Real Estate Case Study: Mezzanine Debt
A nationwide owner of hotels.
Our client’s hotel portfolio was leveraged with a number of long-term low fixed interest rate loans. Since the origination of the original first mortgage debt, increases in operational efficiency for the portfolio resulted in improved portfolio cash flow. Our client’s desire was to use the increased cash flow as a borrowing base to create additional liquidity for new capital investments in the portfolio.
The prepayment penalties associated with refinancing the first mortgages along with the faltering CMBS market made a conventional refinancing cost prohibitive, and market turmoil made traditional, low-leverage, mezzanine debt unavailable. The client engaged Chatham to find a capital partner.
As is typical with our engagements, Chatham’s role started with the strategic planning of the transaction and continued until the deal closed. We spent time with the client running multiple scenarios to determine the portfolio’s sensitivity to shocks in revenue and changes in interest rates. The goal of the analysis was to ensure that any transaction would leave the client with an appropriate level of debt and fixed/floating mix for the hospitality industry, and make certain that the debt maturities were appropriately staggered to minimize refinancing risk.
Once the appropriate capital structure was agreed upon, Chatham created the underwriting and analysis necessary to approach a small number of potential partners who had the capability, experience and flexibility to meet our client’s needs.
After a capital partner was identified and agreement was reached on terms that were mutually acceptable to our client and the capital partner, Chatham proceeded to work with counsel to negotiate the final documents in the agreement and get the necessary consents from stakeholders in the existing financings.
Our client closed a deal with a single capital partner who not only delivered the desired loan size and structure, but also provided the necessary flexibility and capabilities to deal with the complexities of the transaction. The closing provided our client the liquidity to pursue investments in the portfolio at a time when many of its competitors were cutting investments to their hospitality portfolios.
Tags:case study, CMBS, fixed, floating, interest rate, Liquidity, loans, Mezzanine Debt, Real Estate,
Mezzanine Case - Interview - Paper Problem (Originally Posted: 01/21/2015)
I was given 15 minutes to solve this below problem in an in person interview at a Mezzanine Fund yesterday. I was wondering if anyone can provide the right solution to see if I got it right.
Brockway Moran & Partners purchased Woodstream Corp., a maker of wild animal cage traps, rodent control devices and pesticides, from Friend Skoler & Co. LLC. The $100 million purchase price is equivalent to between 6.5 and 7x EBITDA.
qOf the equity, Brockway contributed 85% of the total, with management chipping in 10%. Lenders Antares Capital Corp. and Allied Capital Corp. fill in the remaining 5% gap. Total equity represents approximately 40% of the purchase price. The equity sponsors aim for a 27% rate of return in this investment.
qOn the debt side, Antares led a $58 million senior facility, along with Merrill Lynch and GE Capital Corp. The senior debt component also contains a revolver to be used in the future as working capital (and not included in the $100 million purchase price). CIT Private Equity and Denali Advisors LLC provided a subordinated note in the amount of $17 million.
A summary of the financing terms follows:
The equity investors were seeking an estimated 27% rate of return.
1. What is the effective rate of return to the mezzanine investor?
2. What is the effective cost of the mezzanine finance to Woodstream?