Why US developers are tapping into a new bond market

US property companies are heading to Tel Aviv to access a new source of competitive capital Back in 2006, Boaz Gilad, CEO of Brooklyn-based condominium developer Brookland Capital, met with a group of Israeli financial consultants to contemplate doing something that no US-based real estate owner or developer had done before: launch a bond in Israel to raise […]

US property companies are heading to Tel Aviv to access a new source of competitive capital

Back in 2006, Boaz Gilad, CEO of Brooklyn-based condominium developer Brookland Capital, met with a group of Israeli financial consultants to contemplate doing something that no US-based real estate owner or developer had done before: launch a bond in Israel to raise funds for US projects.

The concept was simple. Take advantage of the cheap cost of capital and liquidity of the Israeli bond market, then use money pooled from eager Israeli investors to fund the US projects.

A wave of US-based owners and developers are launching bonds on the Israel stock exchange.
A wave of US-based owners and developers are launching bonds on the Israeli stock exchange.

Gilad – and his then-fledgling company – decided against the bond offering as the window of opportunity closed with the recession, as it did for many others at the time. But the experience left him all the more eager to pick up where he had left off as the economy picked up.

“We came out of the crisis very strong and it was natural for me as a CEO to look at this again because the cost of the money is just cheaper,” Gilad says.

This year, as the US commercial real estate market came to resemble its pre-recession former self, Brookland had grown exponentially. So Gilad picked back up on his talks with Israel’s Victory Consulting Group and in June raised $120m shekels, about $35m, when it launched its first bond offering – the six-year Brookland B1 – on the Tel–Aviv Stock Exchange, at a 6.4% interest rate.

The bond is just a drop in the bucket amid a new wave of US-based owners and developers launching or looking to launch bonds on the Israeli exchange. US developers and owners have launched about $850m (more than $3bn shekels) in Israeli bonds since 2008, most of which has occurred in the last year, and several other well-known developers are now in the process of launching similar bonds, sources said.

Rafael Lipa, who heads Victory Consulting with business partner Gal Amit, claims they were the original creators of the idea behind the bonds back in 2007, assisting Brooklyn-based developer Abe Leser with the launch the first such offering in 2008.

The group has facilitated the launch of seven out of the eight bonds so far, Lipa says. That included $210m across two bonds issued by Pinnacle Group, under affiliate name Zarasai, and four bonds totaling $250m from Leser.

“The focus is to bring quality companies to Israel,” Lipa says. “I’m trying to be a gatekeeper and not bring companies that I fear will default on the bonds.”

The US firms who have launched bonds or plan to, many of them New York-based, aren’t your run of the mill firms. They are both transforming its neighborhoods and skyline. Brookland has grown to become one of the premier condo developers in Brooklyn, with 46 projects currently in the works.

Real estate scion Gary Barnett of Extell Development has launched the equivalent of a roughly $350m bond and is building some of the most expensive – not to mention tallest – residential buildings in Manhattan. And industry heavyweight Steve Witkoff of the Witkoff Group and The Lightstone Group, the company building a 700-unit development along the Gowanus Canal in Brooklyn, are also each weighing a roughly $140m bond (500m shekels), sources confirmed based on reports. Extell, Witkoff and Lightstone all declined to comment.

So, what’s the draw? First, for firms like Brookland, the Israel bond market presents an opportunity only large REITs and corporate players – think IBM, Google, GE – have in the US. In other words, a small company here isn’t so small in Israel, where institutional investors are accustomed to investing in the corporate bonds of real estate companies.

“If I go to the US government and I tell them I have a company that wants to issue $50m bond, they’re going to throw me out of the door,” Lipa says. “In Israel, a $50m bond is a big bond.”

In addition, the equity market in Israel is considered illiquid, while the bond market is liquid, and corporate bonds are traded at a relatively lower spread over equivalent government bonds, meaning there’s high demand from institutional investors – especially when they are backed by properties located in a relative safe haven like New York City.

The process Lipa describes essentially allows US developers to bypass mezzanine loans and limited partners who might charge 15% to 20% interest and instead raise funds from the Israeli bond market at a cost in the 5% to 7% range.

It’s a relative bargain, but the laborious process to launch the bonds has crushed the initial hopes of some companies, and the Israeli bond market only has space for so many firms.

“After the big success of these players, everyone thinks they can do such a deal, but I’m telling you it’s not that easy,” Lipa says. “I hear a lot of names thrown into the air, but most of them will explore it and continue on.”

The process – which takes a relatively lengthy four to five months – requires that US firms set up a new corporation and gain the approval of S&P and Moody’s subsidiaries in Israel, in addition to various legal and administrative hoops.

Brookland used the money raised from the bonds to purchase three separate development sites in Brooklyn: one in East Williamsburg, another in Park Slope and a third in the Clinton Hill neighborhood. As Gilad explains, built-in covenants say that the firm can’t bring any additional debt to those projects, which will be funded fully with the money raised from the bonds.

“There’s no senior debt position in front of my bonds and that’s what made the market comfortable with my company,” Gilad says. “The only reason to go through all of this is because you’re thinking long-term. This was just our first round, but it will cycle again and again as long as we can deliver results and as long as [the ratings agencies] give us the permission to raise more bonds.”

Brookland’s 6.4% interest rate is a great deal, Gilad adds. Barnett’s 4.9%: “That’s just insane.”

Lipa denied involvement in the Witkoff deal, and he cited “legal obligations” not to speak about The Lightstone Group. While he would not name any others weighing bonds, he assured us they are coming.

“If you want to talk about the future, we have four new companies that are right now working on a prospectus to raise bonds in Israel in the last quarter of 2014,” Lipa says. “They are really well known in the United States.”

US consultants have caught on too. Shimon Shkury, founder and managing member of New York-based investment sales company Ariel Property Advisors, says he is connecting US developers with leading Israeli investment bankers through his affiliate company Arlington Equity Group.

Shkury would not confirm or deny his involvement with any of the firms said to be eyeing Israeli bond offerings. He did however estimate that, with his help, both the dollar volume of the offerings and the number of US players tapping the Israeli market will have doubled by the end of next year, if not sooner.

“We are in the advanced process of discussing a bond offering with several major owners in the city,” Shkury says. “Owners and developers see this as a great tool and platform to raise relatively inexpensive corporate debt to develop their assets here.”

The US companies can invest the bond proceeds in number of ways, from purchasing hard assets, to creating equity on top of traditional bank financing or refinancing more expensive debt, Shkury noted. Meanwhile, the vast Israeli pension market has investors seeking alternatives to the comparably low yields of government bonds. There is an average monthly capital accumulation of $3.2bn in pension money vs. new debt issuance of only $830m, creating an annual gap of $38bn, Shkury says.

Gilad believes US companies will ultimately have their own sector on the Israeli exchange, noting that many Israeli companies who have invested in the US and Europe lost a lot of money because they “didn’t know what the hell they were doing.”

“Why not bring US companies to Israel to raise money and invest in their backyard,” he says. “I don’t have a learning curve here because I’m a New York City developer. But if an Israeli raised the money in Israel and they take their money here, they end up buying stupid things.”

 

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