Construction Financing – Getting Rid of the Guesswork
Precision Helps Lenders and Investors Mitigate Risk and Structure Better Deals
by Karl Vaillancourt, Director of Analytics & Lender Relations at Precision Building Group
The financing of Construction & Development (“C&D”) projects is extremely risky. During the Great Recession, delinquency rates for C&D loans averaged 18% – more than 3x the typical rate for commercial mortgages during the same period1. As a result, probabilities of default and the losses resulting from those defaults were also the worst in the industry2. Add in the costs of protracted workouts and the negative impacts for lenders and investors were magnified even further.
So how did we let this happen? The truth is that the real estate market got so hot – and everyone involved was making so much money – that it was easy to lose sight of the risks involved. We were swept up in a market frenzy and everyone was in a rush to get in on the action. The problem came when things started to cool down and we collectively came to the realization that a huge portion of the projects underlying these loans and investments ONLY made sense when viewed through the lens of the market frenzy…which had evaporated overnight.
Until late 2008 I had a successful career in development. Then the projects all seemed to go dark at once and I spent the next five years working in Special Assets. I was hired by a storied financial institution that was falling apart as a result of the bad development and construction loans it had made. Being on the front lines of the financial crisis and dealing with troubled loans and bankrupt developers every day left me thinking that there must be a better way of doing business. Development and construction doesn’t have to be a reactionary, conflict-riddled process that often devolves into screaming matches and lawsuits. And there is no reason – if we’re willing to put in the time and effort on the front end of our projects – for the massive delays and cost overruns that have become such a common part of the process.
Traditional underwriting policies and procedures focus mostly on the borrower and the collateral while glossing over the riskiest aspect – the construction process itself. Developers, lenders and investors often rely upon cost estimates thrown together by contractors or civil engineers but fail to subject these budgets to the rigorous analysis and testing that they deserve. Developers, lenders and investors all have a financial interest in spending the time and effort necessary to truly understand what it is they’re getting themselves into. It just isn’t standard practice yet – and that’s where services like ours come in.
Precision Project Review Process
We help lenders and investors understand the risks involved in their projects during the underwriting process – so they can structure better loans and investments and mitigate risk before it’s too late. It is always better to understand budget and feasibility-related issues early on. If your budget is too small, wouldn’t you rather know about it upfront so you can avoid cost overruns and conflicts during the latter stages of construction? If your budget is too large, wouldn’t it be better to avoid unnecessary exposure? We provide recommendations to help simplify complicated issues, allow for better planning, reduce change orders and increase the ultimate efficiency of the loan administration process.
At the start of your underwriting process let Precision be your second set of eyes. Our unbiased Project Reviews expose budget problems and feasibility issues before you put money at risk. Avoid unnecessary exposure and change orders by making sure your budget is accurate and that you have appropriate contingencies in place.
Our goal is to develop a detailed understanding of your project – its potential pitfalls as well as opportunities for savings – and then transfer that knowledge to you. We foster a collaborative approach to project planning and management and we believe that better information leads to better results. There really is a better way – the Precision way. Let us show you.