Commercial real estate developers and property owners are facing new challenges every day. Interest rates seem to rise one half of the year only to fall in the next half. Competition for materials is heating up. And real estate values continue to decrease in many markets.
These days, the only constant seems to be change.
There is a wide range of financial services options available to help them through these challenging times, including the following:
Sale-leaseback
Commercial property owners can take advantage of changes in commercial real estate values through a sale-leaseback, which occurs when companies sell their real estate, cash out on accumulated equity and use the leverage to buy more properties or expand their businesses. Buyers typically benefit by employing long-term, fixed-rate leverage to enhance their own return on equity.
For large corporate brands that own a material amount of their stores’ real estate, a sale-leaseback would allow the company to transfer capital from a comparatively low return-on-assets investment to (what should be) a relatively high yielding investment, such as an expansion of operations.
For a small owner-user franchisee, a sale-leaseback would facilitate an expansion of operations or an opportunity to diversify real estate holdings away from its franchises. As for the buyer, these transactions would provide a steady, long-term income stream (assuming the buyer structures the deal with a long-term triple-net lease) generated by an asset that has exhibited relatively low historical price volatility.
Interest rate hedging strategies
Lenders are increasingly offering creative financial strategies that commercial borrowers can consider to hedge against interest-rate changes.
Forward hedges grant borrowers the means to lock in rates on bank or permanent debt at a future date, in some cases for one or two years into the future.
Interest rate caps can be customized to meet a specific borrower’s loan needs. Based on current market conditions, the cap rate can be set at the rate the borrower desires for any time period. The commercial borrower enjoys a floating interest rate subject to the maximum set forth under the cap and also has the flexibility to cap all or a portion of the loan.
Interest rate collars set an interest rate floor and ceiling on existing variable rate loans. Commercial borrowers could use this type of product if they need protection from high rates but believe interest rates will remain within a certain range. The addition of the floor component aims to help minimize associated fees as compared to caps.
Interest rate swaps are used to exchange a variable interest rate with a fixed rate. These products provide cash flow certainty and protection against sharply moving interest rates. Commercial borrowers may find this an attractive alternative to permanent financing given the flexibility with regard to prepayment options.
Green building
Green building is the practice of creating more resource-efficient models of construction, renovation, operation, maintenance and demolition. As oil and gas prices hit new highs, developers and tenants are looking for ways to reduce costs. Developers pay an estimated 1 percent to 7 percent premium for green buildings, but ultimately save when long-term benefits or the total cost of ownership (TCO) is considered.
When energy-saving measures are in place, building owners or tenants can save more than 20 percent a year on energy bills – in the end, green buildings can pay off.
Don’t wait for challenging times to identify better ways to reach your goals. By keeping a close eye on your business and your markets, working closer with your financial advisor, remaining agile and following sound management practices, your company can survive – and thrive – through any economic challenge.
Tawnie Nelson manages Wells Fargo Business Banking teams in Clark County and Portland. She can be reached at 360-759-4820 or tawnie.nelson@wellsfargo.com.
