Redefining ‘Doable'

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REDEFINING "DOABLE": Special-Use Properties Call for Special Financing Tactics — and Knowledge

Special-use properties are designed and constructed with a particular purpose in mind. For example, a building with a large open kitchen area with extra plumbing often is best-suited for a restaurant — and not much else. When you're faced with securing financing for restaurants, hotels, motels, day cares, carwashes, gas stations or assisted-living facilities, to name a few, it's best to be prepared for what you'll encounter in the commercial lending marketplace. Special-use properties are often lumped together with single-use facilities, but that might be too much of a generalization. The difference between the two comes in the ease of conversion. Special-use facilities often are easier to convert than single-use facilities, which businesses often cannot acquire and use as-is for another purpose. Restaurant properties, for example, can make great office buildings because they usually are well-located, though some remodeling might be needed. The same can't be said for a carwash. Because of the specialization of these properties, along with the equipment usually involved in their operations, commercial lenders generally proceed with great caution when presented with special-use and single-use deals. These are often the most-difficult commercial properties for which to secure financing. But they're not impossible for brokers who know what lenders seek.
What to expect

Even in an ideal economic environment, bankers have a more difficult time with special-use properties than they do with straight-forward acquisitions. One issue is potential vacancy. An office building, for example, is said to have multiple uses for multiple users or types of tenants. In other words, if an architectural firm moves out, another professional firm can usually take overthe vacant space with little trouble. Specialized deals, however, are becoming increasingly harder to do, especially when they are constructed from the ground up. With traditional commercial lenders, your clients often can expect no better than 80-percent loan to value (LTV).While 20-percent equity may not seem too terrible for a borrower at first glance, remember that special-use properties tend to involve quite a bit of specialized equipment. This equipment often is financed over much-shorter terms, often with three-, five- or seven-year amortizations. Thus, it can be difficult for these clients to inject that much equity into a deal without affecting their cash flow. And in softer economic times, capital and cash flow are critical. When you remember this for your commercial borrowers, you'll likely be busy in good times and in bad.
New DSCR realities

In special-use deals, your debt-service-coverage ratios (DSCRs) are key. You should see if the deal's cash flows — in other words, if the borrower can repay the debt on the loan. Normally, an acceptable DSCR is 1 to 1.2.This means the special-use-business owner has enough cash to cover the total debt — the proposed loan and any other long term liabilities— and then some. With special-use projects in today's economy, however, lenders often seek a DSCR of 1.2 to 1.4.The stronger the borrower's cash-flow-coverage
ability, the better off you'll be as a broker when you try to place the loan. Again, greater equity injections are often required of borrowers with special-use properties. Putting less money down and easing initial cash-flow concerns with longer amortizations
can help your clients better afford their project in the long run.
How to look at costs
While most traditional commercial real estate financing focuses on LTVs, it often is better for special-use borrowers to secure financing based on the loan-to-cost (LTC) amount. This takes your clients' total project cost into account, not just the lesser of the appraised value or purchase price of their property.
Special-use-project costs can differ from those of conventional projects. They include:

• The property's purchase price;
• Construction and renovations;
• Soft costs, such as fees for the architect, engineer, permits or impact;
• Closing costs; and
• Furniture, fixtures and equipment, which could help the cash flow of a business when financed as part of the loan. Many commercial lenders do not offer this, though.

Most commercial lenders that offer LTC commercial loans finance 85 percent to 90 percent of a project's total cost. When 90percent-LTCfinancing is applied to special-use construction projects, for example, it's often equivalent to nearly 95-percent LTV after including all soft costs and other construction-related costs, such as contingency and interest reserve. Thus, for borrowers with special-use properties, LTC financing often can paint them a clearer financial picture.
The next time you work on a special-use project, think about getting financing that will suit your clients' needs and put them in a better position to grow. Despite the economic turns, this is a great time for owners of small and midsized businesses to invest in their commercial properties— if they do it right. Help your clients make the right decisions, and you might reap the rewards yourself, as well.