Some Shops Ease Covenants on Bridge Loans
The intense competition for bridge loans is prompting a growing number of lenders to ease credit standards in order to win business.
Over the past few months, some shops have eliminated or loosened various credit protections traditionally included in bridge loans on transitional properties, according to a number of lending pros.
“Things have been getting a little crazy lately because there’s just so much capital out there, searching for yield,” said one lender.
With loan spreads tight and leverage near maximum levels, negotiations with borrowers now often center around loan covenants. And lenders are increasingly yielding, agreeing to less-restrictive provisions to capture deals.
Compromises on credit standards aren’t unusual in frothy markets. In the commercial mortgage sector, securitization shops and insurers have loosened covenants periodically over the years when competition has become intense. And in the leveraged-loan market, the growth of “covenant-lite” loans has raised concerns. But this is the first time that the trend has emerged in the commercial real estate bridge-loan market, lenders said.
The scope of the practice is hard to measure because most bridge loans are arranged privately. Indeed, some industry pros said concerns are overblown, describing concessions as minor and typically limited to top-tier borrowers and properties. “People aren’t winning or losing deals over that type of stuff,” one lender said. “Winning a loan always comes down to leverage and spread.”
But others said it has become widespread enough lately to spark grumbling from lenders who believe they are losing out on loan assignments because of the trend.
“This is pretty nuanced stuff — it’s a lot of little things,” said one bridge lender, who added that small shops especially are “stretching to make borrowers happy because there’s not enough transaction volume to go around.”
“This is what happens when the market gets so competitive,” said Acres Capital chief executive Mark Fogel. “It feels like a bit 2007 again,” he said, referring to the over-heated lending market that preceded the crash. “As opposed to two or three years ago, today’s environment has lent itself to borrowers having a stronger negotiating position, sometimes, resulting in diluted loan restrictions and carve-outs.”
Some especially expressed concern about the easing of standard provisions to guard against “bad boy” behavior by borrowing entities, such as fraud and voluntary bankruptcies. Those provisions, or carve-outs, specify conditions under which an individual in the borrowing entity would personally become fully or partly responsible for the debt if recourse is triggered.
In some cases, the carve-outs are being waived or the number of events that trigger recourse have been cut. Some lenders are also reducing the net-worth requirements for guarantors and requiring lower-than-usual amounts of liquid assets. And sometimes borrowers are being permitted to less frequently provide proof that those standards are being maintained during the life of a loan. “People are agreeing to ridiculously small amounts [of liquid assets] from borrowers,” one lender said.
Meanwhile, some borrowers are boosting loan proceeds by persuading lenders to reduce or eliminate reserves that cover interest payments for a certain amount of time. Other examples of lender concessions include a willingness to forgo setting up a cash-management bank account, called a lockbox, to collect rent payments directly from tenants if the borrower runs into trouble. And they don’t always require the right of approval to transfer a mortgage to a buyer when a sale occurs.
“With all this liquidity coming into the space, they’re really pushing the envelope,” Fogel said. “Eventually, some of these loans are going to go sideways.”