In October 2016 we warned about a much tougher borrowing environment for commercial property investors and developers in our article Borrowing against commercial property - be prepared for tougher banking practices.
In this article we look at where things are at now: Is it easier to secure finance, and if not, why not? Have the big banks shut up shop on commercial property lending, and if not, who are they lending to? We'll also cover some other things you should know to if you need to approach a bank to assist with a commercial property investment or development project.
Is it easier to secure finance? If not, why not?
In short, the answer unfortunately is still "no" to a certain extent! It still can be extremely tough to source commercial property finance from the big banks, especially if you are not an existing customer of that bank.
So, why is it still so tough out there? There are a variety of reasons for this, all of which have combined to create an environment where demand for bank's money is greater than the funding sources available. As a result, lending is less important to the banks than it has been in the past. As banks manage how to lend what they have, the commercial property sector is bearing the brunt of it. Consequently, banks have less money to lend for commercial property investment and development now than possibly ever before.
What's more, all of the banks seem to be in the same, or a similar boat, and there is no sign of things changing any time soon.
Have banks shut the shop on commercial property lending altogether?
Happily, banks are still lending on commercial property. They are just being far more selective about which deals they do. The reality is they have a smaller pot of money to lend from, and more demand for that money than they can satisfy. Consequently, they are looking very carefully at what to lend for, and who to lend to.
So, who are they lending to?
Priority is being given to good existing customers. That is good to see, of course, but that is not to say that you are guaranteed to obtain finance just because you are an existing customer.
While banks are endeavouring to maintain those good existing relationships, existing customers will have to engage with their banker far earlier than they have done so before. They should also expect to have to meet quite stringent criteria, and jump through hoops that they may not have encountered before. There is no certainty that their deal will be approved.
Deals for "new-to-bank" customers are not completely out of the question, but new borrowers will have to present a very compelling deal. It will likely have to be "blue chip" and/or have some strong relationship or strategic element or benefit to the bank.
What else should borrowers know?
Here are a collection of things you should know:
- Your local bank manager is competing with his/her counterparts in the other regions, particularly Auckland, to lend from the same pot of money. Consequently, you will be competing with other borrowers in other regions for the bank's money.
- The bank's decision on who to lend to will not only be based on the creditworthiness of the deal, but will now, more than before, be based on the value the banks place on their relationship with the borrower, and how profitable the deal is relative to others.
- The underlying cost at which banks source the funds they lend have increased, and those costs will be passed on to the borrower.
- On top of that, interest rate margins and loan fees are likely to be higher than before because the banks have more deals to choose from, and less competition for those deals. Consequently, they are able to price according to risk without the competition from other banks and pressure from borrowers that they have experienced previously.
- The flexibility around credit criteria and terms that you may have experienced before, is now gone. Don't expect the bank to bend the rules for you. You will need to meet the bank's criteria and, what's more, those criteria have probably become tougher. For example:
- The percentage of cost that the bank will fund to on a development may have reduced. For instance, if they would have funded up to 80% of cost before, they may now only be willing to go to 70%, meaning you will need to contribute more cash or equity to the project.
- The bank may require that a quantity surveyor certifies the cost of a development prior to the first drawdown, and any subsequent drawdowns.
- Pre-sale and/or pre-leasing requirements will likely be higher e.g. the bank may require pre-sales covering 120% of the amount you borrow, or pre-leasing providing sufficient rental income to achieve 1.5 times the interest cover on the amount borrowed.
- Banks will be looking to use the money they have available to lend as effectively (and profitably) as possible. Consequently, they may favour lending for a development project over a long-term investment loan. That's because they typically charge a higher interest margin and bigger upfront fees on a development loan, and can re-cycle the loan for another deal once the development is completed.
The commercial property borrowing environment has unfortunately not got any easier from where things were when we reported 6 months ago. However, it is still possible to obtain finance if you engage with the bank early, are well organised and have a compelling product. We would certainly recommend that you determine whether any required finance will in fact be available before you commit to your next investment or project.
Cavell Leitch has developed strong and valued relationships with all the major banks. We can help you understand the bank's criteria and help your organise your affairs so that you can stand the best chance of securing needed finance. Please do not hesitate to contact a member of our special commercial property team to discuss your next project or investment.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.