Matthew Doerr oversees the sourcing, structuring and
underwriting of real estate debt investments on behalf of
Buchanan Street Partners’ balance-sheet lending program,
which provides nonrecourse loans of $5 million to $25
million in the Western U.S. Since its inception, Buchanan
Street has invested and structured about $19 billion worth of
investments from a broad range of direct acquisitions, equity
placements and debt investments throughout the U.S. Reach
Doerr at (949) 717-3167 or firstname.lastname@example.org.
mezzanine lenders, however, may find this type of struc-
ture unattractive because the mezzanine portion of the
capital stack for a middle-market industrial construction
project is about $5 million or less. For some lenders, this
falls short of their targeted transaction size.
If a mezzanine lender agrees to provide a loan of this
size, it would require an intercreditor agreement with
the bank lender, which can result in a lengthy, complicated and often costly exercise for the developer.
Further, intercreditor negotiations pose added risks
for the developer and mortgage broker in closing a
deal. Smaller mezzanine loans, when available, likely
bear above-market interest rates and fees to offset the
small transaction size.
In addition to the aforementioned nuances, banks may
avoid lending on any projects classified as high-volatility
commercial real estate (HVCRE) because of the increased
loan-related costs they may face. For a loan to avoid
being classified as HVCRE, the borrower must contribute
at least 15 percent of the appraised-as-completed value
of the asset before receiving bank financing, and the
loan-to-value (LTV) ratio cannot exceed 80 percent.
There are very real situations, however, that may cause
a loan or property to be classified as HVCRE that may not
be immediately apparent. If a borrower has owned a
piece of property for an extended amount of time, for
example, or acquired it below the appraised market
value, the actual cash investment is small and often far
less than the required equity piece for bank financing.
Beyond the difficulty of securing funding from
banks for middle-market industrial construction projects, many developers and brokers have witnessed a
lack of predictability around HVCRE and have become
reluctant to arrange capital from multiple sources.
Risks of partnership
There are qualitative and quantitative reasons why mortgage brokers and developers are reluctant to secure
multiple sources of funding to meet the 80 percent LTC
target for middle-market industrial construction loans.
Chatter within the commercial real estate industry suggests we have reached, if not surpassed, the crest of the current market cycle, but the industrial sector is stronger
According to JLL’s 2017 industrial outlook report,
vacancy rates on the West Coast are between 1 percent
and 5 percent. With no signs of oversupply, or any
economic, retail or logistical trends that point to a reverse in course, investors and developers continue to
seek construction loans for industrial projects, while
lenders remain open to working with commercial
mortgage brokers and their clients within this space.
Industrial demand has unveiled attractive lending
opportunities, especially given the sector’s abbreviated construction timelines. Quick completions allow
borrowers to minimize whole-dollar interest costs on
industrial-based construction loans, compared to an
office or multifamily project of the same size.
This demand for industrial space creates a win-win
situation, right? Unfortunately, not for the middle-market industrial sector, in which construction projects
range between 50,000 to 250,000 square feet and
costs range between $10 million to $30 million. It is in
this “sweet spot” where banks, brokers and borrowers
have experienced increased execution risks, especially
if they are seeking conventional leverage on a nonrecourse basis. In many cases, an apparent funding gap
has formed as banks, brokers and borrowers search for
creative ways to capitalize these projects.
Prior to the recession, banks were the largest source
of nonrecourse construction financing. Today, they
have returned to the market — albeit on a limited
basis. Implementation of the final regulatory capital
rules for institutions under the supervision of the Federal Deposit Insurance Corporation (FDIC), which took
place in early 2015, caused banks to tighten lending
standards, which led to increased execution risks for
borrowers when securing construction financing, thus
diminishing access to predictable capital solutions.
To mitigate risk, most banks are generally willing
to provide nonrecourse construction loans at about a
50 percent to 60 percent loan-to-cost (LTC) ratio, and
these terms may only be available to existing bank clients.
If a qualified borrower is willing to provide recourse,
the bank may increase the leverage up to 60 percent
to 65 percent. Many developers simply do not have
— or may find it too expensive to invest — 40 percent
to 50 percent equity to complete the project capitalization and, consequently, seek a creative solution to
meet their financing needs.
Borrowers may turn to a mezzanine lender to fill the
gap between a bank loan and the typical 15 percent to
20 percent equity to complete the capital stack. Many
intercreditor negotiation increases the risk for deals
to fall through because of senior-lender requirements
that are often strict. A mortgage broker must tediously
tend to the negotiation of multiple agreements that
govern the partnership between the two lenders to
ensure certainty of execution.
Furthermore, borrowers recognize risk that can
potentially impact their business plan when securing
a loan from two capital sources. The perceived lack
of certainty of execution presents borrowers with
heightened risk if:
■ ■ They are ready to secure permits to prepare the
land for development;
■ ■ They need to begin construction immediately to
respond to market demand; or
■ ■ They have a pre-signed lease or purchase agree-
ment that requires a specific construction start
Regulations, tiresome negotiations and increased
transaction costs have created an apparent barrier
in lining up construction funding for middle-market
industrial projects. Although obtaining capital for attractive industrial deals in a tight market can be challenging, some borrowers can find success if they turn
to private lenders who are responsive and can provide
custom solutions for a project.
For many mortgage brokers, opportunity may exist
with the “one-stop shop” private lender that can execute the entire capital stack — minus borrower equity
— and take a borrower up to 75 to 80 percent of the
project cost with certainty of execution.
Within this framework, the cost of a nonrecourse
construction loan from a private lender can be on par
with the blended cost of a bank loan and mezzanine
loan. This can be a win-win situation in which mortgage brokers are able to close quality transactions and
borrowers can strike with flexible, nimble capital to accurately and swiftly respond to the healthy industrial
Fill the Gap in Industrial Development
Private lenders may have the solution for the sector’s ‘sweet spot’ projects
By Matthew Doerr
added risks for
the developer and
in closing a deal.”