In Focus: Making credit decisions

Farrah Brown, head of treasury at TH Real Estate, is responsible for raising the debt that supports the investment manager’s strategy. She tells Jamie Henderson why it is an interesting time to be a core borrower.

Farrah Brown

During 2016, her first full year at the helm of TH Real Estate’s treasury department, Farrah Brown sourced €1.7 billion of debt to finance the property investment manager’s growing portfolio. So far this year, almost €1 billion has been raised in addition, across a series of acquisition loan and refinancing deals.

Brown and her team, based in London, raise new debt and manage existing loans for TH Real Estate’s funds – a €6.5 billion loan-book, around 50 percent of which relates to continental European assets. All debt financing activity outside the US is done through the centralised treasury function based in London, of which Brown became head in September 2015, when her predecessor, Colin Throssell was made TH Real Estate’s global chief financial officer.

The company’s investment strategy is keeping Brown busy. TH Real Estate manages almost $97 billion (€86 billion) of assets across more than 80 funds and mandates. The business was formed in 2014 as a joint venture between US pension fund TIAA and the European arm of investment manager Henderson Global Investors. TIAA took full ownership of the firm in 2015.

At its heart, TH Real Estate is a core investor that uses conservative gearing, albeit across large borrowings. During the last 12 months the firm has shifted its investment strategy to include a focus on individual cities, a move reflected in the launch of funds including its European Cities Fund in March 2016. It has also continued to invest through sector-specific vehicles such as the Neptune fund, the joint venture it manages on behalf of TIAA and Spanish outlet retail specialist NEINVER.

It was last November’s acquisition by Neptune of six outlet properties in Spain, Italy and Poland that led to one of the firms largest recent pan-European debt deals. Brown and her team sourced a total of €344 million financing against five of the assets, across three separate loans. French banks Crédit Agricole and Natixis financed three Spanish properties, while Crédit Agricole’s Milan branch funded a mall in the Italian city in Q4 2016. The Polish centre was financed by a syndicate led by ING Bank also including BNP Paribas.

Working on the deal was “intense but highly exciting”, says Brown, citing that the challenge was due to the sheer volume of work and due diligence within tight time frames. “The process from start to finish was less than eight weeks,” Brown says.“We needed to know the lenders would be there and were going to deliver. The amount of pressure we put them under was immense.”

The fact is TH Real Estate is a major buyer of prime property – the sort of covenant that senior lenders typically clamber to fund. The Neptune JV was unusual in that it was a collaboration between a major US institution and a family-owned Spanish firm, managed by TH Real Estate. Ultimately, lenders follow trusted sponsors into jurisdictions and the bank financing was closed in February.

The Polish deal tested senior lenders’ appetite for central and eastern Europe. ING was the incumbent lender on two assets and BNP Paribas was brought in. “Poland is not as deep a lending market, especially for outlets,” explains Brown.

In a first for TH Real Estate, the sixth asset – the Nassica retail and leisure park near Madrid – was directly financed with a non-bank lender in Q3 last year. Deutsche Asset Management provided a €71.5 million loan. Although the vast majority of the firm’s borrowing is from senior bank lenders, it is familiar with the debt fund space. Indeed, TH Real Estate itself operates a debt fund lending business, led by Christian Janssen.

The Neptune financing came soon after TH Real Estate closed another major debt deal, the €470 million refinancing of a core pan-European office portfolio held by the Cityhold Office Partnership, a joint venture between TIAA and two Swedish pension funds – AP1 and AP2. The deal was done in two instalments – German and French properties, then UK properties – with ING and LBBW jointly underwriting both.

Brexit Impact

“We went out to market just before Brexit and following the shock result from the referendum it took the lenders a while to get their houses in order and decide what pricing level they wanted to come in at,” recalls Brown. “However, I don’t think it priced differently to pre-Brexit levels given the core nature of the assets. It would be priced differently today for sure.”

Although TH Real Estate has not confirmed the pricing of the deal, the European loan, which was €230.9 million at 50 percent loan-to-value, was understood to carry a margin of around 90 basis points, achieved due to the security package comprising four prime Paris properties and two in the German city of Hamburg. The firm initially sought €500 million of debt, but subsequently removed a couple of assets from the portfolio that had the potential to alter the pricing.

The continental European loan signed in December, followed by a £205 million financing of four London assets at 35 percent LTV, which closed in January. On the UK deal, explains Brown, the fund reduced its leverage requirement, following a bottom-up review of each asset’s business plan. “We went out at 50 percent LTV and brought it down in order to reduce the potential volatility in the short term as and when we should see a pricing correction in the UK market,” she says.

As with the European loan, pricing has not been divulged, although sources report around 160 bps. Brown suggests that the outcome of the UK referendum last June stimulated the market, which she says had become somewhat overheated before the vote, stoking interest in London assets from foreign buyers, partly due to currency fluctuations, which resulted in TH Real Estate receiving several off-market bids for a couple of its London-located assets, reducing the portfolio which required financing.

One such bid, for One Kingdom Street office building in Paddington, resulted in a sale to Chinese billionaire Cheung Chung-Kiu for £292 million – a price which cheered investors because it reflected a return of confidence and pricings levels for the first time since the referendum.

Cities Fund

Brown’s financing efforts are currently focused on TH Real Estate’s European Cities Fund. The vehicle is focused on 42 European cities that it has deemed to be ‘future-proof’ against micro and macro-economic factors. The target for the fund is between €3 billion and €5 billion and, in July, TH Real Estate announced a first close on €500 million. Since then, the firm has already completed several transactions on its behalf including a shopping centre in Bologna.

“By nature for an open-ended fund we are constantly raising and spending equity, and with a target of 40 percent LTV these new acquisitions require debt,” says Brown.

One debt deal is understood to be a £38 million, 50 percent LTV loan from Aviva Investors secured on the Omni Centre in Edinburgh, located next to TH Real Estate’s existing development, the £1 billion Edinburgh St James shopping centre. The loan is another rare example of the firm borrowing from an alternative lender.

In February, the firm bought a half-stake in the Kamppi Centre mall in Helskini, Finland, for ECF from Barings Real Estate Advisers, in a deal which valued the centre at more than €500 million. The acquisition came with existing debt from Nykredit.

The team is also seeking terms for a designer outlet mall in an undisclosed European city, at 40 percent leverage. “Once indicative terms come back from lenders, it is going to be quite telling, because that is a prime asset which will get lenders hungry,” she says.

The ECF has also signed for The Cube, a multi-let office asset in Berlin that benefits from cutting-edge environmentally-friendly technology, and is still under construction. “Subject to certain conditions, we will buy the asset when it completes in or around Q4 2019, so it is a forward commitment, but given the current low financing terms available and the depth of liquidity in the market, we have gone out to tender with a number of lenders,” explains Brown.

“The lenders are very excited because it is a trophy asset, and will be very iconic. We have sought terms at 30 percent, 40 percent and 50 percent because the level of debt we take will depend on the leverage on the rest of the portfolio in the cities fund at that time. We also asked for various tenures, for example five, seven and nine, so we’ve given them quite a lot of work to do.

“We haven’t sought debt for a forward commitment before, it’s quite far out and lenders don’t really like to be committed for a period of more than two years. It’s a really interesting deal to be working on.”

Market Conditions

Despite financial and political uncertainty across the continent, debt markets are relatively favourable for a large-scale core property investor like TH Real Estate. “Across Europe margins have stabilised,” says Brown. “I think they are at a floor, it is hard to see them dropping any further. It is being driven by the availability of so much debt, and real estate debt itself as an asset class is extremely attractive given where we are in the current cycle. There is uncertainty over Basel IV regulation, which the banks are uncertain as to how to price in yet.”

Upcoming financings for the ECF will test market pricing across Europe, Brown adds. Looking ahead, around €950 million of debt deals are in the pipeline for this year across the firm’s funds.

TH Real Estate’s centralised treasury unit continues to evolve to meet the firm’s debt needs. For investment outside Europe, including Singapore and Australia, credit deals are handled in the region, although the London office retains oversight of all banking activity. Alongside Brown is Marie-Anne Railton, who joined in 2016 from pbb Deutsche Pfandbriefbank, and treasury analyst Ilona Kriksciunaite.

“We use an online treasury database, which records all our loan obligations,” says Brown. “When the funds are looking for debt, we have an active dialogue with each of them. We know if a fund is acquiring or if it is looking to sell, we have a sight of their business plans for their assets and adapt the debt strategy appropriately.”

Rather than put mandates out to auction every time, Brown requests terms from a number of banks from a stable of around 30 lenders. “We generally speak to about four lenders, no more,” says Brown. “We know who is doing what, who is most active and who will give us the best terms, largely through speaking to the market. There is no point getting 20 lenders to run the numbers, meaning you would have to let 19 of them down every single time,” she adds. “That’s not how you build trustworthy relationships with your lenders.”

However, TH Real Estate’s stable of relationship lenders is not rigid: “It’s always good to speak to and work with new lenders, it gives you different and fresh perspective.”

Once the process is underway, Brown’s emphasis is on ensuring deal terms match TH Real Estate’s need: “Pricing is key obviously, but want to grow value, so we need flexibility from our lenders. They want to protect value and we want to grow it, so our interests are aligned.”

Headroom in covenants and flexibility on asset management are also important. “We need to know we have the ability to deal with any changes in market conditions, be that flexibility on the LTV or interest cover ratio. I like to see margin ratchets, which incentivise us to grow value in order to lower the LTV, with the margin reducing as a result.

“We are seeing more emphasis on debt yields. Given where financing rates are at the moment, it makes sense. To breach a loan because your ICR is 200 percent seems punitive, because the borrower is still covering the interest.”

Ensuring that the lender-sponsor relationship lasts the term of the loan, Brown ensures that facilities will not find their way into the syndication market to a larger degree than she is comfortable with. “We want to know who we are lending from and we need to know that they will have the flexibility if we need to amend the terms further down the line. It is far from ideal to do a deal with a bank, for the debt to then be subsequently sold down to a large number of entities behind it – it just becomes unmanageable,” she adds.

Looking forward, Brown says her time will be spent on ‘globalising’ TH Real Estate’s treasury function to ensure that the firm maintains banking relationships across its entire portfolio. “The whole point of a centralised treasury function is that you leverage off those relationships with like-minded lenders. It gives us that edge, especially in such a competitive marketplace.

“You need to know that you have got not only the equity behind you but the debt if you want it. You need to know it’s there.”

Click here for a selection of TH Real Estate’s recent European borrowing deals.