Financing is a renaissance, too.
"We're about to enter a new wave of funding using the capital markets," said Meredith J. Kane, the attorney for the project and a partner with Paul Weiss Rifkind Wharton Garrison. "It's a uniquer way of financing than was ever used in the 80s."
Muss says there is no "regular" financing anymore, except perhaps in certain residential markets. Every financing is an ad hoc financing," he said. "It is by nature, ad hoc, and by nature, creative."
To get to "Go," the mixed use 800,000 square-foot-plus office hotel and garage development needed sophisticated tweaking to obtain the necessary debt coverage.
In any other multi-tenant lending situation with traditional financing, Kane says, the developer never gets credit for every dollar of projected tenant rents.
"You got discounts and they are always looking for the project to generate excess income beyond what you get from the tenants," she explained in a common complaint voiced by developers.
Muss says lenders have to assume you have a cash flow in band, and even when dealing with a construction loan in hand, "they stall around until you have a tenant in hand and hopefully, in place."
Under the scenario set up for the Renaissance project, however, debt coverage is 1.0, and every dollar of lease payments is counted towards the amount that could be financed.
While new hotels are very difficult to finance, Kane says a new hotel in Brooklyn with no comparables was just about impossible.
"There is no proven cash flow, there is no credit and it's just everyone's estimates and projections," Kane said. "There is no guaranteed revenue."
For that reason, she said, it was important to generate as much financing as possible from the office leases to cover the construction costs of the hotel portion that has an expected price tag between $60 million and $70 million.
Last fall, Muss and Kane were considering two financing options. The options were obtaining a conventional construction mini-perm - which a number of sources said they were interested in providing with a five to seven-year fixed and floating rate - or to securitize the office leases.
They quickly realized a securitized lease financing would provide both construction and fixed rate permanent financing.
So for most of the next eight months, they worked on putting all the pieces of the financing together, including equity participations, and the structuring of both ground and tenant leases.
The financing they created was based on a spread above treasury rates, and given the interest rates back in December, will provide a locked in, 20-year fixed rate.
"To lock in the historic low interest rate was a major boon for the project," said Kane, who is also a member of the city's Landmarks Commission. Nevertheless, Muss wished the financing had closed a few months earlier, to get an even lower rate. Kane credits Muss, in conjunction with the Carlyle Group, his partner, and in consultation with Leucadia who is the third partner, for coining up with the financing option.
Muss also is partners on the supervisory and management side through MWR Associates, whose other partners, Jeffrey Wilder and Barry Rosner, received the original sole source development nod from the city of New York.
Carlyle became involved through relationships they had with Muss and they in turn, brought in Paine Webber.
The Carlyle Group is a D.C.-based merchant bank that does a lot of leveraged buyout investments. The principals Include James Baker, former Secretary of State and Frank Carlucci, the former Secretary of Defense in the Bush administration. "There's a company to be reckoned with," said Muss of Carlyle, that also has members of the Carter administration.
While Leucadia was a partner, they were also interested in relocating their Empire insurance division and they became the second tenant, joining the Brooklyn District Attorney's office that had signed on in the 1980s.
"It was fortuitous," Muss said of Leucadia's involvement. "That a prospective financing partner was also in the market for office space, and that led to an ability to frame (the financing) in a way that couldn't be duplicated."
The financiers ended up creating two series of bonds, each one tied to a different office building tenant.
Empire Insurance Company had an 'A' rating and therefore its bonds floated at 8.8 percent. Because the other tenant, the Brooklyn DA's Office, is a city of New York agency, they issued a series of unrated bonds and obtained interest rates of nine percent to 9.8 percent. "We did short and long traunches on the city," explained Kane.
But in order to securitize the office leases they had to take a number of steps.
They had to restructure the original City of New York lease to make it a bondable lease. "A conventional space tenant lease is not bondable," explained Kane.
But because the city owns the land under the project and has an equity participation through cash flow and profits on any sale or refinancing, the city essentially had an interest in helping the developer secure the lowest possible cost financing.
"It made sense to the tenants because they both had an equity or cash participation in the project," said Kane, "so any savings would translate into increased cash flows to the tenant since the amount of debt service was that much less. To make the lease bondable, however, they had to add terms to the lease - actually known as "hell or high-water" clauses - that create "an inviolate stream of rent payments that cannot be interrupted."
Both tenants agreed to these uninterruptable rent stream clauses. Under the requirements, the tenant agrees to pay the money to the owner, then those payments are signed over to a trustee for the bondholders and the money is applied to the bonds.
"There is a portion of the rent that just goes to pay off the bond and pay off the bondholders," she explained. "The city is paying rent on one hand, and is receiving a participation in the net profits."
Kane said the city has a 10 percent participation in the not profits and cash flow of the project. Leucadia has a majority share of the office portion. The Muss entity has a majority of the hotel while currently Marriott is merely the manager of the hotel. Upon completion of the hotel, however, Marriott will become a partner.
"I feel badly it didn't work out," Muss says of his long involvement with Hilton, that was to be the original hotelier. "But Marriott is now the leading hotel chain in the country and I am glad to be working with them."
Eventually, the team was able to raise $135 million in loan proceeds from the securitized leases, lessening the equity required. "That carries a higher rate of return than debt," said Kane, "so the city in its cash flow participation got more than if we had gotten a conventional loan."
The proceeds from the securitized bond issues will cover the construction cost of most of the building.
They were also able to obtain a construction and permanent loan on the hotel portion for $19.75 million from the union Labor Life Insurance Company of Washington.
"They do a lot of development lending and their requirements are that the lending project has to be 100 percent union," Kane said. "That was not a problem."
Again, there was more work to be done to secure the separate financing entities. Because they had both securitized leases and a hotel loan, they had to create a condominium on the building and give each of the lenders separate mortgages on each of the individual portions.
The holders of the bonds backed by the city lease have a mortgage on the condo units on floors 8 through 22 that are leased to the City of New York for the Brooklyn District Attorney.
The holders of the Empire bonds have a mortgage on a condo unit comprising floors 23 through 31.
And Union Labor Life has a mortgage on the hotel unit which consists of floors one through seven.
There is also another condo portion that belongs to Muss. This includes the garage and the office retail which consists of all the retail space, two unleased floors, and space on floors four and seven.
The Empire lease securitization and the hotel loan through Union Life, were accomplished with the participation of the city's Industrial Devolopment Agency (IDA).
"They are there for the purpose of providing various tax incentives to the projects and are involved in the financing with the tenant retention," explained Kane. Among the benefits secured for the property are a mortgage recording tax exemption, and a sales tax exemption on construction materials, both of which were part of the inducement package for Empire.
Since the land is owned by the city, there is an also an Industrial Commercial Incentive Program (ICIP) equivalent to what would have been obtained through the ICIP program.
That consists of that a payment in lieu of taxes for 16 years following the issuance of the building permit. This Is an exemption on 100 percent of any increase in value over the assessment of the original property, known as the mini-tax, but the exemption declines by 10 percent per year until the 22nd year following completion. Since the land has been assessed as a development site, Kane says, "It's a fairly substantial mini tax."
Both tenants also agreed to start paying rent on a "date certain" which will be 22 months after commencement of construction.
"The strength of that commitment was used in lieu of a letter of credit," said Kane, "but we would be liable to the tenants if it was not completed."
Morse Diesel is handling the construction and has already begun clearing the land. "The moment you finalize a deal you have to be in the ground the next day," said Muss, who is still planning a formal ground-breaking later this year.
Sums up Kane: "The capital markets are definitely the way to turn for money."
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|Title Annotation:||real estate|
|Publication:||Real Estate Weekly|
|Date:||Aug 14, 1996|
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