By: Mark Weiner
CFO, Monolith Properties
The world of commercial mortgage can be quite intimidating for those who only enter the arena every ten years or so when their loan reaches maturity. Luckily for us MHCO members there are many commercial mortgage industry experts who are also MHCO members and available to assist you with your Manufactured Home Community (“MHC”) financing needs.
Let’s make one thing clear up front: I am not a mortgage banker. I am a community operator and although I do spend a great deal of my time and energy engaging with the capital markets, I do not devote all of my time to MHC finance. I rely on many of the aforementioned experts to advise me on MHC finance and provide me access to capital markets. As I draft this article I assume it will be accompanied by other articles written by experts who will be discussing, among other topics, the interest rate environment for 2019 and other forecast information. I thought it would be a good change of pace to draft an MHC finance article from the perspective of a community operator, as opposed to a mortgage banker.
This installment of “MHC Finance from Mr. Novice” will cover some things you can do to prepare for a financing transaction as well as some of my thoughts on lender selection.
At Monolith Properties, we have covered this topic multiple times in our presentations at various industry conferences. It is important to plan well in advance of a refinancing (or any valuation event, for that matter) to ensure you can negotiate the optimal debt product for your situation. Whether your priority is maximum loan proceeds, low interest rates, long amortization period, long fixed rate period, interest-only options, up-front fees, or some mix of the above, taking the right steps well in advance of your financing transaction will go a long way.
I will be the first one to admit that when someone starts talking about accounting and reporting it can be easy to tune out. One of the common perceptions of this topic is that it is a dry, backward-looking task that is a necessary burden of running a business. Besides being a tool to help us more efficiently operate our communities, effective accounting and financial reporting can be crucial to maximize asset valuation.
When you begin the process of obtaining a new loan on a community the potential lender will ask to review your community’s financial statements – most likely the preceding three years of income statements. The underwriter will be reviewing your statements to arrive at their own conclusion as to the net operating income (“NOI”) – a process that is often referred to as “spreading” the financials. They will be looking to eliminate any non-recurring, or non-operating, revenue and add-back any absent operating costs that they deem are market-typical (examples include the cost for market-rate management fees for a park where the owner is the operator and does not charge a management fee or a vacancy rate for an otherwise full park). All lenders are different and therefore their concluded NOI will vary depending on how they “spread” the numbers.
You will fare much better during the underwriting process if you have consistent, disciplined financial statements. If you maintain a detailed chart of accounts and consistently record non-operating activity below the NOI line, your financial statements will reflect greater credibility. Here are a few ideas for consideration:
If you sell homes through your community’s accounts always code that activity in accounts below the NOI line. Even though an argument can be made that you may typically buy/remodel
and sell homes as a normal course of your business, it is almost universally agreed that home
sales activity is non-operating on the accounts of a community.
Establish a reasonable cost capitalization policy and stick with it. If a cost provides a benefit
greater than one operating cycle, there is a good reason to capitalize it – but if that cost is, say, less than a certain dollar threshold, then you may consider expensing it. Remember not to confuse your property’s operating statements with your tax records. The same cost that can be capitalized on your community’s books can also be expensed on the tax records that are maintained with the assistance of your CPA.
It is not just normal operating receipts (rent, utilities, late fees, etc.) that should be classified as revenue. Intermittent receipts such as laundry lease payments and cable easement commissions should be recorded above the line.
Do not get too carried away with classifying expenses as non-operating. If you appear as if your default position is to classify any questionable expense as non-operating, you may lose credibility with the underwriter which can have adverse results.
I could go on and on about some of these accounting topics, but I am afraid I may have already lost your attention! If you take anything away from this article, it is that being proactive with your accounting and reporting process can have material impact on your bottom line, so giving these processes more regard and attention can and will impact your financing transactions.
As you have probably heard from multiple mortgage bankers, there are more types of lenders financing MHCs now than ever before. Just as institutional investors have caught on to the favorable economics of MHC ownership, lenders who previously avoided the MHC space have since jumped into the mix in search of strong returns and extremely low default rates. Life insurance companies, Fannie Mae & Freddie Mac, non-agency Commercial Mortgage Backed Securities (“CMBS”) lenders, big banks, credit unions & local business banks are just some of the types of lenders aggressively pursuing loans in the MHC space. Although far from an expert, I have experience working with all the above-named lender types and have summarized my observations below:
Life Insurance Companies – Life Co’s can provide some of the most attractive terms and executions, but they are often the pickiest lenders in that they typically want higher-quality assets in primary markets. They are balance sheet lenders and therefore they can rate lock a lot earlier than other lenders (and have fixed loan terms up to 30 years) and you can actually negotiate the loan documents without incurring excessive legal fees. If you have a high-quality, stabilized MHC that you would like to hold for a long time, then a Life Co. loan might be for you.
Fannie Mae and Freddie Mac - also known as Government Sponsored Enterprises, or “GSE’s”, have become a very popular option for non-recourse, long-term financing. These loans are essentially CMBS loans (Freddie Mac moreso than FNMA, as the latter is less administratively challenging than the former) underwritten and guaranteed by one of the two GSEs, so although they typically have better terms than traditional CMBS, they are a securitized execution so the lending process can be administratively challenging. Although they do have burdensome covenants (for example you cannot maintain chattel inventory or seller carry loans on your balance sheet), they do offer flexible terms including interest-only periods and fixed loan terms of up to 30 years at attractive leverage levels and with favorable interest rate pricing.
Non-agency CMBS – Similar to the GSE-guaranteed option listed above, but with less desirable terms and more red tape. The positives of going the CMBS route is the underwriters are more agnostic about quality and location than other lender types. Others may disagree, but I would only
consider CMBS if I had a park with a lot of “hair on it” in a tertiary location and non-recourse was a must.
Big Banks - This category would include Bank of America, Chase, Wells Fargo and other banks who typically index using LIBOR. These banks will often have two different shops under their brand – balance sheet lending and Fannie Mae and Freddie Mac/CMBS lending. Since we already covered the latter above, I will focus here on their balance sheet lending experience. The big banks can be very aggressive with terms but are often quite persnickety about quality and the sponsor – and they can often be fickle: one day they can’t originate enough MHC debt, the next day they won’t return your call. I have found that they are not terribly flexible with their loan or amortization term with ten year fixed, 25-year amortization often being the best available option. Furthermore, in order to get a fixed rate, you may have to enter into a separate interest rate swap transaction that can be administratively burdensome.
Credit Unions and Local Business Banks – this is a broad category and experiences can vary wildly from lender to lender. The downside of borrowing from these smaller lenders is their loans are almost always recourse and their interest rates are on the higher-side. Their positive attributes include relatively low upfront loan fees (inclusive of third-party reports, which are typically just an appraisal) and they tend to be relationship-based which can make repeat business much more efficient.
It is important to investigate as many lending options as you can before you choose a lender. At the end of the day it is you, the community owner, that has to select the lender and product that is right for you and your MHC. With proper preparation and a thorough lender selection process now is a great time to obtain financing for your MHC.
Mark has overseen acquisitions of dozens of properties, including 10+ MHPs. He leads Monolith's accounting and financial reporting. Mark was CFO of Storz Management, a long-time MHP operator, as well as CFO of a Northern California general contractor, Manager of Real Estate Finance for Granite Land Company, Controller for a prominent real estate developer and had years of practice as an Audit Manager with "Big 4" global accounting firm Ernst & Young. Mark provides a balance of financial acumen and shrewd business sense. Mark is a CPA, licensed California mobile home dealer, and active member of WMA, MHET and CMPA. He has a degree in Business Administration from California State University, Sacramento.