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   ARTICLE   |   From Scotsman Guide Commercial Edition   |   July 2010

Bridge Lenders Extend Their Reach

Capital crunched, more borrowers seek bridge loans to cross the funding ravine

Before spring 2007, commercial mortgage borrowers often could forgo the process of engaging a mortgage broker to source financing for them and write their own term sheets, send it to the lender of their choice, get a commitment in 24 hours and then negotiate for better terms.

But that April, a Moody's Investors Service report said that "the negative credit implications of the ongoing erosion of conduit [CMBS] loan underwriting, particularly the increase in leverage, now exceeds the benefits of generally positive property market fundamentals."

The ensuing chaos marked the beginning of the end for capital-markets finance as we then knew it. It was then that the cover finally blew off the Crock-Pot of credit-underwriting standards, and the finger-pointing began.

Today, for anything less than a AAA borrower with a AAA project in a AAA location in a AAA market, finding funding for a transaction can be a challenge for the most-experienced borrowers and even for highly qualified mortgage brokers. Many entrepreneurs -- with various levels of balance-sheet strength and experience under their belts -- must now find alternate sources for financing when traditional players turn a blind eye. Many of these forsaken borrowers are turning to private bridge lenders.

Brokers who understand bridge loans, including what these lenders look for in a loan application, can help their clients find funding until they qualify for a more permanent loan from traditional lending sources.

A bridge loan refers to any form of short-term debt that bridges the gap between phases of a transaction. A classic example is a loan that refinances a construction facility and supports the asset through its stabilization period before the borrower finds a permanent loan. Another example is an acquisition rehab loan, which capitalizes the acquisition and funds certain capital improvements prior to long-term financing that reflects the value added.

In today's capital-markets environment, bridge lenders have expanded beyond such lending scenarios and have become a common resource for borrowers trying to protect their positions in distressed assets with maturing debt, degrading fundamentals or both. 

On the other side of the coin, opportunistic investors looking to capitalize on the distress in the market and snatch up properties also are turning to bridge loans. Traditional lending sources, which no longer wish to "extend and pretend," have forced their borrowers to seek financing wherever they can find it and more often than not, at whatever cost they can get it.

One distinguishing factor that defines the bridge-financing market today is the credit value of the borrowers and the assets. With the dearth of liquidity for commercial real estate, there is no reason for a bridge lender to pursue anything but the highest-quality deals. Further, because of the supply-and-demand dynamics in the capital markets, bridge lenders are not under pressure to sacrifice themselves on pricing or structure.

Bridge loans are, in many regards, sustaining the capital markets. They are used for construction or other budget shortfalls, to buy out departing partners, to rescue projects from foreclosure and to capitalize on distressed-asset sales proactively. The list of reasons for bridge loans is continually expanding as bridge lenders adapt to the markets' demand.

When reviewing loan requests, bridge lenders want to see a few critical items. Brokers submitting deals to these lenders on their clients' behalf should ensure that their loan-application packages contain the following items:

  • Executive summary: Seasoned bridge lenders review at least 10 to 20 loan requests a day. As such, submitting a quality executive summary is invaluable because it may be the only chance a loan has to get the attention it needs. Include a clear and concise description of the property, the proposed transaction, the exit strategy and the borrower to increase the likelihood of getting a deal past the lender's initial review.
  • Pro forma: Provide as many as five years' projected cash flow. In most cases, a bridge lender will commit to a deal based on the transaction's forward-looking merits. By definition, a transaction requiring a bridge loan cannot support long-term debt. Accordingly, bridge lenders will be attracted to a pro forma that, based on reasonable assumptions, demonstrates there will be enough cash flow for takeout financing as a primary exit strategy.
  • Historical financials: As applicable, provide two to three years' cash flow in the form of a detailed profit-and-loss statement. For transactions that are not new construction, forward-looking pro formas usually are only relevant when compared to past performance.
  • Sources and uses: A sources-and-uses statement is an often-overlooked item in many loan packages. A refined borrower or mortgage broker always will provide a sources-and-uses statement for the proposed loan. It should quantitatively answer several questions for which a lender will need answers. These questions involve the amount of money requested, the borrower's proposed equity contribution and use of the loan proceeds. Providing this fundamental information in the loan-request package could make the difference between whether it is considered or disregarded.

The number of borrowers seeking bridge loans has increased. The market's illiquidity has driven transactions to bridge lenders that before spring '07 would have qualified for longer-term, cheaper financing from a broader range of lending sources.

With the capital markets showing signs of thawing out, traditional lending sources and new lending sources, such as recently formed debt funds, are starting to issue quotes and loan commitments. 

Nevertheless, the integral role that bridge loans play in the world of commercial finance will continue, and the key aspects of a properly polished loan package will remain fundamentally the same.


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