Financial Investment Leverage...

Sometimes when Rainmaker gives a structured finance presentation or due diligence presentation on behalf of a given client, the client gets lost in the jargon of the industry.  The purpose of this page is to better define these terms for the benefit of clients and the public.

One of the most common terms is really a concept and not a term, per se.  Financial investment leverage is a three-part concept:

To understand the term and the concept analyze a basic commercial finance transaction.   We'll use the classic multifamily housing capital financing structure to illustrate...

Boudreaux is developing a $20,000,000 Class "B" multifamily rental housing project.  Boudreaux decides to go the HUD route because, "HUD offers a 90% LTV ratio," and that provides $18,000,000 of the $20,000,000 in financing.  This means Boudreaux only has to put in $2,000,000, right?  Well, it doesn't work out that way and the real amount Boudreaux has to put into the deal is more like $3,000,000 because of the carrying costs and other HUD requirements.  At the $2 million level, he was getting the leverage of 9:1 - every dollar he put up is being matched with $9 of bank financing.  When it went to $3 million, his leverage dropped to 5.6:1 - every dollar he put in only leveraged $5.6!

So, now that we know the terms of the deal, let's look into the financial investment leverage.  When the deal was first proposed, the property was expected to throw off a net of about $350,000 per year to Boudreaux's $2,000,000 investment; that works out to a cash-on-cash return of 17.5% per annum.  Not the highest, but not chump change either.  But in reality, a total of $3,000,000 in at-risk capital actually went into the transaction and that changed the financial investment leverage and the return.  Now the cash-on-cash return is only 11.67% per annum.  Boudreaux could get the same leverage by buying S&P depository receipts (back when the public stock exchanges weren't a fool's paradise).

Financial investment leverage can be created using a whole host of entitlements to further reduce the at-risk capital contributions the developer would otherwise make.  Suppose there was a tax credit that ended up providing $1 million.  Boudreaux's investment is back to $2 million and the tax credit investor is getting his/her return based on the tax credits.  Boudreaux gets his original deal back.  That's how financial investment leverage can be modified to help a developer achieve all the success they can stand.

Financial investment leverage is a function of the structure of the transaction - not necessarily the type of security being offered.  For "street" investors who have no special acumen when it comes to commercial real estate investing, the following issues need to be understood:

About Rainmaker...

Rainmaker Marketing Corporation is the brainchild of Clint Lovell, a seasoned business finance consultant with more than 20 years experience.  Rainmaker is a B2B consulting firm that was incorporated in 1994 for the purposes of providing market feasibility studies to businesses seeking capital financing in the commercial and institutional markets.  Today, Rainmaker Marketing Corporation provides a comprehensive array of due diligence documentation services for most major industry groups.  Rainmaker Marketing Corporation also provides syndication management services for fractional commercial real estate syndicates that can provide mezzanine gap funding for income-producing commercial property developments as early as the pre-construction phase.  Rainmaker Marketing Corporation serves clients throughout North America and the Caribbean Basin.

Rainmaker Marketing Corporation, Inc.

15519 Dawnbrook Drive, Houston, Texas 77068

281.537.1200  

consultants@rainmakermarketing.com