Value-add deals are expected to gather momentum this year as financiers get more comfortable with—though stopping short of trending rents—the prospect of rent growth.
The value-add trend started in the best markets and with the largest developers over the past year. But it’s only a matter of time before secondary markets and middle-market developers can freely access the capital to renovate.
For lenders, it’s still a cautious enterprise—the per-unit dollar amounts being offered are relatively modest. In many ways, curing deferred maintenance has become the new value-add. But as fundamentals continue to improve, the prospect of healing an underperforming property is an increasingly viable play.
“I think it’s natural,” says David Brickman, head of the multifamily division of McLean, Va.-based Freddie Mac. “Property values have gone up among the top end of the market and that bifurcation means there is still value to be had in properties that have been underinvested in.”
In fact, Freddie Mac is hoping to revamp some of its existing programs in 2012 to capture this expected wave of value-add deals. Specifically, the company is looking at how it might use its credit facility line of products to serve as a vehicle to transition floating-rate debt to longer-term fixed-rate mortgages.
“We’re taking a hard look at our adjustable rate programs to see how we can enhance them, to better meet much of the demand for floating rate, which is largely driven by value-add plays,” Brickman says.
Those enhancements would likely see a lot of interest. Once upon a time, Freddie’s mezz program targeted value-add plays, but it is now pretty much only used for defensive refinancings. And while the bridge loan market has improved, it’s still a long way from meeting demand.
Wells Fargo has been among the most active rehab lenders, and several private lenders like BB&T Real Estate Funding, Berkadia, Mesa West and CWCapital grew more active last year. An increasing amount of life insurance companies are also offering bridge capital as well.
“There is money out there, but it’s selective—nobody is trending rents anymore” says Gary Mozer, managing director of Los Angeles-based George Smith Partners. “If you can just clean it up and get market rents, get an incremental rent for an incremental rehab, you can attract capital.”
But the issue with bridge money today is that it’s either very cheap bank capital or very expensive private fund capital, Mozer says. All-in rates quickly go from around 3.5 percent to 6 percent, and there’s not too much middle ground.
“For nonrecourse on assets with significant value-add, it’s still pretty limited,” says Ryan Krauch, a principal with Los Angeles-based lender Mesa West Capital. “Those of us who are active right now, we’re small potatoes relative to the need of capital, so there’s plenty of room for more competition.”