Commercial real estate brokerages and investment banks are having conversations with global institutional and individual investors which are seeking to put into place new debt and equity partnerships to be ready for investment once the transaction market resets.
“Six months ago, many institutions were in a holding pattern to figure out what is going on. If you called them on a particular opportunity, they’d say, ‘It’s a little too early and we need to wait and see how things will play out.’ But now, from an economic standpoint, we are seeing an increased level of activity towards structured investments and people are getting more comfortable with the new norm,” said Jim O’Brien, a managing director in the real estate banking group at Milwaukee-based Baird Global Investment Banking.
Baird has a 16-person team in Tysons Corner, Virginia providing traditional investment banking and advisory services. The group primarily focuses on clients who want to raise joint venture equity for single assets or programmatic capital for assets or strategies.
This included entity-level capital, mergers and acquisitions across public and private companies and structured investments, like recapitalization portfolios. The firm can also line up preferred equity across a portfolio or at a company level, O’Brien added.
“There is a heavy desire to be more in debt structures as opposed to equity,” O’Brien added. “A number of parties think the risk-return in a preferred equity is more attractive than a senior debt piece. There is a higher interest level there.”
Baird believes there is a need for investors to create partnerships with great operators which can bring other execution and origination skills to the table.
“An institution can lock in partnerships that will allow them to quickly respond to situations that are probably off market because of the current environment. For the institutions I would not wait to set up these partnerships. Having an established partnership in place will create a huge advantage in pursuing the perceived opportunities that are here and the more that are coming,” he said.
Baird, like many of its peers, has strong institutional relationships. “When a client hires us to find joint venture capital in a 90-10 structure, we have a network of more than 300 domestic and international institutional investors to execute on those deals,” O’Brien said.
The cost of capital
As Baird has gone out to speak with clients and prospects, debt has been one of the most significant parts of the discussion.
“When we are trying to raise JV capital for ground-up development or acquisition, either single-asset or programmatic, the first question is, ‘Have you had any conversations about debt? What are the terms you’re getting?’ There are concerns about how much leverage you could get. In the past, you could 70-75 percent. That is more like 50 or 55 percent today. They’re also asking about rate, and how expensive it is, and they are razor-focused on yield on costs,” O’Brien said.
As mentioned above, debt is a major focus. “That is still probably rather high list of an investor’s understanding very early on in every type of process – what debt do you have, have you been in discussions and what are the key elements of the debt terms,” O’Brien said. “Debt is playing a significant role in every transaction we are involved in now. It comes to the point that if you can get debt at 6.5 percent and someone wants to sell you a building at a 5 cap, it doesn’t make sense.”
Financial versus operational distress
A lot of the distress seen in today’s market is coming from financial distress, rather than performance, O’Brien said.
“With that said, if you look at the office sector, there are parties that will say, ‘Class A trophies will be fine but there is a subset of office that will be challenging.’ The retail side is interesting, and we see and continue to see a tremendous amount of strength in grocery-anchored retail. It has proven itself to be very resilient because it is necessity-based,” he added.
While transaction activity continues to be depressed, the firm has been active on deals which include a ground-up development for a multifamily asset, a programmatic relationship for a multifamily owner-operator, a JV with a debt fund and one hotel company transactions, O’Brien said.
“It has not been easy. When you talk to investors, a good portion are cautious, and a good portion are looking for that Grand Slam. With that said we see the fourth quarter of 2023 as a time to prepare for the opportunities that will come in 2024,” O’Brien said.