As credit markets tighten and banks no longer dole out cheap capital like they used to, developers are finding that they must pony up a larger portion of a new building’s total cost. The developer’s share is now up to 30 percent of a project’s total price tag, about double what it was just five years ago.
As a result, developers who tend to heavily rely on bank financing are having trouble green-lighting certain projects when there are just one or two partners plus a bank involved in the deal, according to brokers, developers, real estate attorneys and lenders.
“Developers are going into new projects assuming they are not going to be able to leverage as much as they did a year or two ago,” says Gregg Winter, president and chief executive of Winter & Company Commercial Real Estate Finance, based in New York. “They will have to contribute more equity and borrow a little less.”
Those who don’t want to be weeded out may have to take on more investors to make up the difference, even if that means relinquishing some control of the project and shrinking the developer’s share, brokers say.
But on the flip side, a new wave of investors suddenly has a chance to include themselves in development deals, insuring that they get done, says Lisa Maysonet, a senior vice president with Prudential Douglas Elliman who focuses on luxury residential developments.
“Developers didn’t need investors before, and now, all of a sudden, they do,” Maysonet says. “My philosophy is that in every problem, there is an opportunity.”
It’s important now to submit flexible development plans, experts say. Before extending a mortgage, lenders have traditionally required pro-forma statements to show how a new residential building could either become a condo or rental, just to hedge bets against a downturn in either market.
While developers might have perfunctorily submitted those statements before, they’re now giving them much more consideration — and being extra creative, especially on the rental side — as the condo market cools, according to Maysonet.
“They will tell banks, ‘I can put up an extra wall here and make another bedroom out of this room if need be,'” she says. “The bank thinks, ‘Okay, so if it doesn’t go over well as a condo, we can still be covered.'”
Experience pays
Of course, some developers, especially those with proven track records — which give banks comparables to help appraise the value of what they’re planning — will see little effect from the tightening lending environment, analysts say.
Established developers may also have another advantage if they were never fond of huge mortgages to begin with. Then the current restrictions don’t seem especially punitive, according to Joel Breitkopf, a principal at Alchemy Properties, a developer based in New York.
Alchemy’s recent ground-up residential developments include the Indigo, at 125 West 21st Street, between Sixth and Seventh avenues, which has sold 70 percent of its 52 units since hitting the market in February. The firm has also built the Oculus Condominium, at 50 West 15th Street, between Fifth and Sixth avenues, whose 47 units are 65 percent sold since going on sale in October 2006.
Now Alchemy is set to break ground on the Hudson Hill Condominiums, a new 67-unit development at 462 West 58th Street, between Ninth and 10th avenues, according to Breitkopf.
While some developers have been forced to take on more investors to appease lenders, others, like Alchemy, are willingly bringing on investors.
“We have never been the ones to go to 90 percent for financing on a project, because we never wanted the risk,” Breitkopf says. “In fact, our partners want to put in larger chunks of equity because our returns have been so good. They’re looking to invest more rather than less.”
Overall, when it comes to winning lenders’ support, Alchemy, which was founded in 1990, maintains that it has a considerable leg up over less experienced players, Breitkopf says.
“If we were building our second or third project,” he says, “they wouldn’t even talk to us.”
Another project to watch is SJP Properties’ 11 Times Square, a 1.1-million-square-foot office tower being built at Eighth Avenue and 42nd Street.
According to an article in the New York Post, SJP and its partner, Prudential Financial, have 35 percent equity in the $1.2 billion project, a much higher stake than most developers use. SJP executives say the tightness of the New York office market and the fact that it switched to a fixed-rate loan will protect its investment.
Rising rates
Across the country, developers are keeping a wary eye on the subprime credit crunch, since it could mean that lenders will continue to tighten their standards and not as many people will be able to buy homes.
In New York, too, banks are more closely scrutinizing requests for mortgages (which in the case of developers typically means construction loans). Banks are wary that when the project is finished, buyers may not show up since they won’t be able to line up financing, Winter says.
“It’s a chill for everyone to know that the end buyer is inevitably going to shrink,” he says.
While there is a large supply of inventory coming on the market in Manhattan, the situation isn’t as bad as in cities like Miami and Las Vegas. Much of the new Manhattan condo inventory is getting absorbed; new development sales currently constitute approximately 20 to 25 percent of all apartment sales in Manhattan, according to appraisal firm Miller Samuel.
That check on supply should be enough to keep prices healthy, allowing developers to continue to take out mortgages with favorable terms, says Thomas MacManus, global head of debt and equity financing for the capital markets group at Cushman & Wakefield.
“There’s a strong demand for product, and the fundamentals of the economy here are solid, and that’s the key,” MacManus says.
Also, since there’s still a lot of liquidity out there for developers to tap, MacManus doesn’t see the mortgage collapse-fueled credit-crunch as “having any material adverse effect.”
Still, developers eager to funnel some of that liquidity may also find that it’s flowing toward commercial deals, which even seasoned residential developers are embracing, says Gary Goodman, who heads the New York real estate group of Sonnenschein Nath & Rosenthal, an international law firm.
Some of the biggest developers “can go both ways, can do residential or office space, like the Resnicks, Rudins and Dursts,” Goodman says. “The bloom is off the rose on residential deals.”
In fact, even those marquee-name developers, who just a few years ago might have secured bank financing for 90 percent of a deal for a “trophy property,” are feeling the current pinch.
“No one can get that now,” Goodman says. “Banks will at most cover 85 percent.”