Construction Financing William Gietema Arcadia Realty Dallas, Texas

Construction Loans Construction Loans Money Moves Differently Short Term Transaction Intensive Process Intensive Overhead Intensive Fee Driven Expensive / Profitable

Sources of Construction Lending Commercial Banks –Short Term Loans match Short Term Liabilities –High Returns Present Competitive Advantages –Local Knowledge: Real Estate Market Construction Market Personal Relationships with Borrowers –Syndication of Loans Between Markets

Special Risks Takeout Risk –Opportunity Cost –Risk of Loss Commitment for Permanent Financing –Type of Commitment –Sponsorship of Commitment –Contingencies Delivery Date SpecificationsEconomic

Special Risks Start Risk –Boundary Surveys –Soil Tests –Environmental Tests –Availability of Utilities –Zoning Verification –Availability of Building Permits

Special Risks Completion Risk –Quality of Design –Quality of Budgets –Quality of Construction –Financial Strength of Contractors –Hold Back / Retainage –Contingency Budget –Quality of Contracts Sponsorship Risk –Experience of Borrower –Financial Strength of Borrower

Special Risks Borrower Default –Right to Recover Through Foreclosure Right to Foreclose First Lien Priority in Title Title Insurance Lien Waivers Assignment of Contracts Assignment of Rents –Borrower Guarantees Loan

Construction Loans Vs Land Development Loans Primary Difference between a Construction Loan and a Land Development Loan are the sources of repayment. Construction Loans - Taken-Out (Wholesale) Land Development Loans – Sold-Out (Retail) Subdivision of Lien and Partial Release of Loan

Retailing Land

Land Development Loan Construction Lender now Responsible for all Underwriting Analysis Incremental Repayment Over Sales Period Loan Performance Tied to Project Performance in the Market Place Longer Term = Extended Risk Horizon More Interest Rate Sensitive Quality of Collateral Subject To Change

Loan Underwriting Very Conservative Underwriting Loan to Value Based On: –Market Value –Hard/Soft Development Cost –Discounted Bulk Sale –Value of Collateral –Financial Strength of Borrower

Time and Risk Longer Term = Extended Risk Horizon Incremental Repayment Over Sales Period Loan Performance Tied to Project Performance in the Market Place Quality of Collateral Subject To Change

Release Price Determines the Amount of Principal Repayment Made with Each Lot Sale. Intended to Accelerate Loan Repayment Shorten Risk Horizon = Reduce Risk

Developer’s Risk Value of Inventory –Anti-Cherry Picking Clause in Builder Contracts –CC&R’s Including Architectural Regulations Cost Overruns and Completion Risk –Contract as much away as possible –Architects, Engineers, Contractors, Lenders –Have Hard Cost Contingency in Loan

Developer’s Risk Builder’s Performance –Take Down Schedule –Specific Performance Clause –High Initial Lot Deposit –Burn Down of Deposit –Onsite and Marketing Performance Clauses –Quick Remedies Through Default Clause

Time and Risk Increased Time = Increased Costs –Pass Through Incremental Costs to Builders –Have a Soft Cost Contingency in Loan –Reduce Debt Quickly Agree to Higher Partial Release Price Accelerated Builder Take Down Bulk Builder Take Down –Increase Sales Velocity Product Diversity Small Phases

Single Product

Product Diversity

Project Phasing and Risk

The Worst Case Scenario: Lender Declares Default What Happens Next Depends on the Guarantee the Developer Signed –Guarantee to Repay the Loan –Guarantee to Repay all Losses –Guarantee to Repay Lost Principal Amounts –Completion Guarantee The Loan Must Give the Borrower the Rights to Cure and Extend

Equity Sweat/Earned Equity –Unrealized Value Created through the Development Process Hard Equity –Cash or Value Which Fills the Gap Between Total Loan Amounts and Total Cost. –It has Ownership and Participates in Profits and Losses. –It Deserves High Rates of Return –It Should NEVER be Guaranteed –It Should NEVER be the Developer’s

Summary Construction and Land Development Loans –Structurally Different from Other Kinds of Loans –Process Intensive –Extremely Time Sensitive –Expensive The Borrower Can Manage Risks –Conservative Underwriting –Product Mix and Phasing –Allocate Risk to Others –Aggressively Negotiate Guarantees, Extensions and Rights to Cure

Things To Remember You are Responsible for the Amount of Risk you Assume You are Responsible for Managing your Risk Negotiate Risk Away from You. Never Use Your Own Money

Thank You Arcadia Realty Dallas, Texas

Single Product

Product Diversity