This article is sponsored by Bravo Capital
As the commercial real estate debt and equity markets continue to navigate a historic increase in interest rates – and an estimated $1.9 trillion wall of maturities over the next three years – sponsors are increasingly seeking shorter-term loans to help them bridge the gap to a better market, and lenders that can be flexible in their approach.
New York-based Bravo Capital – a commercial real estate lender that provides a broad spectrum of capital solutions spanning bridge financing, HUD loans, preferred equity and mezzanine debt – sees growing appetite for these creative solutions as developers and borrowers look to get projects over the line.
For Aaron Krawitz, founder and chief executive of Bravo, the increasingly challenging market backdrop calls for more collaborative relationships within the industry. “We see ourselves as advocates for our sponsors and our borrowers. We are true partners.”
Managing director Aidan Birnbaum predicts that, with the days of “hyper-cheap” capital now over, sustained uncertainty over rates – coupled with traditional bank lenders’ retreat from the market – will herald fresh opportunities in the alternative lending space over the next 12-24 months.
As developer strategies shift, both Krawitz and Birnbaum point to the growing importance of an established track record when it comes to liquidity and capital provision.
Birnbaum says: “Lenders, like Bravo, that are able to meet both bridge and mezzanine demand are going to be able to fill a lot of the holes.”
What has lending activity been like this year? Where have you seen the most demand from borrowers?
Aaron Krawitz: I always think that, as the economy changes, strategies change from a developer’s perspective. A few years ago, we saw a predominant strategy being a light value-add and then a flip. These days, to generate a return that would be supportive of the higher interest rates, we’re often looking at a much heavier lift.
We’re seeing more groups enter into hotel-to-multi conversions or ground-up construction. In theory everyone wants to do retail-to-multi conversions or office-to-multi conversions, but the floorplates are really the constraint. So it is often cheaper to do ground up rather than convert. We’ve seen more success with extended stay hotels, where it’s already configured somewhat like a small home and those floorplates give way to conversion a little bit better.
There is also more activity in healthcare, as that typically also generates a higher return that could be supportive of where interest rates are today.
Aidan Birnbaum: We see developers now shifting their focus and putting more of their time and effort into acquiring parcels of vacant land, starting from the ground up and doing development projects, rather than doing center-margin value-add products in this higher rate environment.
How are bridge loans helping borrowers to navigate the current rate environment?
AB: Many existing borrowers started projects back during the post-covid era, where capital was very cheap, and they were able to get construction loans at very low interest rates. But now they are towards the end of the projects, they maybe need a little more money to go that final mile to lease up and to finish construction, or even to just see that middle stage of the project through.
Bridge financing is a very good solution to provide more liquidity to borrowers who have taken out lower-leverage bank loans and are not able to refi efficiently with bank money, which has been less prevalent and has moved much slower in this higher-rate environment. Bridge dollars have been able to assist in closing quickly and providing more liquidity and capitalization to these projects, which otherwise would not have had as much.
Are you seeing a similar demand for senior loans as you are for mezzanine loans?
AK: There’s outsized demand for mezzanine financing right now, and for construction financing. With the bank pull-back, it seems like there aren’t so many construction lenders out there right now – and we are one of them. Also, there aren’t so many lenders out there currently that are lending at a 75-85 percent LTC or LTV.
The fact that we have a mezz product that goes higher in the capital stack, are very active, and have newer capital for construction financings helps us stand out in a not-so-crowded market right now. Many people traditionally thought construction or mezzanine finance is inherently riskier than financing the stabilized multifamily value-add portfolio, the reasons being that, for mezzanine, your collateral isn’t the property but a pledge of the company, which is inferior collateral, and for construction you’re taking construction risk in your financing.
“There are fractures in the market – there is a wave of maturities, there are sponsors who are upside down – but this presents an opportunity for creative solutions”
But I’d say working with a top-tier sponsor on a lower-leverage construction loan is a more protected position than a higher leverage light value-add that is priced to perfection.
AB: The rising rate environment also brings up equity demands for borrowers who are in existing projects, or who are looking to take on a project, or have plans for a project. Now their budget has increased, you’re going to see mezzanine loans become more of an option for, or more appealing to, those borrowers who are looking to increase the size of their capital stack to fill that gap.
What sectors and markets are most interesting to Bravo Capital right now?
AK: The themes where we see opportunity are very much both in the construction multifamily sector and in the healthcare sector. We have the benefit of being a national lender, and we see the differences between a construction project that is trying to be built in California versus a project of similar size that’s in the process of being built in, for instance, Texas. In the latter case, the ability to build faster with less bureaucracy has been a magnet to attract opportunity. Regionally we’ve seen states that have been more business-friendly and are attracting development dollars.
Are sponsors using interest rate caps more frequently? What other hedging strategies are you seeing?
AK: On bridge transactions that have already been built, and that are stabilized, we have been requiring interest rate caps. Most of the time, it’s just been something conventional – we haven’t seen our sponsors propose anything too innovative using one of the major interest rate cap providers. On the construction side, though, we have seen situations where a cap was not required, so there’s some differentiation there.
Are you seeing more demand for and interest in HUD loans?
AK: The fact that HUD loans are always there is a relief to sponsors. HUD has always seen an uptick in volatile times when people want certainty of execution for their biggest, most important projects.
“We see developers shifting their focus and putting more of their effort into acquiring parcels of vacant land, starting from the ground up and doing development projects, rather than doing center-margin value-add products in this higher rate environment”
HUD loans have several appealing features, including the fact that the interest rates are incredibly competitive, and often among the lowest in the market. The proceeds are also competitive, often among the highest in the market for cash-out market rate, with multifamily at 80 percent.
What is less well known is that, even as interest rates go up, forward-thinking borrowers know that HUD rates are easy to ratchet down. In terms of interest rates, there’s a product called the 223(a) (7), where one can execute an expedited refinancing to lower the rate.
What is your broader outlook for the market for the rest of this year and into 2024?
AK: There are a lot of problems in the market – there’s a wave of maturities, there are sponsors who are upside down – but this also leads to opportunity. Specifically, opportunities from a financing perspective that involve being creative, having creative capital and bringing solutions to the table, whether it’s mezzanine, or preferred equity, or bridge transactions that are structured so that there are earn-outs.
When we’re in an environment like this, where the headline interest rates are posing problems for borrowers, we have lowered our bridge interest rate on a case-by-case basis for sponsors who needed a flexible solution. We have aligned ourselves with sponsors, when they were in a situation where a different existing lender was being difficult and was calling foot faults on covenants. We’ve also taken them out of other loans where the lenders might have been in distress and were acting in short-term ways.
Structurally, we are privately held, we’re institutional-grade, and we have our checks and balances, but can move very swiftly and decisively. In this type of choppy market, I’ve found it to be very valuable to have a nimble and well-capitalized lender on your side.