Triple Net Deals, Financing Options
The overall credit constraints have restricted all commercial mortgages and triple net financing is no exception. More important know than ever is the strength of the tenant(s), global income, post close liquidity and other traditional underwriting criteria that I’ll discuss here.
“Post close liquidity” seems to be the new buzz word of the day (sounds pretty slick, right?). But what the lender wants to know is, after the buyer purchases the property and injects 30% – 40% cash into the deal, how much cash will he have left over? Is he throwing everything he’s got into the deal? Many banks now want to see between 4 -6 months of reserves. Meaning, 4 to 6 months of cash, that could be used to pay the mortgage if the tenant defaulted on the lease. Of course the level of this restraint is tied directly to the strength of the tenant.
“Who’s the tenant? Are we talking a regional player with 25 locations or a public company? What are their trends? Are gross revenues over the last 3 years declining, stable or increasing? How are the trends of the net income? Again stable, declining, or increasing? The funding bank will want to see three years of business returns and year to tax financials at a minimum. These questions are just the beginning. The tenant is in a way, the real borrower and will be underwritten accordingly.
Loan to values have been one of the more obvious restrictions. A year ago we were closing fast food restaurants (like KFC, Arby’s, Taco Bell) at 75% loan to value. Now we’re seeing 65% max with most lenders at 60%. Couple this with declining cap rates in many markets and we’ve got a bit of a problem.
Debt coverage ratios have also been bumped from a 1.2 to a 1.3 by most sources. Perhaps a little more sneaky, is that many banks have also bumped up underwriting vacancy and management percentages which further reduces the NOI. Traditional banks would use 2-3% for vacancy (even if there isn’t any) and 2-3% for management (even if the borrower manages the property himself). These percentages in many cases have been risen to 3 -5% on both.
Global income is more and more looked at. Many sources didn’t really look that hard at the borrower’s personal financial situation. Now personal debt/expenses and other sources of income beside the property are examined. Overall, what’s the level of cash flow that the borrower has?
NNN Loans are still doable! They are still closing, but as discussed, having a 20 year nnn lease in place is just the starting point. Banks will want to scrutinize all aspects of the deal so they can be more confident of the risks involved. Be prepared and have your package ready to go and clean up all issues (like your credit score) before you submit your file to a bank.