Let’s say the Client is building a large development project.
Timeline: 2 Years Project Cost: $100M Completed Value: $130M Profit Margin: $30M
Typically, a Lender will do 75% LTC, leaving the developer to come up with 25%. In this instance the Developer’s equity contribution will be $25M. The Developer can either pay that all in cash out of his own pocket (very unlikely) or he will have to raise the money via profit splits and preferred equity, both options can be very costly and sometimes not worth it. The average costs in raising equity includes a 10% annual preferred intertest rate and a 50/50 profit split.
Here is a breakdown of bond financing compared to normal financing for the down payment. As you can see, bond financing is much more lucrative to the Developer’s own personal pocket and generally 2x – 3x the bottom-line profit.
Metrics
Completed Project Value – $130M. 6% Cap Rate.
Total Project Cost – $100M
Bond Amount – $25M
Additional Property Tax (1.5%) – $1.950M
Normal Financing
Original Sale Price – $130M. 6% Cap Rate
Original Cost to Build – $100M
Original Profit – $30M
Minus Profit Split (50/50) – $15M
Minus Preferred Equity (10%) – $5M
Net Profit – $10M
Bond FinancingNew Sale Price – $97.5M. 6% Cap Rate
New Project Cost – $75M
New Profit – $22.5M
No Profit share or preferred equity. Developer keeps all the profit to himself.