How to Choose a Capital Provider and Navigate Commercial Capital Markets

Financing a commercial real estate transaction is no longer a simple matter. Now, there are many considerations that must be evaluated when selecting a capital provider.

In order to increase project velocity, improve operating efficiency, conserve internal capital, increase leverage and lower the overall cost of capital, it is essential that a sponsor develop an integrated capital formation strategy surrounding acquisition, refinance and development initiatives.

Among the many things those commercial real estate borrowers in today's marketplace need to address when seeking capital are:

- The selection of the appropriate capital provider;

- Level(s) of the capital structure to be addressed;

- Control provisions;

- Rate, term, pricing and structure;

- Closing time frame;

- Inter-creditor or other multi-party agreements;

- Post closing servicing issues;

- Certainty of execution;

- Recourse provisions;

- Exit and pre-payment options;

- Operating considerations;

- Third party requirements;

- The effect of the capital acquired on tax, balance sheet, future projects or portfolio considerations, and;

- A whole host of other value-added considerations.

The first thing that borrowers must understand is that all capital providers are not created equal. There is a definite hierarchy within the world of capital providers and understanding the value-ads offered by different capital providers is important in choosing a relationship.

While many borrowers believe financing to simply be a commoditized offering, the selection of a capital provider, should take into account far more than rate and term considerations. In choosing a capital provider, the goal of any borrower should be to develop a close relationship with the firm that can provide not only the broadest access to capital, but more importantly a firm that offers best-in-class subject matter expertise, certainty of execution and as many value-added benefits and services as possible. Capital providers can most easily be broken-down into three groups:

Direct Lenders - Those that lend their own funds

- Private Lenders

- Commercial real estate investment banks

- International, national, regional and local banks

- Life Insurance Companies

- Credit Companies

- Pension Plans

- Real Estate Investment Trusts (REIT)

- Agencies (Fannie, Freddie, FHA)

- Mutual Funds, Hedge Funds, Opportunity Funds

Indirect Lenders - Those that place funds on behalf of others

- Mortgage Bankers

- Mortgage Brokers 

- Investment Advisors

- Financial Intermediaries

- Syndicators

Hybrid Lenders - Those that do both of the above

- Certain Banks

- Certain Investment Banks

- Certain Credit Companies

- Certain Financial Intermediaries

- Certain Investment Advisors

Once a borrower has selected the appropriate capital provider, it is essential that the capital provider be engaged as early on, and at as high a level as possible. Experienced sponsors realize the benefit of getting their capital provider involved early on in the planning process. Waiting too long to involve your lender will typically lead to a project built with less leverage and at a higher cost of funds. By including your capital provider in the beginning of the project planning process you will end-up with a project plan that is built around optimizing capital formation leading to greater project profitability.

Effectively utilizing the entire capital structure, to maximize leverage while achieving the lowest blended cost of funds and isolating risk, is essential to the creation of a solid capital formation strategy. In general, the farther you move up the leverage curve utilizing more leverage in the senior position the lower the overall cost of funds will be. Conversely, the deeper you move down the capital stack utilizing mezzanine or equity instruments the more expensive the cost of capital.

Selecting the appropriate capital provider and engaging them properly will aid in the streamlining of the borrowing process. If borrowers will focus on capital formation as a priority at the early stages of project planning the likelihood of increasing profits in a risk managed environment is high.