Scott Allan asked:
As more money flows into real-state-related investments, new and innovative financing products are following. In commercial real estate, mezzanine financing continues to be a hot topic. So what exactly is mezzanine financing, anyway? To begin answering this question, we must look at the characteristics that make up mezzanine financing.
What it is
By definition, a mezzanine loan is a hybrid of debt and equity, generally subordinate to any senior debt. It is often used to fund expanding companies. Given the loan’s subordinate position, the lender usually receives a higher coupon rate than what would be on the senior debt.
Mezzanine financing usually contains a convertible feature, which allows the lender to realize any gains associated with a project’s success, which could further increase the total yield. The lender also can switch to ownership or equity interest in the company if the loan is not paid by the agreed-upon date.
This is what makes mezzanine financing attractive to investors and lenders — it offers the yield of an equity investment, with the protection of being in a creditor position.
So how can mezzanine financing benefit your clients? Given the continued tightening of banks and senior lenders with respect to their loan to values (LTVs), borrowers are forced to put more capital into projects. Many commercial borrowers, including developers and individual investors, are looking to use as much leverage as possible, keeping them liquid and hopefully, maximizing returns.
Depending on the type of project the borrower is getting into, however, high leverage may not always be the best way to structure the deal. It may cause negative cash flow or eat up most of the potential profits.
Mezzanine financing can be provided to the borrower quickly, with little or no collateral and with minimal due diligence. Because this type of funding can be a valuable tool for investors and developers, it is a product you should be familiar with and that you should be comfortable explaining to potential clients.
Although by its nature mezzanine financing has no set terms or structures, there are some common deal terms used in these real estate transactions. New Jersey Real Estate Guys is an information based organization who specializes in all aspects of real estate.
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