Why UTB always put the customer first when evaluating finance proposals
Surveys of SME housebuilders often identify ‘the planning system’ as being the biggest barrier to the success of their businesses. That I can fully understand. What surprises and frustrates me however is that even now, with more choice in the marketplace than we’ve seen for a decade, many small to medium sized housebuilders say they still have problems accessing development finance. The most recent FMB ‘State of Trade’ survey highlighted that 1 in 5 SME housebuilders have had projects stalled or delayed due to funding refusals or delays. That shouldn’t be happening.
Selecting the right lender to approach in the first place is critical. An understanding of the types of projects they support, their minimum and maximum loans, the gearing they’re prepared to go to and their willingness to take mezzanine combinations are all basic considerations and will tell you if you could consider them as a finance partner. Add the nature and dependability of their funding, their track record and experience during challenging markets and the service and support they provide through the application stage and once the project is underway, and you should be able to work out if you’d actually want them as a finance partner, especially if the going gets tough.
Once you’ve made your selection you can substantially increase your chances of a successful proposal by understanding what the lender’s key considerations are when making credit decisions. All lenders will be slightly different of course but how we do things at United Trust Bank is remarkably straightforward. What may surprise some is that for us it’s the client, ‘the borrower’, rather than the development which is most important. When we look at a proposal it’s always Sponsor – Asset – Structure in that order. Let me explain:
United Trust Bank’s Credit Committee meets daily to consider the new proposals being presented. It comprises originators and credit specialists who meet daily to discuss proposals under the chairmanship of the Bank’s Head of Credit. Proposals are presented in person with the aim of reaching a consensus decision. If successful, the Bank can issue committed facility letter documentation within 24 hours but often this is done before the close of business.
This is different to most High Street and alternative lenders where Credit Committees are often well away from the front line. Furthermore, all members of the team are encouraged to attend Credit Committees whether they are presenting or not. Anyone can comment and influence an application and this dynamic ‘peer review’ helps credit policy evolve and react quickly to changes in the market place.
Sponsor – Asset – Structure
As stated previously we always begin with the ‘Sponsor’. If we like them, we move on to look at the asset, the development they want funded. If we have two positives at that point, we look at the structure of the deal. We approach each proposal in that order every time because if we are uncomfortable with the sponsor, the asset and the structure are secondary. However, if there’s a strong sponsor and a more challenging asset and/or structure we will flex on those to get a proposal through.
What makes a strong sponsor?
We ask some basic questions. Who is delivering our exit? Who are we relying on to repay the substantial sums they wish to borrow? On whose front door am I knocking if there are issues during the lifecycle of the project? Can the borrower demonstrate past successes in terms of similar projects in similar locations, design, size, layout and specification? If they are new to the Bank, can anyone vouch for them? – we will often have industry contacts in common who we can rely on to give us a positive reference. Has the borrower performed through the cycle? – the property market is cyclical with good times and bad. What have their behaviours been like when times have got tough? When the project or economy got bumpy how have they responded? -Looking at how borrowers have managed challenges in the past is very important to us when trusting a sponsor with our money on future projects. Has the borrower built a personal and/or company balance sheet representing past successes through recycling profits? Whoever is delivering our exit needs some skin in the game – this can be hard cash, soft equity through planning gain or a mix of the two.
When all said and done, once we’ve asked all the questions and seen the answers we still ultimately lend on trust. We are trusting someone with our money with an expectation that we will get it back. Yes, we take a charge over the site and possibly other security as well but this is our fallback, our secondary source of repayment. We are backing an individual or individuals to deliver the completion of a scheme that can be sold or refinanced in order to return the money borrowed. Our aim is to identify and back the right people as this is most likely to mean we are building the right homes in the right locations.
Will you lend to inexperienced borrowers?
With so much uncertainty at the moment, our preference is to lend to experienced developers. However, over the last few years we have helped several fledgling developers to thrive. These borrowers were able to assure us of their suitability by demonstrating relevant transferable skills, solid business acumen, firm financial foundations and by appointing teams of proven experienced professionals and contractors capable of plugging the knowledge gaps where the borrower has less first-hand experience themselves. If the team, the asset and the structure stacks up, the whole can be greater than the sum of the parts and worth a closer inspection.
And what makes a good asset in UTB’s view? The asset conversation centres around two simple questions – ‘can they build it?’ and ‘can they sell it?’ Can they build it? What is it? Where is it? How much is it? How big is it? Are there any planning or construction risks? What are the Section 106 conditions? We look at the borrower’s and professional team’s track record for delivering similar schemes and an even closer look at their in-house or appointed construction director or project manager. This role, the person with overall responsibility for the build program, sequencing and generally gluing together the trades, professions and getting materials to site is pivotal in the success or failure of the development. Procurement – self-procured packages or main contractor or somewhere in-between? If it’s a main contractor, what’s their track record? Past successes of the borrower and the builder (if the two are separate) are important of capability.
Can they sell it?
Are the projected prices realistic? Is there a proven demand? If not, is the developer looking to create demand, if so, how? What’s the competition? Typically, when we are looking at the local market we tend to look within a two mile radius of the proposed site and need comparable evidence supporting the price points. Two potential exits for the funding are preferable. Sales to owner occupiers and BTL investors is usually the first exit route. Longer term refinancing supported by rental yield is another so rental values are important when considering our fall-back options.
This is where we analyse the full cost of a project and how these are to be funded. The equity mix is usually a combination of the developers, third party private or institutional investors and the Bank so it’s important to understand the relationships here.
We interrogate the borrower’s development appraisal, procurement plans, monitoring & control, equity contribution (and where that is coming from), liquidity and of course the funding required from the Bank and the proposal of how and when they will repay it.
We generally expect the project to be fully contributed from the outset so that a project is properly funded from the day one purchase, through the construction programme and into the sales phase. We typically expect the developer’s equity to go in up front together with any junior debt towards the purchase and we then provide senior debt as the balancing item towards the purchase together with 100% of the construction costs. Senior debt is typically up to 90% loan to cost with an upper limit of 60% loan to gross development value.
Most developments have three distinct phases which are planning, including satisfaction of pre-commencement conditions, construction and sales. We can wrap debt around these phases through tailored products including bridge to develop, construction finance and sales period finance. Where the developer needs additional funding over and above our typical metrics then we can suggest other solutions. These might include:
1. Leveraging planning gain if it’s not already included in the funding package
2. Additional leverage against pre-sales of private units off-plan with deposits held on escrow
3. Additional leverage against agreements to lease if we are funding a mixed use, residential led scheme
4. VAT loans where applicable
5. Junior debt on top of our senior debt through preferred partners
6. Equity contribution through the customer and suitable partners
Accepting that the property market is cyclical, and it could be argued that we are nearer to the top of the cycle than the bottom, if we are at an early stage of a structuring conversation where the borrower is still in negotiation with the vendor then we might suggest overage or joint venture arrangements (build now pay later) where the vendor retains an interest in the project.
Conversations around structuring will also include terms & conditions attached to the sanction which typically include a valuation, legal conditions associated with the first legal charge, debenture and any recourse mechanisms associated with overruns together with a cost report from the monitoring surveyor.
Assuming it is a ‘Yes’ from the Credit Committee, what happens next? All being well from credit we produce ‘shortform’ in-house facility letter documentation. We do not over engineer facility letters with unnecessary conditionality and we are pragmatic around warranty requirements. Our committed documents can be issued within 24 hours of a sanction.
Other lenders often produce short-form or long-form Loan Market Association (‘LMA’) facility documentation which can add considerable time and costs through additional professional fees on the part of both the Bank and the borrower through fees for their appointed solicitors reading, explaining and negotiating bespoke terms.
We then allocate a dedicated Case Manager who is committed to ‘project managing’ the Conditions Precedent’ attached to each loan so that the finance is proactively managed to first drawdown. Thereafter, the same Case Manager is responsible for project managing the monthly construction drawdowns.
No one can say with any certainty what the UK’s economy, property market or the political landscape will look like in two to three years’ time when many projects in embryo now will eventually come to market. Experienced lenders like UTB have seen uncertainty before and continue to support the right people building the right homes in the right places. Our longterm success is dependent on the long-term success of our clients and their ability to consistently find opportunities and deliver projects whatever outside forces are at play. When we agree to invest in a development it’s more accurate to say that we’re investing in the person or persons behind it more so than the actual bricks and mortar. We’re in this business for the long term, not the duration of one project, and that’s why at UTB we always put the ‘sponsor’ first.