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Apache’s chief executive on sourcing debt for the UK build-to-rent residential sector

The firm has three schemes under construction in the emerging sector.

Apache Capital Partners, a London-based real estate investor, is one of the few firms delivering purpose-built for-rent apartment buildings across the UK. It has three schemes under construction as part of its joint venture with developer Moda Living. Of these, the 466-unit Angel Gardens in Manchester will be the first to open its doors to renters in October.

To support the strategy, Apache has sourced debt from lenders including pbb Deutsche Pfandbriefbank, LaSalle Investment Management and Goldman Sachs’ merchant banking division. Real Estate Capital met co-founder and chief executive, John Dunkerley, to discuss sourcing finance in a nascent segment of the property sector.

Why did you launch Apache?

Richard Jackson [the managing director] and I set it up in 2008, to take advantage of the reduction in property pricing. We talked to institutions about opportunities such as prime central London residential and buying land from housebuilders. But investors were fighting fires at the time, so it was difficult to raise capital.

Instead, we decided to raise money in the Middle East, as we’d both done work there. It’s a difficult market to get into, but once you’ve gained trust, investors stick with you. A lot of wealth managers have offices in Bahrain, so I went there and was introduced to our family office by the British embassy. Initially, we were funded on a deal-by-deal basis. We worked up to larger deals in student housing and retirement home development, raising money on the back of the returns we generated.

Why did you become a BTR developer?

By 2012, we thought student housing was too expensive, so we considered what was the next big thing. There was no BTR, and there is still very little. We saw Delancey buy the Olympic Village to create BTR, so we saw it as an asset class with potential. In 2015, we created a joint venture with Moda, which was looking for funding for Angel Gardens.

Legal & General was one of the first big institutions to say it would put a lot of money into alternatives, so we decided to develop what institutions would want to buy. In 2018, we established a platform with Harrison Street and NFU Mutual and we are in discussions with other institutions about a second platform. We’re moving from funding by the private investor to institutional backing, and we’ve done that by focusing on alternative property.

As big US institutions have built large portfolios in the UK student housing sector, yields have compressed, so development opportunities are less exciting. BTR is where student housing was 10 years ago.

What role does debt play in the strategy?

The right kind of debt can be very accretive to returns. In our first platform, we used relatively high leverage: loan-to-cost of around 65 percent, which translates to 50 percent loan-to-value. For that platform, we think we can deliver a 20 percent return on a portfolio basis. This will initially be driven by capital growth, but will transform to being driven by income as the buildings are let.

BTR income is linked to inflation, so it allows institutions to match their liabilities. For our next platform, as our capital base becomes more institutional, we will aim for returns of 7-8 percent. Institutions want lower leverage, to manage downside risk, so we are more likely to look for finance which translates to 30-40 percent LTV.

Is it difficult to source debt for BTR?

Sourcing debt is difficult. You need to rely on debt funds because they need to deploy capital and can offer certainty. We have experience of banks offering us a provisional set of terms, but when the eventual valuation came back it was lower, meaning the deal didn’t stack up. That is a problem when you are under pressure to finalise your construction contract. Investors demand competitive debt terms, but banks will usually only go to 50 percent LTV. It doesn’t work when you require higher leverage to support returns targets, as with our first platform. If you need 65 percent LTC, banks are not likely to provide it because of a lack of transactional data in the BTR market.

How much does debt cost?

It can be in the 6.5-8 percent range for up to 65 percent LTC. Investors do not necessarily like that, as they are used to paying 5 percent for student housing. To help us access cheaper bank debt, we’ve spent time working on a structure through which a bank and a debt fund could work together to fund schemes with a whole loan. Banks charge more like 3-3.5 percent for up to 50 percent LTC.

Do you expect banks’ appetite for BTR to grow?

A lot of valuers are waiting for deals to close to build data in the sector. We are starting to see yields at 4 percent and rents at a 10 percent premium for new residential developments, so liquidity from the banking sector will gradually increase. I get the impression with the banks that the guys on the ground want to do the deals but are held back by investment committees that need to make difficult decisions in this market, especially given the political climate.

Back in 2015, we borrowed from pbb Deutsche Pfandbriefbank for Angel Gardens. At that point, there were few debt funds in the market, so it made sense to borrow from a German bank that was able to rely on its experience of financing multi-family properties in continental Europe.

What could lenders do better?

I’d like to see banks be more flexible in their underwriting. Valuers make certain assumptions, such as lower rents, despite market conditions improving. Debt funds are more flexible.

Above all, we need certainty of funding, because delaying build contracts can mean increased costs, which can jeopardise a deal. But these are the problems you need to manage as an early mover in a market.