There is liquidity in the debt markets but borrowers will need to consider alternatives to traditional lenders and cash flow and stabilised income is becoming more important than LTV rates, according to a panel at AHC in Manchester on 12 September.
In a session entitled To Buy, Build or Refi: Mapping the UK Debt Landscape, moderator Marcus Kinsella, Partner at Gerald Eve, asked the panellists to explain how the debt scenario now operates and how borrowers can best access debt.
Representing the traditional lending market, Shona Pushpaharan, Head of Hotels and Healthcare, Coutts & Co, said that even long-established lenders were re-evaluating how they assessed risk and reward.
“The sector is currently very cash led, very leverage led. LTV is not where we’re looking, it’s going to be the debt service we look to. The LTV normally has a big buffer currently, but what cash are you driving?” she said. “It needs to be a partnership between the borrower and the bank. You have to be quite innovative around the capital stack, around the structuring. You can still take an element of hedging in some cases if that works.”
She added that the lower transaction levels meant there is a lot more refinancing, which is “driving a different feel in the lending market” as she said that Coutts is supporting clients looking at acquisitions, including high net worth individuals who she pointed out who can be “quite counter-cyclical”.
Jens Blomdahl, Principal, KSL Capital, added that despite economic volatility, there remains a lack of distress, meaning owners are reluctant to sell at what they see as discounted rates.
“For the past 18 months, we’ve been saying as an industry that distress is 6-9 months out. If you look at the next six months, there will be some borrowers stepping into higher rates [from lower rate financing], so the volume that needs to be refinanced will step up. But overall, lenders don’t want to take over assets,” he said. “We may seem some soft distress, where transactions need to go ahead. But for borrowers they need to look at the options and consider what’s right for them. There’s a solution for everything.”In terms of evaluating opportunities, he said that for lenders it is a question of looking at previous valuations and future income, and then assessing where that sits on an LTV basis.“We’ve gone through the utilities costs, inflation is coming down. In the UK, you also have elections coming up on the horizon, but all things being equal, the UK looks more attractive than Europe. Domestic demand still looks strong. Broadly speaking, the UK is easy to do business in and straightforward,” he said.
Hilton Foster, Director, Debt Finance, OakNorth Bank conceded that from the borrowers’ point of view “it’s quite scary out there given the rates” and echoed the view that both lenders and borrowers would need to be more innovative and flexible.
“We have no issues going into a debt stack with mezzanine. Often there will be a gap [between a traditional lender and the total capital required], so how do you fund that?” he pointed out.
“There is not much transactional evidence, so breached covenants haven’t happened on mass. Borrowers also need to be realistic about what the situation is now, not hark back to the scenario pre-covid. You have to embrace what you have now and look for alternatives,” he added. “There is no shortage of debt, the reality is that it’s just more expensive than it used to be.”
Louise Gillon, Head of Hotel Finance, Leumi UK, said that she believed many asset owners have accommodated the higher rates and rebased their projects and said that although budget hotel projects were the largest category, are probably the majority, the development projects coming to market are more skewed to where they are located.
“There is still a space for all product offerings,” she said. “The pool of lenders has changed. You don’t want to squeeze your business into a product that doesn’t work for you. We need to be more innovative about the structure and make sure it works for the long term.”
She added: “Anyone operating their business now, it’s not the same business as three years ago. Now it’s about rebasing what your future stabilised cash flow looks like and putting together a realistic plan. That’s the real challenge. I think a lower senior debt quantum is now the norm, so there is a gap. So is it private equity, or looking at offloading non-core assets to finance.”
In terms of that new finance Patrick Grant, Partner at AlphaReal said that where the capital comes from is now one of the biggest issues.
“The market taken up by insurers now, rather than pension funds. The product has adapted to be much closer to a debt product, so they are much more like a 40 year fixed debt product than they used to be,” he explained. “And valuation is secondary to cash revenues. The old world of looking at the last three years is not representative of anything. We don’t disregard that but it’s very much secondary and I think that will become more evident over the next 12 months.”
In terms of structuring successful debt deals he said that both sides need to be more transparent, with lenders setting out their processes and what they need for it to work.
“And they need to be prepared to reciprocate. How are you supporting cash, where is your equity and where will it come from in the next five years? If you have the answers, you will be in a relatively strong position,” he said.
“What we always cleave to is where is your asset based, what is your track record? They are the absolute fundamentals and they never change. A flight to quality doesn’t mean to upscale, but a great location with a very strong operator,” added Coutts’ Shona Pushpaharan. “We don’ price according to a matrix. It’s product specific and rated against risk and reward. I always come back to the cash and the leverage. It comes back to being realistic and choosing the right partner.”
The To Buy, Build or Refi: Mapping the UK Debt Landscape panel session took place at AHC 2023, Manchester, on 12 September