Hey Folks -- I have posted here a few times about multifamily. Im a passive investor in several traditional value add deals (wont post about those current challenges in this post). However I have participated in a new build in Georgetown, TX recently and would love the group's opinion.

High level summary -- Feb 2020 256 unit Class A+ investment (Precovid). Floating rate construction loan. Ran into supply chain issues and labor shortages in the area. Additionally have had issues getting final sign offs with some contractors, city, etc. In total the full build cycle was ~3.5yrs (way longer than forecasted). There have been slight cost overruns that the developer financed. The floating rate construction loan obviously has been a negative during this rate hiking period. Anyways the property is now 55% occupied and fully signed off by the city so the asset is going through a refi to get out of the construction loan. I was ASTONISHED to hear that with the refi there would be no distribution to the equity passive investors. The rent is far outperforming the proforma and even though the market has "come down to earth" in last 12 months I'd still assume the property value is significantly higher than the build cost & equity pay out would be available(For this deal the PPM projected 66% payout @ time of refi).

My general question is -- Have you ever seen a new build where they did not pay out a significant distribution once completed and refinanced? It seems very odd to me. Should I dig in and ask details about finances and where all this money is being allocated?

Any guidance/feedback is greatly appreciated! Thanks.

Read your PPM.

Working in multi-family during COVID, I have a hard time believing that the developer is just eating the cost overruns and that they were minor... I work for a sub and we had to go back to he developer for hundreds of thousands of dollars in material cost increases and other trades (framers specifically) were coming back for millions in additional costs.

Dig in and ask questions. Nothing wrong with that.

My guess is that they got roasted on the increased cost of essentially everything. They also probably can't refi at the value they were hoping for. Times are tough right now.

It is a lease up deal. Big difference from what you are talking about. It is actually leasing up well and is a great product. OP will ultimately be fine but the refi in to a bridge loan is painful. At least it will be fixed for a while.

And to answer the original question… The proforma was assuming an agency refi much sooner at rates significantly lower in order to return capital. Now you are way behind on timeline and refinancing with a bridge loan. Hang on and be happy you didn't get capital called.

As the Director of Capital Markets for my development company, I can tell you that's how it is right now. If you signed up for a floater, you probably had a low 4 handle on your debt, today that's pushing 9% - Banks are limited on proceeds based on DSCR cover ratios and with 2x in interest, your rents really have to appreciate rapidly to even maintain leverage on refi.

Be grateful you're not being called for capital to pay for interest. Seeing a lot of that.

Also for all yous involved in syndications with floaters, insurance or taxes are going to really suck the wind out of the NOI and the DSCR coverage. So Repairs and Maintenance is gonna start taking a hit. Lenders are absolutely not messing around on property condition issues and the credit box is narrowing. If you're in an older asset syndication trying the lifestyles unlimited playbook where your deal lead was a certified nurse anesthetist turned MF guru, better start working on your intestinal fortitude. Even more so if the plan was to renovate and push rents.

Cause first you're going to get a capital call for the cap strikes. Then you're going to get capital call for some deferred maintenance that needs to be completed before or escrowed after loan closing. Then they are going to hit you for a capital call for the cash-in refi because where the interest rates don't hit you, the cap rate will hit on the value.

I think we are about to watch the tide roll out and who's swimming naked and who's not. Just be thankful you're not in the office side of RE!

Apartment rents are on the verge of declining due to massive new supply.

https://www.cnbc.com/2023/09/08/apartment-rents-on-verge-of-declining-due-to-massive-supply.html

I promise I'm not normally this doom and gloom!

HoustonAg_2009 said:

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Hey Folks -- I have posted here a few times about multifamily. Im a passive investor in several traditional value add deals (wont post about those current challenges in this post). However I have participated in a new build in Georgetown, TX recently and would love the group's opinion.

High level summary -- Feb 2020 256 unit Class A+ investment (Precovid). Floating rate construction loan. Ran into supply chain issues and labor shortages in the area. Additionally have had issues getting final sign offs with some contractors, city, etc. In total the full build cycle was ~3.5yrs (way longer than forecasted). There have been slight cost overruns that the developer financed. The floating rate construction loan obviously has been a negative during this rate hiking period. Anyways the property is now 55% occupied and fully signed off by the city so the asset is going through a refi to get out of the construction loan. I was ASTONISHED to hear that with the refi there would be no distribution to the equity passive investors. The rent is far outperforming the proforma and even though the market has "come down to earth" in last 12 months I'd still assume the property value is significantly higher than the build cost & equity pay out would be available(For this deal the PPM projected 66% payout @ time of refi).

My general question is -- Have you ever seen a new build where they did not pay out a significant distribution once completed and refinanced? It seems very odd to me. Should I dig in and ask details about finances and where all this money is being allocated?

Any guidance/feedback is greatly appreciated! Thanks.

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Lots of solid replies in this thread already but below are my two cents.

I work in CRE relationship banking and what you're describing is not uncommon in today's refi environment. Developers are not getting to cash out with their construction loan refinances because in simple terms the loan amounts they could have gotten 12 months ago are much lower for a variety of reasons, including value and debt coverage. There just isn't much cash out available on refis today, especially when the property isn't stabilized yet. Some things I'd consider or ask about are below.

1. You mentioned cost overruns that the developer financed themselves. Did the developer self-GC and that's why they are covering the cost overruns? If not self-GC'd, did they not sign a GMP with the 3rd party GC? It sounds like there hasn't been a capital call made to date so I'm guessing there's something going on where they are trying to get some money back (if refi proceeds are even any higher than construction loan financing) to cover the cost overruns.

2. Interest rates are crushing developers on refis out of construction loans not only due to interest costs rising, but also higher rates crushing value due to cap rate inflation. Even the best property out there has probably seen a 100 bps increase at minimum on the cap rate and when for example you're going from a 4 cap to a 5 cap, that's 20% decrease in value. Before this interest rate environment class A MF cap rates in a good market like Georgetown would be trading in the high 3s to low 4s, which at that low of a cap rate causes huge swing in value when it increases 100 bps.

3. Interest rates are crushing the refinance market due to coverages. If the rate is higher (fixed or floating), the NOI to cover the same amount of debt available 12-18 months ago needs to be higher as well. All lenders underwrite to debt coverage first and foremost, and then are constrained by things like value and cost. For example on a 5 year $25M loan at 4% fixed you need a $1.25M NOI to hit a 1.25x coverage. Take that same property today with the same NOI but on a 6% fixed rate loan your loan proceeds are cut to under $17M to hit the same 1.25x coverage. In short, all the increases from proforma are probably the only reason you're not having to have a capital call to take lower loan proceeds than the construction loan today.

4. Your interest cost is likely much higher than originally proforma'd and that is affecting the ability to make distributions. At 55% there's no way the property is cash flowing after debt service yet.

5. Why can't your developer stay in the construction loan until the property stabilizes? Is the construction lender unwilling to work with them on a short term extension? This seems odd to me. It is better to let the property stabilize and then go to the refi market then, when more lenders will want to look at it and the property has stable cash flow. What's the plan with the property? Stabilize and sell or put permanent debt on it? If perm debt, it makes no sense to refi now unless the new lender has a good pre-stab program offered at the current 55% occupancy.

6. This lines up with the above, but financing is hard to come by right now. Banks for example aren't really lending because there are no payoffs (nobody has wanted to sell good assets in this environment/there's a shock to the system because of how much interest rates have affected value) and office loans causing stress on their portfolios, especially at smaller and mid-size regional banks.

Hope this helps and good luck!

They are refinancing with a bridge loan because they have to. Not because they want to. Delays hurt. Should have taken it out to market earlier. Now deals are trading at (optimistic) or below cost right now.

First off Thank you everyone for your input/feedback. Really cool to see people chime in! Sorry I'm late on my response.

Just to add a few more details;
Refinance floating loan with cap @ 6.45%. Can't find their loan assumption in the PPM, but one can assume it was lower than 6.5%
Final budget shortfall was ~$1.9M. It was covered (w/ interest) by the developer/partner. The refi will repay most of these shortfalls
There are LDs being imposed on general contractor due to delay in completion, but I have my doubts it will be paid in full ($330K)
With refi out to Q3 2025 they have longer runway to wait for better selling environment.

AggieGolfer Are you invested in the deal? Would love to connect with you directly. What are you seeing cap rates @ in the Austin area for new A class deals? 4.5-4.75%? You're right no capital call, but very frustrating that the approx. 1 yr delay in construction made the deal hit refi and/or possible sell at the worst time! If this project would have been completed in Oct 2022, as originally planned, they could have sold at a much better outcome than what is reality today.

You're only 55% leased so cap rate isn't going to be super indicative given the significant time until stabilization. I would say a stabilized new construction garden style cap rates would be more like 5.0% on a real tax adjusted NOI today.

This new apt is currently in lease up phase so of course its not stabilized yet (Hope to be stabilized by Q2 2024). Exit is assumed at 5.4% Cap Rate. Disappointing to hear that you're seeing 5% caps right now!

HoustonAg_2009 said:

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This new apt is currently in lease up phase so of course its not stabilized yet (Hope to be stabilized by Q2 2024). Exit is assumed at 5.4% Cap Rate. Disappointing to hear that you're seeing 5% caps right now!

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5% cap rates are still below the current interest rate market for Commercial properties - which is really closer to ~6% assuming large-ish loan and 65%LTV or so.

Do you not like capital appreciation?

His isn't a cash in refi. It is actually a small cash out. Their basis is still good. He will make money on the deal.

aggiegolfer07 said:

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His isn't a cash in refi. It is actually a small cash out. Their basis is still good. He will make money on the deal.

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To add to this, I'm not seeing cash in refis on new MF development in TX right now.

Now maybe when deals that started construction in late 2021 or throughout 2022 come up for refis in 2025 or 2026 it'll be a different story (if interest rates/cap rates are still where they are today).

It was a joke, for now.

I work in cre finance. Pm, happy to talk through how we get deals done right now

AG -- You obviously know the deal well...Of course now I'm curious!! I have my doubts it will hit projected proforma, but do you think it'll atleast be a CoC of 1.5x?

I will be the optimist and say it is possible. Your basis is still good, but we will see what happens with fundamentals. Honestly, making any kind of return on a deal bought last 24 months is a win. I am not in yours, but I do have investments in many deals. I would be thrilled if I get 80-90% of my money back on my recent investments. I am in the business so I see deals everyday. Therefore, I am more realistic about what is going on. I think many LP investors who are in syndications believe their money is safe. Many folks are in for a rude awakening. Deals are starting to sell and/or refi where the equity is getting mostly wiped.

Austin is in the process of doubling up our Class A supply. Crazy to think about. We expect all deals to soften for a good while as we absorb all the units coming on line.

Thanks for the feedback. I also am in several passive multifamily deals (Started approx 4 years), but not in the industry. My strategy is to "dollar cost average" with reputable operators/syndicators. I will say the deal in Georgetown is with a PE firm out of the Dallas area and I don't like how they operate. I do not recommend them any longer to friends/family.

It seems like if the asset was able to participate in the tremendous increase in rent over the last 18-24 months it's likely OK (Unsure you'll make much money on it, but probably wont lose your shorts). However any deal newer than 18 months on floating debt could be in serious hot water.

Deal flow seems to be picking up with distressed sellers -- Seeing 20-30% disc off the highs of early 2022. I'd like to think that buying solid assets over the next 6 months will yield relatively good results by 2026-2028.

Generally speaking do you agree with the above?

HoustonAg_2009 said:

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Thanks for the feedback. I also am in several passive multifamily deals (Started approx 4 years), but not in the industry. My strategy is to "dollar cost average" with reputable operators/syndicators. I will say the deal in Georgetown is with a PE firm out of the Dallas area and I don't like how they operate. I do not recommend them any longer to friends/family.

It seems like if the asset was able to participate in the tremendous increase in rent over the last 18-24 months it's likely OK (Unsure you'll make much money on it, but probably wont lose your shorts). However any deal newer than 18 months on floating debt could be in serious hot water.

Deal flow seems to be picking up with distressed sellers -- Seeing 20-30% disc off the highs of early 2022. I'd like to think that buying solid assets over the next 6 months will yield relatively good results by 2026-2028.

Generally speaking do you agree with the above?

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It seems like you're asking about acquisition/rehab deals. The question I have here is, did the deals you're asking about actually execute a tremendous increase in rent and stabilize, or did they pro forma to it and then sell as though stablized at that cap rate? In September 2023 those are not one and the same.