Having more than doubled its assets to $6.1bn since 2006, US-based debt fund manager Quadrant is targeting a UK and Irish market opportunity. Al Barbarino explores the firm’s strategy, in conversation with CEO Kurt Wright.
In November, Quadrant Real Estate Advisors teamed up with the Ireland Strategic Investment Fund (ISIF) as part of a concerted effort by the Atlanta-based US debt fund manager to invest more capital abroad, particularly in Ireland and England.
Through the arrangement, each party will invest up to €50 million to finance office development or redevelopment projects with senior, stretched, structured loans, and address what Kurt Wright, a founding member and chief executive officer of Quadrant, considers a major gap in the market. “By teaming up with ISIF, both parties can get better diversification for all of the clients involved,” he says.
Construction loans have been a key part of Quadrant’s business since its inception in 2006 and it has deployed about $1.5 billion worth of them since then. The firm is putting that expertise to work abroad as it seeks better risk-adjusted returns.
When Real Estate Capital spoke to Wright in mid-December, he expected Quadrant would have deployed about $250 million in England and Ireland by the end of 2015.
The risk-adjusted returns in these countries are alluring, given that both housing and offices are in near-desperately short supply in these markets. The firm has a head-start in the UK, where it opened offices in 2013, headed by senior vice-president Linda Nel.
In September, Quadrant took a £35 million mezzanine participation, at a 750 basis point margin, in a £147 million whole loan underwritten by Lloyds to finance BMO’s (formerly F&C REIT) £175 million acquisition of the Parkgate retail park in Rotherham, South Yorkshire.
In December, Quadrant wrote a £30.75 million stretch senior development loan to U+I, the UK property company formerly known as Development Securities, to finance an office-to-residential conversion of Valentine’s House, a 55,000 sq ft office building in Ilford, east London.
“The redevelopment will transform a run-down, vacant office block into a fully refurbished residential and commercial building,” noted U+I chief executive Matthew Weiner after the deal broke.
Quadrant is making headway in Ireland, too. The firm backed D2 Private and Cheyne Capital Management when the joint venture bought Cleary’s department store in Dublin, for instance.
“Based on relative value, the same opportunity in Boston versus Dublin, you get several hundred basis points more return in Dublin,” Wright says.
Through the Irish arrangement with ISIF, established in December 2014 to invest to support economic activity and employment across Ireland, the joint venture will attack a segment of the market that most regional lenders have shied away from.
“There are fantastic real estate fundamentals for office and residential – and to a somewhat lesser extent retail – in Dublin today and not a lot of lenders are comfortable in the senior stretch position,” Wright says, noting that the main banks generally lend on low-risk projects with letting or sale agreements already in place.
“There’s literally zero percent office vacancy, you’ve got a strong economy growing at five percent or more, greater job growth and companies like LinkedIn and Google have chosen Dublin as their European headquarters.”
Among other focus areas, the firm opened offices in Sydney, Australia in 2006, where it has provided more than $250 million worth of loans. The Australian operation is led by Michael Wood, senior member and executive vice-president.
In 2008 the company took over a $300 million portfolio of Australian mezzanine debt from the Government of Singapore and Australian real estate investment company Mirvac, which Quadrant “successfully managed to conclusion for investors”.
However, deals in Australia, unlike in the UK and Ireland, are few and far between, Wright says.
Building a funds platform
Capital for Quadrant’s investments has tended to come from single-client account mandates, but over time the firm has developed and managed a string of 11 commingled funds.
“Our existing core business, made up of a large group of clients who have kept us in business for a long time, remains a huge element of our strategy and is the driver that creates the pipeline for other strategies,” Wright says.
“For those investors we seek to maintain exposure for the life of the investment; if we’re doing all the hard work to find great loans we like to stay for the long term, so typically we hold everything. It’s such a competitive market and it’s so difficult to originate debt on good stuff.”
However, through Quadrant Enhanced Debt Fund, the firm is catering to the needs of that new segment of its investors that are geared towards a different strategy: securitising the loans through the commercial mortgage-backed securities (CMBS) market, selling off the senior classes and retaining the higher-yielding junior ones.
The Enhanced fund is Quadrant’s 11th closed-ended vehicle and will originate fixed-rate, first mortgages for the acquisition, refinancing and recapitalisation of commercial real estate. Wright sees a big opportunity in the $10 million to $35 million loan range.
The fund has a $700 million target and a group of public pension funds have committed $120 million for its imminent first closing, including the Public Employees Retirement Association of New Mexico.
“With rates so low, more and more investors are asking if there is an arbitrage opportunity in selling down [the senior piece of a loan] and essentially keeping the same marginal risk we had anyway,” Wright says.
“Some investors are saying: ‘The risk is at the 75 percent loan-to-value position, so, since you have that risk anyway, why not sell down the rest?’ Because, if there is a delinquency, there’s going to be one whether or not you have the whole loan.”
Wright says the fund is “a new twist on an old theme”, incorporating both the origination of loans as well as the management of CMBS portfolios, two areas where the firm has deep roots.
“The Quadrant Enhanced Debt Fund is yet another foundation piece, but it is synergistic and doesn’t conflict with our existing clients,” Wright says. “Big mandates who want to invest and hold [whole loans] will continue to see the same opportunities.
“We don’t like to do anything as a window of opportunity; if we are going to do it, we do something durable, as a strategy and not a one-off, taking a holistic approach,” he adds, stressing that the lending fundamentals, underwriting and safety of the company’s investments are unchanged in the new fund.
“We have always been very comfortable at 75 percent LTV and our track record is quite strong and demonstrates that you can make that loan through the entire cycle and do it safely,” he says.
Ramping up managed assets
Quadrant has increased the $2.5 billion in investments it held under management at inception in January 2006 to about $6.1 billion today. The firm’s clients largely consist of pension funds and insurers making long-term loans on US assets.
In a recent deal, the company placed a $135 million construction-to-permanent loan on the development of The Broe Companies’ Country Club Towers II in Denver, Colorado, sourcing that financing as part of a construction-to-permanent debt programme that makes multi-family loans between $30 million and $150 million.
The new towers will replace a portion of the 187-apartment Country Club Gardens, built in the 1940s. The Broe Companies will use part of the loan to upgrade 147 of the units.
In May, Quadrant provided a $38.3 million, long-term, fixed-rate loan to Brandolini Companies to refinance the Paoli Shopping Center in Paoli, a suburb of western Philadelphia, Pennsylvania.
Due to the nature of the firm’s bread-and-butter product – fixed-rate, three-to- 10-year loans at 75 percent loan-to-value ratios, to established borrowers with a good track record – its greatest competitors have been life insurance companies, from New York Life to Metropolitan Life Insurance Company and Northwestern Mutual.
“For the past 20 years all the major life insurance company lenders have proved that this kind of lending can be done successfully without taking on undue risk,” Wright says. “We’ll close in the US this year somewhere between $1.2 billion to $1.5 billion, in about 30 loans, and it’s fair to say that on every one the most significant competition was from a life insurer.
“This type of loan requires a little more tailoring to borrowers’ needs than Wall Street can do,” he adds. “Wall Street can’t really do flexible prepayment terms and that’s often very important to the types of borrowers we lend to. Often they are looking for a long-term hold; they are part of a family trust or a pension fund with a long-term hold orientation.”
Quadrant originates loans offering “moderate risk and moderate returns” and, Wright says, its underwriting standards haven’t changed in 25 years (taking into account previous incarnations of the firm under Wright and Quadrant’s founding members), and that all investments are made to proven borrowers.
“It’s always a very good borrower with a good track record and lots of experience in managing property and real equity – not only in property, but also in its bank account,” Wright says.
Strong US lender demand
In a third-quarter 2015 report, Quadrant noted that real estate as an asset class has experienced “dramatic borrower-friendly pricing and underwriting migration (CMBS conduit driven) throughout the past 12 months,” with lender demand pushing spreads for loans secured by the highest-quality properties closer to investment-grade, corporate bond spreads.
Meanwhile, insurance lenders have maintained prudent underwriting standards, but many are lowering pricing; banks and private debt funds are providing liquidity to transitional assets in the form of floating-
rate mortgages; and lender demand for mezzanine debt is high, including on the secondary market, although supply is very constrained in this area, the report states.
Geographically, Wright notes that the company targets dense urban or “very dense, proven suburban locations” in major markets including Boston, Manhattan, San Francisco and Los Angeles.
On the industrial side, “whether it’s a big insurance company making the loan or the [Quadrant] Enhanced Debt Fund, it’s the same markets in strong port locations or highway interchanges, with lots of other industrial development in proximity; the firm typically makes loans on a package of several buildings with tenant diversification.”
Wright adds: “We like hotels a lot. We tend to be good market timers when it comes to hotels, but it tends to be business-class hotels in downtown locations. We are very snobbish about location and, again, the key point is that our underwriting standards haven’t changed in 25 years,” he adds.
“That $25 million Garden City neighbourhood shopping centre in Long Island is just as credit-worthy, with a strong grocery anchor on a long lease, lots of history and strong demographics, as a $100 million loan on a Midtown Manhattan office building with multiple tenants,” he concludes.
The Wright stuff drives Quadrant’s ascent
Quadrant chief executive officer Kurt Wright got his start in real estate 34 years ago and has 23 years on board with members of the current Quadrant team (10 years under the Quadrant name).
He oversees all functions within the firm, setting the broad investment policy and dipping his hands into firm-wide strategies.
He and other Quadrant partners founded the company in January 2006, as an off-shoot from large real estate adviser Equitable Real Estate Investment Management, where Wright and a small team had been raising money from pension funds and insurance companies since 1993, investing in whole loans and securities.
He was previously an executive vice-president and member of the executive committee at GMAC Institutional Advisors, where he managed $5 billion of commercial real estate debt and REIT investments.
Prior to GMAC, Wright was an executive VP and member of the executive committee at Lend Lease Real Estate Investments, managing $8 billion of commercial real estate debt and REIT investments.