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PROJECT FEASIBILITY. “ Does the Input =the Output?” or “Can It Work?”. The Stages of the Development Process. Creating the Concept Testing the market Evaluate Site Costs Pro Forma Income Expenses Finding Tenants Permanent Financing. Construction Finance “Gap” Financing
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PROJECT FEASIBILITY “Does the Input =the Output?” or “Can It Work?”
The Stages of the Development Process • Creating the Concept • Testing the market • Evaluate Site Costs • Pro Forma • Income • Expenses • Finding Tenants • Permanent Financing • Construction Finance • “Gap” Financing • Construction • Under Budget • Within schedule • Managing Property • Selling the Asset • Starting Over
Sponsored by: U. S. Department of Housing and Urban Development TDA, Inc. Presented by:
“Parking Lot” Who is here? Introductions Logistics • Agenda • Handouts • Breaks • Restrooms • Questions
Session Rules • Keep it informal • Ask questions • Share your experience • Use your manual - take notes on the pages • Enjoy the number crunching
Module 1 Underwriting
What is Underwriting? • Determining facts • Making reasonable assumptions • Analyzing risks • Making recommendations to minimize risks
Conv. Lenders consider: market risk borrower risk project risk portfolio risk Public Lenders also consider: public purpose regulatory compliance affordability gap analysis Public v. Conventional
Market Risk • Rent-up risk • Maintenance of occupancy & rents • Maintenance of collateral value
Borrower Risk The Five C’s: • Cash • Capability • Creditworthiness • Character • Collateral
Project Risk • Completion risk • Financial feasibility risk • Collateral risk
The Shift to “Market” • Market v. jurisdiction/service area • Customers v. clients • Product v. service • Demand v. needs • if we build it, they will come • LI housing doesn’t have to compete
Market Risks • Rents above market • Rents unaffordable • Excess capacity; slow absorption • Competitive disadvantage • Market won’t sustain occupancy • Property won’t maintain value
Scope of Borrower Analysis Assessing risks that the borrower will complete the project, considering: • Organizational structure • Business experience & qualifications • Financial condition & prospects • General credit history
Key Borrower Questions • What type of borrower? • New v. existing entities • For-profits v. not-for-profits • Who are the “key principals”? • Creditworthiness of principals • Personal liability • Recapture requirements
Five C’s of Borrower Risk • Cash • Collateral • Creditworthiness • Capability • Character
Cash: Equity & Liquidity • How much equity is committed • Timing, amount & source of equity • Cash • Land • Contribution of Fees • What else is available...if needed?
Collateral • Completion guarantee • Operating guarantee • Portfolio: • Overall stability, profitability, liquidity & vulnerability of other assets in portfolio • Diversification of portfolio • Other direct & contingent liabilities • Cross-collateralization
What to Look at: Collateral • Net worth • Schedule of real estate investments • Notes on contingent liabilities • Level of reserves/escrows • Potential refinancings (e.g., balloons) • Trends in property cash flows • Market factors
Creditworthiness • Loan payment history • Current debt load • Current performance • Discrepancies
Capability • Legal entity • Experience: projects of similar scope • Prior collaboration of team members • Loan history (incl. defaults) • Property management performance • Not-for-profit issues
How to look at Capability • Financial statements: debt load • Credit report: payment history • Lender contacts • Property inspections
Character • Subjective judgments: • Likelihood to perform/stick with it • Integrity/live up to commitments • Look at: • Past development performance • Physical/management condition • References on past debt performance & problem resolution
Financial Statements • Used to identify “current” problems • losing $$ on operations • not enough cash to meet obligations • Used to identify “potential problems” • look at trends • Used to identify “source of problems”
Module2 Analyzing Project Risk
Analyzing Project Risk Development Budget
Budgets are... • Estimates • Iterative • Dynamic • Linked
Development Budget Sources Uses Operating Budget Revenue Expenses NOI Cash Flow The Budgets
Development Cost Analysis • Underwriters do their own estimates & analyze variance from developer’s budgets • All development costs analyzed: • Acquisition cost • Construction cost • Soft costs, esp. developer fees • Development Sources: gap analysis
Project Selection • Look the gift horse... • Watch out for problem sites • unsuitable location • topographical & subsoil conditions • environmental problems & wetlands • Beware complex projects • You & me against the market... • The neighbors
Acquisition: Cost v. Value • Requiring an independent appraisal • public $ often first in, used for acquisition • often non-arms-length transactions • Valuation methods • Valuing low-income housing • Loan-to-value issues
Construction Issues • Environmental Issues • Davis-Bacon Act • Procurement Process • M/WBE, EEO, Section 3 • Housing Quality • Contingency • Deadlines: readiness to proceed
Fee Analysis • Fees are for services rendered; (return on equity is separate) • Use of consultants • Program/Lender’s fee limits • Split of fees in joint venture • Identity of interest & non-arms-length transactions
Other Soft Costs • Marketing • Initial Operating Deficit • Capitalized reserves • Relocation
Rents & Revenue Issues • Mix of incomes • Rent Limits: CDBG,HOME, LIHTC, Other • Utilities & utility allowances • Market issues: • street rent v. limits • vacancy/collection loss • Affordability of rents • Rent adjustments in the future
Debt Service • Paid from income after expenses (NOI) • Debt service coverage requirements • Capitalize NOI to determine value and maximum loan
Operating Analysis Key Operating Measures: • Net Operating Income (NOI) • Cash flow (ROI/ROE) • Debt coverage ratio • Break-even ratio
Module 3 Analyzing Project Risk II: Putting Together Sources of Funds
Balancing the Budgets • Financial feasibility/viability analysis • “Front door” v. “back door” analysis • Closing the Gap • Gap funding source impacts
Development Budget Sources Uses Operating Budget Revenue Expenses NOI Cash Flow The Budgets
Public Financing Issues • Computing maximum public subsidy • affordability standard • Layering • Regulatory overlap • Deferral terms • Enforcement & recapture mechanism
General Financing Issues • Equity required • Firmness of other commitments • Inter-creditor issues • Rate/order of disbursements • Overruns • Balloons & other long-term issues
Case Study Steps 1 & 2 Gross/Net Income (Steps 1 & 2) No. Rent - Util Revenue 1 BR ___ ____ ____ ______ 2BR ___ ____ ____ ______ Gross Potential Income =______ Vacancy/Coll. Loss 5% -______ Effective Gross Income =______ - Operating Expenses -______ Net Operating Income (NOI) =______
Step 3 Calculate 1st Mortgage Debt: NOI _______ Divide by: Debt Serv. Cov. /_______ NADS =_______ Divide by: Mortgage Constant /_______ Maximum Loan =_______ LTV Ratio (Loan/$370,000) =_______
Step 3, cont.. Calculate Net Available for PRI Loan NOI _______ - 1st Mortgage Debt Service -_______ Net Available =_______ Divide by: Mortgage constant /_______ Max. PRI Loan (<$50,000) =_______
Uses Acq. $15,000 Constr. $285,000 Soft Costs $60,000 ---------- Total $360,000 Sources Equity 1st Mortgage PRI Public Loan(s) --------- Total$ Gap Step 4
Wrap-up • Review of highlights • Next Steps • Questions
Evaluations Thank you for your time and attention.