For those of you with capital market expertise, how low can the debt yield (in-place NOI) be for a value-add apartment acquisition? Top 5-20 MSA’s, class B to A conversions, institutional sponsor.
There was a post recently about DY, but that post was in regards to permanent CMBS financing in NYC which is lower risk.
It really varies on market and the value you are adding. For example, I am sure NYC, SFC, Miami, will get lower debt yields. I seen a debt yield as low 5.8%, but the value add was very simple in this, the apartment rents were 30% lower than the comps and the OpEx % was like 60%. Also the sponsor buying, was a top MF investor. So if you went to a lender you could clearly show that the NOI is artificially too low and can be improved very easily. In this situation, lenders will give you some credit and can accept a lower DY since they know that the DY is likely to be higher after raising rents to market and managing expenses a little better.
There's no right answer to this one, as it will depend on the lender. At lower leverage, you may be looking at bank financing with a bank whose dictionary might not even include debt yield. At higher leverage, you probably need a bridge lender/debt fund.
Most of those lenders (I work for one), will want debt service coverage day 1. You can extrapolate required debt yields from there, but assuming an IO loan and what I perceive to be the range of rates in the bridge lending sphere today, you probably need an in-place debt yield in the 5-6% range.
If you want to talk specifics feel free to PM me. I look at a lot of limited repositioning plays for multifamily ($5,000-$15,000 per unit renovations, typically), so I may be able to offer more guidance with details.
Yeah, to your point--I've worked for several lenders and debt yield wasn't even a standard metric used in underwriting. Now, that's not to say that on a particular deal the debt yield wasn't presented as a relevant fact, but I've yet to be at an organization that utilized debt yield as a key underwriting metric, i.e. they had no minimum debt yield metric. DSCR would be a more used metric, but that would vary widely depending upon leverage, location, and loan size.
We have a debt yield "exit test" that is stabilized cap + 200bps. We use it for loans that don't meet our normal exit test because they have some sort of repositioning or value add component to them.
CMBS lenders have a somewhat arbitrary debt yield requirement that is generally so low that no normal loan would ever breach it. 5-6%....very rare that the NOI DY gets that low, and frankly I'm sure if it was a good enough asset the credit officers would pass it through anyhow.
You wouldn't have sufficient debt service coverage on an amortizing basis to securitize a fixed-rate CMBS loan with a debt yield that low. Realistically, given current spreads for a standard CMBS loan on a stabilized asset, you're looking at a debt yield constraint in the low 7%s. Even though DY is a popular metric in CMBS today, I'm still not seeing many deals (at least in the lower-middle market) securitized with a DSCR below 1.15x.
The 5-6% range I offered above was on floating rate debt that you'd find from debt fund/bridge lender/whatever you want to call them, and many such firms will structure deals with an interest reserve/carry if the period where there will be a debt service shortfall can be relatively accurately identified.
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