Stretch funding is a curious term but the principle of this financing structure is one familiar to those in the property development industry. During the property market recession of around 2009-2011, the high street banks started to toughen their lending criteria by reducing the loan to cost (LTC) ratio and, likewise, their gross loan to value (GLTV). This, of course, gave them a greater margin in the event of a future fall back in property values or, indeed, any cost or time overruns on a development project.
Many of the high street banks and leading senior property development lenders would now limit their loan facilities to no more than 70% of the total project costs. This is probably an understandable reaction to the property market crisis of this period but did, in turn, then mean developers had an issue in how to structure their funding.
So as a simple example, if the total costs of a property development project were £1million (and let’s say that this includes the land price, the usual acquisition costs, construction, professional and selling fees), then the senior bank would lend a total of say £700,000 which would include all of their fees and interest. This, of course, gives them a margin of safety of 30% to recover their capital and fees in the event of the worst happening.
All fine so far but this leaves a gap of £300,000 for the property developer to fill. With many potential development projects this may simply be too big a void and the project would not happen. Because of this issue, a new breed of ‘mezzanine’ funders came into the market and provided an additional tier of money that topped up the developer’s equity. Using the above example, we’d have the £700,000 from the bank (or known as the senior lender), say £200,000 from the mezzanine lender (a 20% slice) and then the developer now has just 10% equity they need to put in themselves. Tad-dah!
This method of funding worked very well for many years, but lately the appetite of mezzanine lenders has seen a pattern of some preferring stretch funding. So, this is where stretch funding comes into play – finally I hear you say!! For mezzanine lenders the risks are high (and consequently so are their interest rates) with them not being repaid until after the senior lender who will hold a first charge.
To provide an alternative solution, another breed of lending product took the senior debt and the mezzanine debt and merged it into a single facility – known as a stretch loan. This meant that only one lender was at risk and, therefore, had first charge together with the developer only having to deal with one point of contact.
Stretch property development funding & loans allow developers to still achieve 90% LTC so they can continue their ambitions. Stretch development loans can often be ambitious too with lenders offering facilities of up to £25m.
The efficiency of stretch lending means that with a specialist bank involved there is only a requirement for one formal valuation, one set of legal administration and one monitoring Quantity Surveyor (QS). This makes the initial set up of the deal much simpler and quicker, with less costs and stress to the borrower.
However, like most things in life there is an element of trade off as in some examples the cost of the borrowing will exceed that of a mix of senior and mezzanine. Working out which finance structure is best for a development project will be a balance of doing the maths and satisfying the appetite of lenders.
Specialist development funders will have a mix of lending criteria that will look at the type of development concerned (i.e. residential flats or houses, mixed projects that might include some shops, etc), where the project is geographically, how large the loan requirement is and how long it will be needed for.
For further information on how property development stretch lending may work for you then start by emailing a specialist like Developer Money Market.