Property Finance
An International Approach
The Wiley Finance Series

Property Finance is an authoritative guide to both the financial and legal issues surrounding real estate financing. Unique in its exclusive focus on the topic, this book builds from a solid theoretical foundation to provide practical tools and real-world solutions. Beginning with a discussion of the general issues encountered in real estate finance from an international perspective, the authors delve into country-specific information and set out the legal peculiarities of eight important countries (Germany, France, Italy, Spain, China, India, England and Wales) by asking questions of relevance to the leading local law firms specializing in real estate financing. The reader may thus consider in greater depth the problems relating to any given country and compare and contrast the positions under different legal systems.

Examples with numerical calculations and contract excerpts enhance the explanations presented, and are immediately followed by practical case studies that illustrate the mechanisms at work. The companion website features downloadable spreadsheets used in the examples, power point presentations, as well as real estate news and more.

Property financing entails many sources of capital, including both debt and equity resources as well as hybrid forms like preferred equity and mezzanine debt. Knowing how to work with these avenues is important to ensuring financial sustainability in real estate assets. Property Finance covers the most common issues encountered, helping readers prepare for and find a way around possible roadblocks.

• Consider the issues surrounding real estate lending at an international level
• Compare and contrast the positions under different legal systems
• Develop an international perspective on cash flows and financing agreements
• Use powerful tools to structure financing and gauge its effects on property financing

The success of a real estate investment is dependent upon optimal financing, and a mere bird's eye view of the topic does not fully prepare investors for issues ahead: Property Finance provides a knowledge-based approach to real estate investment, detailed information and powerful tools.

Foreword by Prof. Dr. Junhai Liu xi

Foreword by Prof. Dr. Matthias Thomas xiii

Preface xv

Preface to Part Two xvii

Acknowledgements xix

List of Figures xxi

Reader’s Manual xxiii

Part One

Chapter 1 Introduction to Property Financing 3

1.1 Forms of financing: Debt and equity 3

1.1.1 Debt 4

1.1.2 Equity 6

1.2 A different approach to property financing 6

1.3 Corporate finance and project finance 7

1.4 Bank financing 8

1.4.1 Property Loans to Private Individuals 9

1.4.2 Property Financing to Cover Financial Requirements 9

1.4.3 Structured Real Estate Financing 10

1.5 Fund raising, securitization, and syndication 10

1.5.1 Traditional Funding and Securitization 11

1.5.2 Funding for Real Estate Loans and Syndication 12

1.5.3 Syndication of Real Estate Loans 13

Chapter 2 Structured Real Estate Financing 15

2.1 Bank roles 17

2.2 Bank loan contractual forms 17

2.3 Loans for development projects 18

2.4 Parts and stages of a structured loan 18

2.4.1 Analysis of the Transaction and Term Sheet 19

2.4.2 Real Estate Valuation 21

2.4.3 Basics of Property Appraisal 23

2.4.4 Due Diligence Process 32

2.4.5 Legal Due Diligence 32

Chapter 3 Loan Agreement 33

3.1 Object and purpose of the loan 34

3.2 Conditions precedent 34

3.3 Amount of the loan 35

3.4 Interest rates 36

3.5 Interest rate risk hedging 38

3.5.1 Interest Rate Cap 38

3.5.2 Collar 38

3.5.3 Interest Rate Swap 38

3.6 Loan allocation 41

3.7 Loan repayment schedule 43

3.8 Fees 43

3.9 Frequency of drawdown and procedures 45

3.10 Events of default 46

3.11 Property insurance 48

3.12 Representations and warranties 49

3.13 Duty to provide information 53

3.14 Costs, taxes, and ancillary charges 56

3.15 Contractual covenants 56

3.15.1 Balance Sheet Covenants 57

3.15.2 Financial Covenants 57

Chapter 4 Loan Repayment, Interest, and Renegotiation 63

4.1 Bullet payments 63

4.2 Pre-amortizing (semi-bullet) 63

4.3 Balloon payment 64

4.4 Fully amortizing repayment plans 65

4.4.1 Fixed-Capital Loan Repayment Plan 66

4.4.2 Floating-Rate Loan Repayment Plan 68

4.4.3 Loan with Interest Rate Caps 71

4.5 Other repayment schedules 73

4.5.1 Negative Amortizing Constant Payment Loan 73

4.5.2 Declining Payment Loan with Constant Amortizing 74

4.6 Restructuring and renegotiation of real estate loans 75

4.6.1 Grant of a New Loan 76

4.6.2 Deferral of Payment Deadlines 76

4.6.3 Restructuring Arrangement 77

Chapter 5 Effects of Financial Leverage on Real Estate Investments 79

5.1 An illustration of financial leverage 80

5.2 The effects of an increase in volatility 81

5.3 The effect of financial leverage on returns 82

5.4 The effect of financial leverage on risk 82

5.5 “No Free Lunch” 84

5.6 The mechanics of financial leverage 84

5.7 The effect of the spread 85

5.8 A brief summary of when to use financial leverage 86

Chapter 6 Structured Real Estate Financing Case Studies 89

6.1 Structured financing for an income producing property 90

6.1.1 Description of the Transaction 90

6.1.2 Term Sheet for an Income Producing Property 90

6.2 Structured financing for a real estate portfolio acquisition 100

6.2.1 Description of the Portfolio Acquisition 100

6.2.2 Term Sheet for the Financing of a Real Estate Portfolio 101

6.3 Financing of a real estate development project 113

6.3.1 Description of the Residential Development Project 113

6.3.2 Term Sheet for the Development Project Loan 113

6.4 Financing a shopping centre: Credit application 121

6.4.1 Players Involved 121

6.4.2 Financial Analysis and Key Figures 126

6.4.3 Risk Appraisal 128

6.4.4 Risk Rating and Risk-Reward 131

6.4.5 Conclusion and Recommendation 131

Chapter 7 Hybrid Forms of Financing 133

7.1 Description 133

7.2 Procedures for establishing mezzanine finance and cost 137

7.2.1 The Debt Component 137

7.2.2 Equity Kicker 139

7.3 Covenants in a mezzanine financing 140

7.4 Economic mechanics of hybrid financing 141

7.4.1 Mezzanine Financing for an Income Producing Property 142

7.4.2 Preferred Equity for Development Projects 144

7.5 Waterfall payout agreement 148

7.6 Intercreditor agreement 154

Chapter 8 Basel Accords and Effects on Real Estate Financing 159

8.1 Basel II 160

8.2 Basel III 160

8.3 The Basel Accords and real estate financing 161

8.4 Standardized Approach 162

8.5 IRB Foundation and Advanced methods 163

Part Two Outline of the most relevant legal issues in selected jurisdictions

Chapter 9 China 171

Chapter 10 England and Wales 177

Chapter 11 France 185

Chapter 12 Germany 201

Chapter 13 India 207

Chapter 14 Italy 215

Chapter 15 Spain 229

Authors 235

Giacomo Morri 235

Antonio Mazza 235

Alessandro P. Scarso 236

References 237

Index 241

GIACOMO MORRI, Ph.D., MRICS, is Senior Professor in the Accounting, Control, Corporate Finance and Real Estate Department at SDA Bocconi School of Management and Lecturer in Real Estate Finance at Bocconi University. He is Past-president and Board Member of the European Real Estate Society. He also sits on the board of several real estate companies and works as freelance advisor.

www.giacomomorri.info

ANTONIO MAZZA is Teaching Fellow at SDA Bocconi School of Management. He has been working for almost 25 years in the real estate market for both Italian and foreign banks and he is currently General Manager of “Aareal Bank AG” Italy and board member of several Italian companies within the “Aareal Group”. He is Professional Member of the Royal Institution of Chartered Surveyors and a member of several Italian Banking Association.

www.morri-mazza.com