The effect of rising commercial loan interest rates on new projects is all too well known. Higher rates turn strong projects into marginal ones, and marginal projects into cancellations and quagmires. Investors and financiers want to see clear, contemplative business plans before even entertaining projects in such markets, without which the developer is highly unlikely to secure any type of commercial loan or equity.
Many sponsors seeking commercial loan financing for new construction projects are surprised by this trend, largely because until recently money flowed rather freely into projects of all kinds and business plans often went something like “We’ve got an apartment building, and we’re developing another apartment building“. Moreover, the planning and architecture sides of the project very often had little to no contact with the investor side.
We are seeing change in this regard throughout the industry on new commercial loan originations. Investors, equity and debt partners alike, are more likely to be represented during the design phase of the project, and are “buying in” to projects earlier in the process. This increases the visibility and marketability of the project to capital sources, increases the chances of securing good commercial loan terms, and supports successful outcomes for all.
Architects themselves have come forth advocating the involvement of the financiers early on in the design process, which would normally seen as heresy. But a project which is planned without investor involvement is more likely to experience difficulty in the commercial loan process, and poor financing leads to huge redesigns and cancelled projects, not to mention uncollectible receivables for the architect!
It’s easy to think a finance expert may not seem too useful during the design phase of a project. After all, they’re the money guys, right? One of the key areas of contribution is in developing investor-grade models for costing, staffing, key count, operations, and phasing. The earlier in the process they begin the better, as it helps the design teams believe that the business modeling presented is able to attract finance and can be carried out to fruition. In addition to this financial “design” work, the finance team is uniquely positioned to analyze the design process and the business plan to ensure that the overall project continues to be attractive to capital throughout the development process. This measurement keeps the design on plan, and can help steer it back should it get off course.
Every project is a business venture, part of an overall business strategy, and the business plan for that venture must make sense. Regardless of the type of project, be it the next in a string of local apartment buildings, or the expansion of a hotel brand into new territory, or a good old fashioned renovation, each new project must fit within a company’s strategy. Financial experts are well suited to looking at the build, comparing it with the strategy, and determining whether or not it pencils out. The earlier they are involved, the more effective they can be, by optimizing workable projects so that they are easier to capitalize, manage and complete on time and on budget, while preventing inadvisable projects from burning financial resources of all parties.
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