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As core assets flounder, could mezzanine finance save the Australian property development market?

October 19, 2018 / NEWS

As core assets flounder, could mezzanine finance save the Australian property development market?

As core assets become increasingly rare during turbulent times in Australia’s property development market, there is a rising star of alternative property investment: mezzanine finance. Mezzanine loans are a means of financing property development using a blend of equity and debt. They are often thought to be the perfect solution for developers reluctant to initiate a joint venture and who are keen to maintain more of their own equity. We uncover some of the benefits of mezzanine finance…

Easy and flexible funding

One of the major advantages of mezzanine finance for developers is that they are much easier to acquire than a loan from a traditional bank as it requires no upfront collateral. Private lenders are also able to come up with more flexible terms suited to a developer’s needs than banks. As a subordinate of senior debt, mezzanine loans do entail more risk but can equally generate far greater funds than through traditional bank lending – sometimes as high as three or four times the amount.

Greater control

Many private lenders are also happy to pass up on equity options in lieu of higher interest rates so that developers retain full control at board level. Furthermore, with mezzanine finance, developers can be cushioned from the effects of the sometimes quick and volatile changes senior lenders apply to the amount of money they lend. For example, this could decrease by 10% of the total development cost within just a few months which would be hard to bear without private lending.

Retention of equity keeps the cogs turning

A reduction in loan to value ratios (LVR) means that property developers are increasingly having to stump up greater amounts of their own equity than is preferred. But having a good working cashflow is essential when it comes to keeping a project afloat. Mezzanine finance enables developers to preserve more of their equity, which as all property developers know could help protect their project against budget overruns and even enable more investment in company growth. It is recommended developers have a contingency of 5% set aside to cope with unexpected costs, which is possible if mezzanine finance takes the place of excess equity investment. Not only does this ensure operations keep moving forward, it can also speed up project launches, lowering the amount of pre-sales needed and bringing projects to market sooner than if traditional means of lending needed to be secured.

Cost savings

Another considerable incentive for developers is that although interest rates are higher than traditional loans they are also tax deductible, which means that companies can make greater savings than if they were to part with more equity. Common equity is not tax deductible, so mezzanine financing can help to create a more efficient structure that is less dilutive.

Sign of assurance

Many boards consider it a sign of the success of a project if mezzanine financing can be secured because it helps conserve cash flow and can be a sign of growth. If looking to expand, developers are less likely to want to lose capital. As such, it can even give a boost to the company’s share price. Banks too may look on companies who have been supported with private lending as more reliable, offering more favourable terms in future thanks to their proven liquidity. By the same token, if developers are able to obtain funding from a range of lenders, they can diversify their risk and reduce their dependency if one avenue should fail.

High returns for lenders

There are benefits for lenders too. Though mezzanine finance is not without its risks, it is also a relatively safe investment as lenders are assured interest payments at a higher than normal and fixed rate. It allows investors to boost their portfolio and may even provide an opportunity to own a stake in the company. With this opportunity to exercise equity investment comes the chance to yield great profits.

At Global Capital Commercial, we can help you discover what mezzanine finance could do for you. Whether you’re a property developer or you’re looking to invest, we provide private lending and non-bank financing options across Australia. If you’re looking for alternative property investment to safeguard your equity or to diversify your portfolio, contact us today.

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