Edmond de Rothschild Real Estate Investment Management (REIM) has raised an initial €250m for its new European real estate debt strategy, focused on providing whole and mezzanine loans as well as preferred equity to investors in the major European markets. The company is a recent new market entrant in the debt sector.
The capital has been raised from a mix of international investors for two debt vehicles, the Edmond de Rothschild European Real Estate Debt Fund and a dedicated fund with a German insurance group. The Real Estate Debt Fund, which is targeting an income distribution of 4%-5% a year and a net total return of about 8%, is aiming for an ideal size of €300m, while the separate account represents a mandate of €180m and a slightly lower yield.
The two debt vehicles have complementary risk-return profiles, with a slightly higher risk bias for the main fund, and may co-invest in the same loan transactions with target loan-to-value ratios of 70%– 80% on average, with potentially more on individual deals.
The lending strategies focus on all major and alternative property sectors in the European real estate markets, including Germany, France, Benelux, Nordics, Spain, Italy and the UK, leveraging off Edmond de Rothschild REIM’s extensive network and local presence across Europe. This now includes a staff of 134 in nine office across 7 countries, and manages more than €10bn on behalf of discretionary funds and third party mandates.
The Edmond de Rothschild Real Estate Debt platform offers a comprehensive and flexible range of debt products for borrowers across the capital stack including whole loans, mezzanine debt, select preferred equity, bridge and term facilities for existing properties and development projects.
Ralf Kind, Head of Real Estate Debt at Edmond de Rothschild REIM, said, “As an alternative lender we can provide flexible financing solutions for borrowers from a single source. With our dedicated and experienced international real estate debt team based in Frankfurt, we are not distracted by any legacy, pre Covid-19, loan book positions. We can, therefore, focus entirely on new deals”.
He said the fund would look at all asset classes, and did not rule out retail or hotels, while adding the fund was likely to be very choosy in those sectors. The fund was currently looking at 20-25 loan applications with a volume of about €400m, and hoped to close its first deal in March, in tandem with a second closing of a further €30m.
His colleague Christophe Caspar, Global Head of Asset Management at Edmond de Rothschild Group, added: "We are now in a lenders’ market. The case for private real estate debt has become even stronger given the huge lending opportunities at lower risk and higher margins. Credit is a good place to be when markets are going through a correction."
Edmond de Rothschild REIM is just one of several new market entrants into the debt space over the past year, as we have been reporting regularly in these pages. With the full ravaging of the market due to the COVID-19 pandemic yet to become apparent, they're all arriving at a time when the markets will be faced with steep challenges - particularly in the hospitality and retail sectors - with the exception of grocery-anchored retail.
Torsten Hollstein, CEO of Berlin-based CR Investment Management, who has considerable experience in turnarounds and distressed real estate, said in a recent interview in business daily Börsen Zeitung: "The number of insolvencies has been rising daily since the end of December, beginning of January. These are our tenants. Sooner or later we're really going to start to notice this in the real estate industry. Because risk is now being priced on a differentiated basis, in contrast to when we're in a boom phase."
Hollstein doesn't foresee too many problems with residential debt funds, which have financed up to 97% LTVs, at least for those focusing on 'average' properties, which would make up the bulk of debt funds' focus. The biggest danger as he sees it, and which we'll probably start to see in this quarter, are funds which were focused on hotels and retail, and financing the gap between the 65% and 90% level in the capital stack.
These tend to be Anglo-Saxon asset managers who have favoured the riskier segments - such as shopping centres - which provide the prospects of harvesting the higher yields which they've promised to their investors.
"Those hunting grounds envisage 15-20% returns including success elements such as exit fees, while German lenders favour less risky markets such as residential, which yield 6-8%, or up to 10% with success fees on riskier investments", said Hollstein. This is where individual insurers or pension funds invest three-digit million sums through a separate account, whereas with funds the investors are likely looking at assets priced between €20m and €50m.
Hollstein believes that the debt funds are going to have to be ready to review their strategies in light of trouble ahead, and the fact that many of them have yet to experience a crisis in their relatively short-lived existences. In particular, the tension between senior and subordinated lending will cause problems, he thinks.
"When a tenant or a borrower files for insolvency, then the debt fund turns to the provider of equity capital and generally falls in with that provider's alternative plan, which is normally some form of conversion or re-structuring. The debt fund wants to help the borrower to stay alive, and might even see some way of even earning further commissions or fees by his actions. By contrast, the bank will be looking to realise something from the property. This is where the debt funds will have to review their situation, since they too are financiers and not providers of equity capital. They're going to have to decide quickly, early on in the cycle, that to stabilise their value they're realistically going to have to sell."
Another man talking to the Börsen Zeitung about debt funds was Manuel Köppel, managing director of Stuttgart-based real estate asset manager BF Capital, part of BF.direkt. Köppel says that what's in demand are conservative, balanced loan strategies with a first-ranking component or capped loan-to-value ratios. While newer debt funds are currently investing in fund-of-funds, Köppel points out the difference between financing by banks and funds. Debt funds might often accept a higher loan-to-value ratio of up to 80% or 85% - in other words, by packing the first-rank financing and a mezzanine part into one tranche. BF Capital could set up such a Whole Loan for an individual mandate from a large German insurer or for several institutional investors in his BF Real Estate Debt Fund of between €10m and €30m. "Below €10m the heavy burden of loan documentation makes it not worth it,” he says.
Where debt funds have more leeway is in terms of valuation. For example, an office building with a remaining useful life of one year, but which can then be converted for partly residential use, can be valued (i.e. higher) with that in mind. "That's how we can finance business plans and not just pure properties," said Köppel. "A bank can normally only base the valuation of the office building with the remaining useful life of one year, as it stands, because of the regulatory requirements."
This has led to lots of problems for hotels, for example, due to the Corona pandemic. But again, much depends on the phase of its development that an asset was in when it was financed. He cites a hotel project BF Capital accompanied in an early phase which could be re-purposed to a different use in good time.
Köppel also highlighted the increasing importance of ESG aspects on routine daily business, which is now impacting the entire real estate industry. "Our investors are exclusively institutional investors who, depending on their size, are to a greater or lesser degree affected by ESG regulation. We are confronted with these requirements because we work with institutional money. That is why we are dealing with it, but it's clear we're only at the beginning of a long road ahead."
