We, MPT Advisory, are very familiar with the issues facing a mezzanine investor.

Wolfgang Tutsch, Managing Partner

The frustration of the mezzanine investor

Many investors, not only in real estate project development, are looking for capital that can be presented to the financing bank as an equity surrogate.
At the same time, capital is looking for investment!
In times of crisis such as the pandemic and the Ukraine war, obviously even more so. The real estate markets are booming.

For the mezzanine capital provider, this is a lucrative investment. It promises higher interest rates, the range of interest rates is very wide here, and especially in real estate project financing, real estate collateral is often offered! Of course subordinated to the financing bank, but still not unsecured.

If the project is completed and then sold as planned, it is a good deal for all parties involved. The financing bank regularly has the lowest risk, the mezzanine capital provider thinks he is safe, since the project developer invested real equity capital as well and there is often an additional funding obligation. The interest rate is attractive, the risk seems manageable. The project developer can take another project on his books that promises a good return according to plan.

But what if the project cannot be realised in the planned time or with the planned effort?

In recent months, there has been an increase in the number of projects that are threatened with failure. The causes are manifold, including the disruption of supply chains, the rise in raw material and energy prices, changes in the markets, etc.

The project becomes more expensive and is not completed on time. The project developer is not in a position to inject additional own funds, there are no resources to manage the projects. In the worst case, the parent company or the project company becomes insolvent.

Who finances the completion? Who will take care of the renting out or the sale?

The financing bank is usually relaxed. The project is so far advanced that even a sale in its unfinished state will cover the loans extended.

But what does the mezzanine capital provider do? Is the current value sufficient to cover the mezzanine capital granted in full? Are additional funds required for completion! Who takes care of the renting out or the sale?

Share your experiences with us! How do you see the issues of the mezzanine capital provider, especially its relationship with the project developer? We would be happy to discuss this further with you.

Raimund Machowetz, Managing Partner

It is often difficult for mezzanine capital providers to provide additional funds for a project, especially if it is a fund. It may be possible to find a solution with the companies involved, such as the general contractor, existing tenants, etc., that will allow the project to be completed. However, the project also demands unplanned human resources, apart from the fact that additional know-how is needed.

This is when it gets “frustrating” for the mezzanine investor.

What means of action are available? This refers to the corresponding legal instruments that enable access to the property. Are there contractual provisions for this? Are the resources available to enable the project to be completed?
It is advisable to seek legal advice from a law firm experienced in insolvency and real estate. The expertise of real estate professionals is also required. In addition, it makes sense to employ experts to contribute additional know-how and resources.

The remaining issue is how to control the use of the additional funds. How is it ensured that the project is actually completed and appropriately utilised, i.e. rented out and sold?

One instrument that is suitable for ensuring the success of the project is the restructuring trust (see our blog on https://www.mpt-advisorygroup.com/en/what-is-meant-with-restructuring-trust/).

What can already be agreed in the course of financing?

Banks regularly agree on extensive reporting and controlling obligations. The mezzanine capital provider can simply sign up to these obligations. In our experience, this happens rather rarely.

Receiving information in good time increases the scope for action. Is there already a pre-letting or a forward purchase of the project and does it match the project calculation? It could also be considered to obtain a kind of right of recourse. It would be helpful to at least have a say in the sale of the project. More far-reaching would be rights such as placing an independent controller in the SPV, or even in the management, up to the position of an interim manager. Legally, however, there are some hurdles and risks. Under no circumstances should one stumble into de facto management or equity replacement. Carrying out appropriate stress tests in advance can identify those parameters whose change could be critical to the project. As soon as the traffic light turns yellow, increased attention is necessary; defined measures may already be taking effect.

What should be checked before entering a project as a mezzanine capital provider?

  • How much equity does the project developer have?

  • How much equity will be contributed to the project company?

  • Is the equity to be contributed sufficient for the project? This requires a precise examination and plausibility check of the project calculation, including how high are the planned reserves? The mezzanine capital should only be paid out after the equity contribution has been proven and used.

  • Is the timetable sustainable?

  • Is the projekt calculation realistic? How much leeway is there?

  • Is there a pre-letting or a forward purchase of the project and is this in line with the project calculation?

  • What capacities and resources does the project developer have?

  • What is his Track Record?

  • Sometimes the project developer is a good builder, but does he also have an appropriate lease management? How and when will this be set up?

  • How should the sale of the project be organised? Are there concrete ideas and mandates?

We ask the crucial question last:

Am I familiar with the subject matter of the project and the relevant market? If the mezzanine capital provider does not have the relevant expertise, it is either a case of buying in expertise or simply “hands off”!

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