2 years) or very long term (8 years (+)
- It can participate with you in the long term profits from the property
- It can have the right to take everything in the event of a default
Mezzanine Debt in its most common form is high risk debt, commanding rates between 12% to 20% per annum. However, like Unconventional Equity, Mezzanine Debt can be structured with legal options that can significantly reduce the associated risk and therefore bring the rate down.
The security supporting the debt can also be customized depending on the property, the returns you expect from that property and the preferences of those providing the debt.
As an example, if the target property has a very stable rental base, or a portion of the tenant base is stable, attaching a security interest to that rental flow, post-DSCR requirements, could create a risk-mitigant that results in a reduce interest rate on the debt. Alternatively, depending on the property’s overall cash flows, that portion of the rents could act as a replacement for a monthly interest payment.
In these competitive times investors can no longer rely of past practices to grow their holding. Investors must create new partnerships with new approaches and innovative thinking to meet their objectives.
Open For Business
NorthBrook’s advisory services have the potential to make a material change to your acquisition & funding strategies and add to your long-term profitability. They are available now for all who wish to take advantage of them.
Would you like more information on how Mezzanine Debt can help you build your portfolio?