Written by Philip Kay, CFA
2020 has been a difficult year for commercial real estate. Save for the logistics market, sectors such as retail and hospitality have not fared so well. The pandemic has also sparked debate regarding the outlook of the office market, raising fundamental questions as to the productivity cost/benefit trade-off.
CRE term lenders have understandably reflected these increased risks by adapting their lending criteria accordingly. Whereas some commercial banks have withdrawn entirely from financing commercial assets, others have been lending selectively, for example against supermarkets or convenience stores or offices let on long leases to strong covenants.
Given the news of the forthcoming vaccines, could we now be at an inflection point where a return to a ‘new normal’ is in sight? And what could be the effect on lender appetite given this news?
For many assets, a short period of income stabilisation is now required before the ‘new normal’ arrives. Lenders now have an opportunity to begin lending again before it becomes easier to underwrite cashflows and there is a flood of participants back to the market.
In the case of offices, even if there is a structural shift in how offices are utilised, with flexibility in size and use being demanded by office tenants, the risk of office properties no longer being relevant appears low. For instance, investors in office blocks in strong locations which might have faced vacancies as a result of 2020, might look to use the opportunity to carry out refurbishments, safe in the knowledge that the strong location will likely generate tenant demand at the point where the refurbishment completes and life returns to normal. Accordingly, the term lender could structure their loan to account for the lack of income during the refurbishment, marketing and rent-free periods and still be confident in the levels of income in the short to medium-term. The lender would also benefit from the knowledge that their security will have increased in value following the refurbishment.
Another example is in the purpose-built student accommodation space, where construction delays during the early stages of the pandemic have resulted in new developments completing later than scheduled, leaving an income gap between when students book their accommodation in the Spring and when they begin to pay rent at the start of the academic year in September/October. In the same way, a pragmatic term lender could perhaps view this as purely a question of income delay rather than income uncertainty and mitigate this risk with cash on account to cover the lack of income for the relevant period, rather than forcing the developer/owner to take out a relatively expensive bridging facility before refinancing onto a term loan, thereby doubling up on fees.
As the horizon for post-Covid normalisation approaches, the market appears to be finding clarity on the direction of travel. Commercial lenders are selectively adapting their product offering but a more pragmatic approach in assessing risk exposure is needed to support the recovery in the commercial market into 2021.
First published in Buisness Moneyfacts Magazine
For any further information, please contact:
Philip Kay, CFA
Senior Asset Finance Advisor
T: +44 (0) 7894 872 667