Kreston Reeves’ Anne Dwyer discusses the issues developers face when raising finance.
It will surprise nobody to learn that small and mid-sized businesses are finding it increasing hard to raise bank finance. And nowhere has this been harder felt than in the property and construction sector.
And it is getting harder. Banks have dropped loan to value, or LTV, ratios to 60% to 65%, making it difficult for investors and developers to fund new schemes. It is difficult to pin exactly why banks have changed LTV ratios, but it does seem to have coincided with the change in government and the perceived increased threat of a no deal Brexit.
The message from bank management boards and lending committees within the last three months is one of caution.
The frustration for developers is that irrespective of Brexit, cautious lending and strict covenants will not change direction quickly. It will take at least six months or longer from our final departure date for banks to rethink and loosen their restrictions.
Banks are also demanding greater security and personal guarantees – something developers are often unable or reluctant to provide – and greater levels of management information. And when finance is secured, bank covenants are increasingly strict. We have seen banks ask for three or more covenants when just a few months ago one would have been sufficient.
Speculative lending has also all but disappeared, with lending committees demanding full due diligence on targets before they are even considered. And this comes at a time when costs – particularly labour costs – are increasing. We would argue that now, more than ever, barriers to finance should be dropped to help firms weather Brexit uncertainty.
So how is the industry responding?
Private equity investors are also circling parts of the real estate sector, but their demands for higher returns over relatively short time frames will often be too challenging and holding equity can be unattractive. This has resulted in many development sites stalled or on hold – some for up to three years and counting.
A temporary blip
But it is not all bad news. Overseas investors, attracted by the weakened pound, continue to play an active role in the UK real estate market.
Smaller and often regional developers and construction companies continue to do exceptionally well. Homeowners are increasingly staying put and investing in their properties. This is unlikely to change anytime soon.
Larger developers are taking time to review current assets and selling stock to raise funds to bring forward more profitable developments.
Social housing continues to do well, buoyed by institutional investors attracted by long term returns. And of course, the government’s Help to Buy continues to play a critical role for first time buyers.
Kreston Reeves offers five guiding principles for developers looking to raise funds in the current market:
- Look inside the business first. Can funds be diverted to more profitable work?
- When approaching the banks make sure you have done your homework first. Prepare and have all the documentation needed in advance, including a business plan.
- Do ask how your accountant or financial advisers can help. An independently prepared business plan and financial projections are likely to be well received by bank lenders.
- Do expect finance to take much longer to secure. Bank credit committees are routinely taking six months and longer to review lending applications.
- Funding can be found but be prepared to pay more for it.
