A growing range of intermediaries is both brokering debt for borrowers and acting as outsourced origination platforms for lenders. James Wright, head of real estate finance at new market entrant Capita Real Estate Finance, surveys the market’s changing landscape
The role of an intermediary or broker, which has primarily been to source and obtain secured real estate debt on a client’s behalf, has expanded in recent years.
It can now include, on the clients’ side, additional advice on the entire life of a debt transaction from structuring (including consideration of a client’s wider debt profile) through to negotiation of documentation alongside lawyers, as well as much in between.
The variety of intermediaries has also expanded to include parties who act exclusively for lenders, effectively providing an outsourced origination platform. So today we must consider two distinct sets
of intermediaries in the European market: client-side intermediaries and those who act on the lender side.
The basic process for a client-side intermediary would start with the initial underwriting and evaluation of the funding requirement. The transaction would then be structured and funding proposals and cash flows would be constructed prior to marketing the transaction to lenders.
The marketing of the transaction is either conducted on a far-and-wide basis or via targeted approaches. The intermediary would then provide assistance on negotiating commercial aspects of the heads of terms, secure a suitable binding offer and manage the closing process.
This dedicated resource enables the client to concentrate on the day job, with the comfort that their appointed intermediary is well versed with the financing market and can meet the funding requirements with the most competitive terms.
A good client-side intermediary does not just place debt, but offers a cradle-to-grave service, sourcing the best terms from a lender that will deliver in a timely manner both in terms of credit approval and funds drawdown.
Using an intermediary is a way to outsource debt placement not just for a single deal, but also to help investors manage and grow their real estate portfolios most efficiently.
Lender-side intermediaries, on the other hand, will either be exclusive with a single capital source, or non-exclusive, sourcing debt opportunities to place with one of their stable of lenders, who will remunerate them for the introduction of new business.
In recent years the profile of Europe’s intermediary market has changed significantly in a number of ways. First, the number of intermediaries has increased enormously, at the smaller and the larger ends of the market. The type of intermediaries and brokers has also changed in terms of the firms active in the space, the size of their teams and the personnel leading the charge.
A few large international property services firms have had a European debt intermediary capability for a number of years. But recently, smaller firms have stepped into the space, hiring external banking/brokerage experience to do so. A property services offering gives an intermediary immediate access to deal flow on the client side.
Loan servicers have also begun to establish teams in the past two years. Servicers benefit from established relationships with a variety of lending institutions, many of which are retained clients, coupled with a reputation for reliability, integrity and a process-driven service.
Capita Real Estate Finance, which straddles both camps by having an end-to-
end property-level services platform, as well as being Europe’s largest independent loan servicer, also joined the market this year.
Other notable market entrants have
been North American investment banking platforms, while consultancies, accountancy practices and law firms have also expanded their presence in the space and a large number of boutiques have been formed.
The other prominent change is the type of borrowers using intermediaries. As well as the family offices, asset managers, mid-tier developers and high-net-worth individuals who traditionally formed the basis of intermediary clients, today, some REITs, listed property companies and large private equity fund managers have recognised the value of using intermediaries in terms of both market intelligence and resource.
This is in addition to highly sophisticated foreign capital of all kinds coming into the European market for the first time.
A diverse lending landscape
So, why has the market expanded and changed in these ways? Diversification of the lending landscape and the increasing specialisation of specific participants’ appetites is a contributing factor. There are a plethora of lenders active in the market today: Capita Real Estate Finance is tracking over 160 within the UK alone.
After the financial crisis, traditional lenders reduced their exposure to commercial real estate both at the smaller end of the market, where challenger banks, debt funds, peer-to-peer networks, family offices, alternatives and bridge lending specialists have now stepped in; and at the larger end, where foreign banks, insurers, pension funds, debt funds and hedge funds have joined the returning investment banks.
The new market entrants are doing significantly more business across the market year-on-year as they have expanded their market share in a growing pool of capital. Alternative lenders, i.e. not banks, building societies or insurers, are forecast to grow to nearly a third of the lending market in the next five years, according to the Commercial Real Estate Finance Council.
Traditional lenders’ treatment of defaulted and non-core loans since the financial crisis has led to a reduction in some of the borrowing community’s focus on personal lender relationships. Cheap sources of funding in the equity and bond markets have also reduced large borrowers’ reliance on secured real estate debt as a primary funding source.
Borrowers who have taken advantage of some of the newer sources of debt in the market have been partly drawn to such sources by the flexibility these lenders offer, often benefitting their overall funding profile.
One group of new market entrants seeking to capitalise on borrowers’ shifting priorities are the challenger banks, which tend to operate on a broker-only model, solely originating through intermediaries.
Another reason for the changes is the increased prevalence of mezzanine debt
and structured finance. Bi-lateral loans exceeding 70% of asset value generally require multiple counterparties or whole loan/stretched senior providers who are likely to syndicate part of the loan, adding another layer of complexity for borrowers.
The increase in the number of intermediaries has also coincided with a large increase in US private equity investment in Europe, which is generally led by small teams controlling vast allocations of capital in few funds. Outsourcing of debt raising activity is commonplace in the US market.
The fact that new equity sources are consistently coming into the market from the US as well as Asia and the Middle East also provides a source of investors without knowledge of local debt markets or existing local banking relationships.
More intermediaries coming?
The diversity across debt and equity markets in Europe has created a fertile ground for intermediaries. Most commentators assert that diversity will continue to increase, so there is a compelling case for demand-led expansion in the intermediary space. Successful platforms can be expected to expand, become more sophisticated and do more business in the short term.
However, brokers and intermediaries at the smaller end of the market may find it increasingly difficult to compete with peer-
to-peer platforms as they become more sophisticated, reduce costs of funds, improve software and attract clients directly.
At the larger end of the market, intermediaries lacking strong unique selling points could find that deal flow becomes an issue. Those without strong and broad lender relationships to call on, lacking clear value-
adding expertise to draw on or without a borrower client base to provide deal flow may find that others serve the market better.
We certainly expect to see specialisation of intermediaries’ processes increase. For example, as senior lending institutions raise loan-to-value thresholds and mezzanine debt providers increasingly step into whole loan positions to gain transaction access, supported by the strong syndication markets, we may see some of the structuring work regularly undertaken by intermediaries becoming less important to borrowers.
Conversely, lenders may see this as an increasingly core component of advice provided by lender-side intermediaries, as they will seek to access secondary markets for subsequent sell down. The focus of and skill sets within intermediary groups will begin to look more diverse as a result.
So while we may not see the same numbers of new intermediaries being established as we have in the past few years, we do expect the current contributors to be bigger and more sophisticated.