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Real estate finance - Christmas round up

16 December 2011

For much of 2011, developers and investors have been concerned by what they perceive to be a general withdrawal by lenders from the market for the funding of commercial real estate development.

The Property Banking Forum, a joint initiative from the Investment Property Forum and the Association of Property Bankers, recently published a report on UK development finance. It turned up some interesting results and we have summarised the highlights below.

Who is doing what?

Of the 29 lenders and 24 property companies surveyed, the forum revealed that 11 lenders (including 5 UK lenders) have already concluded transactions this year. The remaining lenders confirmed that they either had no plans to provide development finance (10 lenders) or else showed "encouraging signs for lending in the future" (8 lenders). Interestingly, 5 of the insurance companies and one mezzanine fund who were surveyed confirmed that they have no intention of providing any development funding, although they indicated that they would be prepared to participate in forward funding arrangements.

Availability of development finance

The report also revealed that, whilst development finance was obtainable, its availability was regarded as selective and expensive, with many developers now taking the view that they would "have to adapt their business models to survive". Of the banks surveyed, 16 of them expected to lend in excess of £2billion of development debt in the UK in 2011, both at levels below £10m and also at the £10m-£50m threshold. Whilst some lenders indicated they would be prepared to lend in excess of £50m, it was reported that this would only be for the very best sponsors who could offer excellent development opportunities and that, in these limited circumstances, the ceiling for lending would peak at £125m. Interestingly, 13 of the lenders surveyed revealed that they were happy to lend regionally, somewhat dispelling the myth that regional lending is often more difficult to obtain.

Speculative funding remains, unsurprisingly, a particular challenge for borrowers, many of whom confirmed that they will actively consider preferred equity in the event that banks are not willing to lend at all or in sufficient amounts.

Preferred development sectors

6 of the 16 active lenders confirmed that they were prepared to lend in the office, retail, industrial, residential and hotel sectors. Perhaps unsurprisingly, the strongest areas of interest were office and retail, but the report also suggested that there was a wider level of interest across all property types, which is encouraging, especially for the residential sector which has been especially hard hit in recent years.

Mode of lending

Most of the lenders surveyed confirmed that they prefer to operate on a bilateral basis, largely for reasons of greater control. In syndicated transactions, it is usual to obtain the consent of the majority lenders to any variations or amendments which can, potentially, lead to disagreement amongst the syndicate and delays in making important decisions. With bilateral loans, there is only one lender, hence the decision making process is wholly within the control of that particular lender. In a difficult market, one can understand why bilateral lending is likely to have greater appeal.

What is in store for 2012 and beyond?

The lack of funding (or, to be more accurate, restricted availability of funding) is attributable to a number of different considerations, not least the current debt crisis and general global economic climate. It therefore seems unlikely that we can expect to see any immediate signs of recovery in our sector in early 2012.

It is also important to note the new capital adequacy requirements under Basel III which, when implemented in early 2013, will introduce a new global regulatory standard on bank capital adequacy and liquidity. These regulatory changes and increased funding costs will further impact on the availability of finance and will result in an additional increase in the cost of lending across the banking industry. These requirements will be introduced on a global basis (with modifications). They are likely to prove costly (and therefore unpopular) for borrowers, but these measures have been introduced on a global scale to address the deficiencies in current financial regulation and prevent the repeat of another financial crisis, thereby protecting the global banking sector and its investors for the future.

Our real estate finance team are at the forefront of market developments and are well placed to assist you with any of your funding needs. To find out more, please contact Nina Armstrong or Paul Ray.

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