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Mezzanine finance: Why you should pay attention

27/11/2018

In the new era of tighter lending criteria after the Financial Services Royal Commission, larger numbers of construction projects are struggling to secure finance through the traditional means. Where bank finance is available, it can be at a significantly lower loan-to-value ratio than it has been previously. As a result, mezzanine finance is becoming increasingly popular.

This model of financing can be especially practical for commercial developers as it has a few  benefits over traditional bank senior lending structures :

  • Faster. Finance can be easier to get than traditional bank loans.
  • Flexible. Equity and debt combinations can be tailored to your specific requirements
  • Tax deductible. Unlike common equity, interest rates can be more tax efficient

Mezzanine Finance – what is it?

A mezzanine loan allows you (as a property developer) to contribute less equity to your project. This can be especially useful in situations where equity is tied up in other projects. Additionally, it means there is no need for a developer to offer a joint venture partner equity in their project, which can dilute returns. This flexibility enables a developer to exercise more control over their project, and to retain a larger portion of the eventual profit.

In terms of how it ranks with regards to a claim on any assets, as the name suggests mezzanine finance is a form of debt which is subordinated to senior debt, and superior to the equity in the project. Mezzanine debt is generally used to fill a gap between the required equity contribution in the project and the available equity. Generally, it achieves this by securing a 2nd mortgage over the property.

Example 1: Extended Financial Reach

Earlier in the year a developer approached us for help in arranging finance for a AU$4m townhouse construction project in Brisbane. Our assistance meant that instead of them having to use all their equity as collateral for the construction, they were able to keep some aside to contribute to the settlement of another development site.

Our Solution: Using mezzanine finance we were able to assist the developer in extending their financial reach beyond what their equity would have otherwise allowed. This resulted in the developer securing a highly sought after development site.

Example 2: Debt and Equity Management

A national developer required both senior and mezzanine funding for a development in Western Sydney. The developer had already spent a considerable amount of their own money on the project, and the equity tied up in the project was hampering their ability to pursue other opportunities.

Our Solution: By arranging senior debt and mezzanine finance, we were able to allow the developer to release some of the equity already invested in the project. This equity was then able to be used in other projects.

Example 3: Overcoming Tighter Bank Lending

A successful developer had become involved in a new start-up business in the media industry. Due to its status as a new entity, banks were reluctant to lend to the business.

Our Solution: We were able to facilitate a mezzanine finance facility secured against real estate assets of the director of the business.  These funds were used by the business to pursue their growth strategy, and has now been successfully repaid via refinance from a mainstream financer.

In a nutshell

Mezzanine finance:

  • Picks up where the banks leave off.
  • Reduces the required developer equity contribution
  • Typically has a higher interest rate than traditional loans, which accounts for the higher level of relative risk taken on by the lender.

If this blog post has been of interest, and you would like to find out more about how mezzanine finance can help with your development project, get in touch with Stornoway CP today.