Gadi Jay and Will Skinner of Blackstone tell Daniel Cunningham how they source the debt behind the firm’s European property deals
As many US private equity firms withdraw from the late-cycle European real estate markets, the largest of them all – Blackstone – continues to raise and deploy capital for its European strategy.
The New York-headquartered firm is investing through its opportunistic funds, Blackstone Real Estate Partners Europe IV, which closed on €6.5 billion in March 2014, as well as its fifth European BREP fund, which had a recent close on €6.6 billion in February.
Despite tight yields across Europe, Blackstone continues to target properties to which it can apply its aggressive asset management techniques. That includes opportunistic purchases of high-quality, well-located properties, as well as core-plus assets for longer hold periods. “Buy it, fix it, sell it,” is the mantra.
Debt finance is a crucial aspect of the business. During 2016, acquisitions and refinancings were supported by borrowings of around €5.5 billion, making Blackstone perhaps the year’s largest sponsor. Financing volumes dropped sharply from €13 billion in 2015 – a year during which several mega-deals, including the purchase of GE Capital’s European property assets, were financed. The previous year, €7 billion had been borrowed.
The job of sourcing the debt falls to principals Gadi Jay and Will Skinner. Jay worked alongside former finance head Anil Khera, who left Blackstone last August after 11 years to launch his own private rented sector residential development firm. Skinner relocated to London from New York last September.
So, how does Blackstone go about financing its deals?
“We have a track record of delivering on deals, so lenders know that when we pick up the phone to them and ask them for terms it is not time wasted,” says Jay. “There’s usually a deal to be done.”
As the equity team identifies a potential purchase, Jay and Skinner immediately begin to evaluate the debt component of the deal. “The financing is part of our underwriting,” explains Skinner. “We work with the rest of the team from day one to think through the pricing and structure of the debt. On a large portfolio transaction, that might mean arranging multiple loans broken down by geography or sector. We look for a way to optimise the cost of capital on the debt side to achieve a better equity outcome.”
In some cases, Blackstone will employ a debt broker such as Eastdil Secured, particularly when the advisor has prior experience of a deal’s capital structure or if new lending relationships are being sought in an unfamiliar country or sector. Otherwise, Jay and Skinner directly approach potential lenders with an offering memorandum. They provide information to help prospective lenders in their underwriting and ultimately liaise with them on a set of high-level terms. Based on which lender is most competitive and meets the firm’s requirements, Blackstone will move forward.
One banker who has financed Blackstone in several transactions says the firm knows what it wants from a deal. “Based on the frequency with which they access the lending market, Blackstone has probably as good an understanding as anybody when it comes to what the market is willing and able to provide on leverage and margin,” he says. “Their brand carries a lot of weight in the EMEA CRE market and they have a strong following by lenders across the continent. Given their large number of transactions and global presence, I would say speed of execution and adherence to previously established standards are key priorities for them.”
As well as sourcing the required volume of debt, covenants are an important part of any deal, explains Skinner. Pre-payment and asset-release flexibility are crucial for Blackstone, allowing it to sell assets once the ‘fix it’ part of the plan is completed. Floating rate loans written from banks’ balance sheets tend to suit most deals.
Certainty of term is also crucial. “If for some reason the market experiences disruption meaning that leasing is delayed or the leverage is impacted for a time, it’s important that we can continue to execute our business plan,” says Skinner. “We don’t want covenants which bite when they shouldn’t.”
While income-linked covenants might be appropriate for a diversified portfolio or a property with a longer than average hold-period, such tests would not necessarily work for the opportunistic investments, Jay says. “We aren’t panic sellers. In our view, the lender and sponsor interests are largely aligned and both want to see the value of an asset maximised.”
The European property lending market is liquid, Jay and Skinner argue. “There’s a good appetite for our deals,” says Skinner. “We have the luxury of having built up a reputation over time so lenders have the comfort that a deal has been well-screened.”
Investment banks’ capacity for large underwrites means that the likes of Morgan Stanley and Bank of America Merrill Lynch have financed Blackstone across multiple deals. The originate-to-distribute model operated by such lenders requires Jay and Skinner to play an active role in supporting syndication activity by working alongside the originating bank to bring other lenders into the deal. “We’ll conduct asset tours, answer due diligence questions, meet with banks which are interested in joining the syndicate,” explains Skinner. “This is a repeat game so how we behave in a syndication is important.”
Through both primary lending deals and secondary positions taken by syndication partners, Blackstone’s lenders span the banking, institutional and debt fund segments of the market. “We don’t have an aversion to any pool of capital,” says Jay.
How has the lending environment changed during the political and economic turbulence of the last 12 months?
“Each country has its own micro-challenges,” says Jay. “For instance, in the UK, it’s fair to say that some banks pulled back leverage and pricing widened a touch due to the Brexit vote, but overall, it continues to be a well-functioning market.”
In the weeks prior to the UK’s EU referendum, Blackstone successfully sourced a refinancing of its Devonshire Square estate in the City of London. Morgan Stanley underwrote a £350 million loan understood to have been priced around 280 basis points. In the immediate aftermath of the referendum result, Blackstone swooped for an industrial portfolio sold by Aberdeen Asset Management, with a £100 million loan from Royal Bank of Canada, priced in the mid-200s bps, funding the deal.
Blackstone’s largest single financing of the year came in July, when many in the market were taking a Brexit-driven time out. The firm closed the €950 million purchase of one of Ireland’s largest shopping centres, Blanchardstown, financed by a €770 million loan underwritten by Morgan Stanley.
“By and large, the European markets continue to be liquid and we are seeing more and more local banks participate in their home countries,” says Jay. “Despite the balance sheet restructuring, Italian banks are participating in more transactions and taking a bigger role in deals. Spanish banks are also coming into deals. In southern Europe, where the banking sector has had a torrid time in recent years, we are seeing recovery.”
In May, a €250 million financing of four Italian outlet retail assets was sourced from Italy’s UniCredit, which, Jay points out, was the firm’s first loan from an Italian bank on Italian assets, post-crisis. The less liquid parts of the European market are those countries outside the eurozone where local banks are unable to lend in scale and so foreign lenders are required, meaning currency hedging becomes a feature of the transaction. Last April, Blackstone closed a refinancing of four shopping centres in Turkey. The deal was concluded before the July coup attempt, although even at that stage the availability of finance was limited. Blackstone turned to Yapı Kredi, the Turkish bank which is part-owned by UniCredit. The €550 million deal, at 60 percent LTV, was priced in the low 500s bps.
“Few foreign institutions have capital allocated to Turkey,” explains Jay. “Local banks are open for business, but international lenders have retrenched. UniCredit was the exception because it has a local business. It was an important transaction for us.
“The big picture message is that despite geopolitical challenges and risks, the real estate banking system continues to operate and function. There are always some players who come in and out, that’s normal, but in general it is a well-functioning market.”
Pricing is down, Skinner adds, particularly in countries in which the property market recovery was delayed. “It’s a sign that lending programmes that restarted have got their footing. Banks have renewed confidence to take larger positions because they see stronger demand in the secondary sell-down market. I wouldn’t say we are seeing excess demand or a big movement in terms, but we are seeing a healthy sector.”
Perhaps the biggest point of difference between Blackstone’s financing activity in the US and European markets is the lack of capital markets options in the latter. Skinner, explains that the functioning CMBS market in the US provides an important source of finance. For instance, the $8.5 billion take-private of life sciences property owner BioMed Realty Trust, which closed in January, was part-financed through CMBS issues.“Even in the US, the CMBS market has not returned to pre-crisis levels,” explains Skinner. “That deal, pre-crisis, could have been done through one single CMBS issue, but we executed six deals, across multiple capital markets including fixed and floating CMBS and bank balance sheet, so as not to overwhelm any particular market and drive competitive pricing and terms for the deal.”
In recent years, Blackstone has been a significant sponsor in the faltering European CMBS market. Last March, it was the sponsor for BAML’s €141.6 million Taurus 2016-1 DEU, secured on a German portfolio and one of only two publicly-sold CMBS deals in 2016. Earlier this year, debt secured by a Spanish residential portfolio owned by Blackstone was securitised in an RMBS deal.
“We are keen to help the banks rebuild the CMBS market. It’s a very important avenue of liquidity for borrowers like us,” says Jay, who agrees that there is an onus on sponsors such as Blackstone to provide the product that can be sold into the CMBS market. “We are always mindful of how we can provide product that is appropriate for either the CMBS or RMBS market. Blackstone has been one of the largest contributors of loans to post-crisis European CMBS issuances with transactions in the UK, Germany and Italy, amongst others, having all been securitised.”
Looking forward, Blackstone is likely to remain one of the most active investors in European real estate during 2017. In March, it partnered with London-based M7 Real Estate to buy a €1.28 billion German and Dutch portfolio from Hansteen Holdings. Meanwhile, the firm is working on a circa €2 billion financing with Goldman Sachs and BAML of the €3.3 billion OfficeFirst Immobilien portfolio, the former IVG office holdings in Germany which it bought last December. On the equity capital markets, an €11 billion IPO of its Logicor platform is expected later this year unless an outright sale happens first.
For Jay and Skinner, continued investment activity means maintaining an array of lender relationships that it can call on when the firm springs for a transaction. “We have a very dynamic investing philosophy,” says Skinner, “and so we need our debt capital relationships to also be dynamic and shifting.”