For Better Access To Credit, Find A Bank That Will Be Your Partner
For banks to be interested in extending credit, especially in today’s economic environment, not-for-profit senior living organizations must demonstrate an effective management team, strong liquidity, and sufficient debt coverage. It’s also beneficial if the organization looking to access credit has created and cultivated a healthy business relationship with a lender bank.
Even so, it doesn’t always work so smoothly. A not-for-profit organization in the Midwest recently approached its “incumbent” bank about participating in funding a fairly substantial expansion project, currently in the presales phase, for one of its CCRCs. “We have maintained an excellent relationship with our banking partner, participate in many of its new products, provide excellent and ongoing disclosure, and have never missed a payment,” according to the organization’s CEO (who prefers to remain anonymous). “Yet they turned us down on participating in the new financing due to their bank policy.”
That provider and others like it may be doing all the right things to foster good banking relationships; but due to unrelated bad credits, many banks have significantly tightened up with regard to lending new money. So the organization is currently researching other options such as tax-exempt bonds or bank-qualified debt—with a new banking partner.
“Generally speaking, it’s a barren landscape right now when it comes to the number of financial institutions with either the willingness or the capacity to lend to the senior living sector,” according to John Franklin, Managing Director of BB&T Capital Markets in Richmond, Virginia. And he predicts that it may get worse when a lot of variable-rate debt backed by large letters of credit come up for renewal at the end of this year and into the next.
Few commercial banks came through the financial meltdown unscathed, he noted. Therefore, all banks have tightened up their underwriting standards as to the kind of credits they’re willing to accept and the covenants they’re putting into the deals that they do make. Further, credit spreads that were “ridiculously narrow” are widening to ensure that banks are compensated for the risks they take.
In fact, BB&T came through the financial crisis with only “minor bruises and scrapes” and continues to be an active lender in the senior living sector, particularly in the Mid-Atlantic and Southeast regions of the country. And while the overall appetite for lending by commercial banks is not strong today, it seems to be improving, according to Greg Oliver, Senior Vice President, Healthcare Corporate Banking, at BB&T Capital Markets.
“Part of the fallout of the recent financial crisis is that the number of banks willing to extend credit to the senior living industry has diminished significantly,” Oliver said. “Many banks that had been active, especially some of the European banks that came upon hard times, had to reposition themselves. That has created a void.”
Oliver believes, though, that the pendulum is starting to swing back the other way. Banks have become fairly flush with deposits due to stagnation in the overall economy. “Companies aren’t growing, buying things, financing receivables, financing inventory…all the things that banks generally expect for commercial growth,” he said. “So they’re holding more deposits than they would traditionally be holding and are looking for opportunities to get better yields.” With very limited yield opportunity for treasuries and government debt due to historically low interest rates, loans are one of the best ways to acquire a yielding asset.
“We’re seeing more competition on transactions,” he added, “but still not a lot of activity in the senior living industry. It’s hard to justify a new startup project or substantial expansion right now. Most communities are being fairly conservative, either downsizing their expansions or putting them altogether on hold.” Banks that are lending are being selective as residential housing values in many locations, which are a barrier to CCRCs needing to fill up units, continue to improve—if only slightly.
Tightened underwriting standards
Because the credit markets and underwriting standards have tightened, any organization looking to finance an expansion or new project will need a fairly significant level of presales. The bank will carefully monitor those presales and hold the borrower to a fairly rigid schedule to ensure that units are sold as construction starts or continues.
“We see examples of markets where the sponsoring organization is very strong, but there’s a glut of inventory that was moving along fine until the financial collapse occurred,” Oliver noted. “As a result, a very well-run, well-managed community can end up suffering.”
Interestingly, some communities are having a hard time making some of their debt-service coverage because the communities are too full! In recent years, they have focused on attracting younger, healthier retirees, and those people aren’t moving through the continuum. As a result, the organization can’t turn over the units as they had planned, which affects entrance-fee revenues.
Loan-to-value has definitely tightened up. The customary high levels of a few years ago—sometimes an astounding 100% or even 110% for startups—are definitely no longer available. Few startups are coming to market anyway; but when they do, they can expect 70% as a more likely proxy for loan-to-value.
M&T Bank is one of the few banks that continued to lend money throughout the difficult cycle of the last couple of years, mainly because it never deviated from the fairly conservative lending standards it practiced prior to the crisis. “We’re a very conservative bank,” said Sharon O’Brien, Group Manager. “Our model is based on staying within our footprint and establishing deep, long-term relationships. We’re not a transactional lender—and don’t want to be.”
M&T was never involved in the “sexy financial products,” she added, and kept its loan-to-value levels within a reasonable range (50-75%). That provided operational flexibility to withstand fluctuations in the markets, which ultimately benefited both the bank and its clients. As a result of that strategy, M&T was able to adjust to market demands and continue to be a steady lender for construction financing, acquisition financing, and other types of financing for both new and existing senior living customers throughout the last months and years. “When you’re in those very heady times, you wonder if you’re missing something,” she mused. “Then, when the music stops, you’re relieved that you didn’t get involved.”
Fostering a banking relationship
Cultivating a business relationship with a lender bank may be more important now than it was a few years ago, when many of the large banks that were active in the senior living sector—those European banks, for example—didn’t have branches in the area where they were financing a retirement community. Those banks couldn’t effectively service the client with traditional banking services such as deposit, petty cash, investment, or other types of banking accounts.
Oliver indicated that it’s still fairly unusual for his bank to have a prior business relationship with a retirement community unless, of course, BB&T Capital Markets already provides credit to the organization. “In most cases, we would not be a retirement community’s operating bank,” he said. “In cases in which we do have an existing banking relationship, however, the customer would probably come to us first. We certainly respond more favorably to a client with whom we’ve previously worked. It’s easier to become comfortable with the credit proposal when we have a relationship with the community or the board or when we’re familiar with the market.”
New customers, on the other hand, are likely to approach the bank when their current credit provider is unwilling to stay in or renew a deal or because the customer wants to finance an expansion project and the current credit provider can’t or won’t do it.
Nevertheless, a provider that doesn’t already have a strong business relationship with a particular bank (or banks) but expects to access debt at some point in the future would find it strategically wise to cultivate in advance a relationship with a bank that is able to extend credit. That requires some homework, because there are few players nowadays and not all banks are equal. With a minimal amount of effort, however, the CFO or a board committee can screen which banks are most likely to be able to deploy capital, which have a direct focus on senior living, and which have done business in a particular geographic area.
“When a borrower comes to market and is simply interested in a transaction rather than building a relationship with the lender, that transaction is just a commodity—which is fine, as long as everyone involved understands the risk and their respective roles,” explains O’Brien. “Neither party has much vested in the other. But if there’s a bump in the night, that’s when you realize the value of a business relationship.”
How much business to move?
Banks are able to make loans only when they have enough capital to do so, and one way to accumulate that capital is by cross-selling other services to their credit clients. It’s generally the expectation, therefore, that the borrower will consider moving its primary checking, payroll, and other accounts to the lending bank when that bank extends credit. With local and regional commercial banks, it’s almost always a requirement.
“We try to match our services to the client’s needs,” said Oliver, “but we’re also pragmatic. Moving the accounts has to make sense. For example, we’ve done some work in the Midwest, where we currently don’t have branch offices. That would certainly make it inconvenient for the community’s staff members who choose to go to a nearby branch office to cash their paychecks.” Also, not-for-profit organizations are often very dependent on fundraising efforts and may have a valid reason for maintaining accounts at local banks that have directly supported the community.
More often than not, though, the lending bank is able to provide some additional services to—and save costs for—the borrower. But the type and amount of business that is moved to the lending bank is rather flexible. “We don’t have a certain box that clients must fit into,” said O’Brien. “Generally, ancillary or operating business happens in concert with the lending function. We are looking for a long-term relationship, but there’s no formula or process to go through before we’ll consider being their bank.”
The bank does, however, expect its new customers to at least talk with M&T about other services and give the bank an opportunity to compete for their business. “It doesn’t make sense to be the lion’s share lender of credit while someone else has all the operating business,” said O’Brien, “but we do understand that customers have other options available and must do what works best for them. We just expect them to give us an opportunity to participate.”
Building flexibility into the mix
Banks are assisting their customers, in many cases, by helping them diversify their debt portfolios. Where some clients may have traditionally done a variable-rate demand bond, for example, banks are suggesting other kinds of debt products such as bank-qualified loans.
A bank-qualified loan is actually a private placement of a bond with a bank that agrees to hold the bond for a certain amount of time rather than selling it to investors. Once the bank agrees to hold that bond, it must hold it until the end of the negotiated period—which, in many cases, is longer than the average three years for an LOC maturity. Bank-qualified loans currently have five- to seven-year maturities; in a few cases, particularly on the acute-care side of the health-care spectrum, they have 10-year terms. In fact, BB&T recently offered a 10-year term to a senior living client, according to Oliver.
With bank-qualified debt, too, the borrower can become somewhat indifferent about what happens to the bank’s rating. A community that has LOC-backed debt from a bank that is downgraded, however, may see an increase in its borrowing costs through no fault of its own. Investors aren’t looking at the community, which may be doing quite well—maintaining high occupancy, strong covenant coverage, and strong liquidity; rather, they’re looking at the bank.
Unfortunately, the new provisions that have made bank-qualified loans so attractive to borrowers in the last few months will sunset at the end of 2010, although bankers and borrowers alike are hopeful that they will be extended.
A reawakening market
While senior living projects have been delayed, equity requirements have increased for new deals, and banks and borrowers alike have little appetite for risk, the general sense is that the market is beginning to normalize. Some banks that had been active in the senior living market but weren’t for the last 18 months or so appear to be coming back, although few new players are showing an interest.
“This is like every other boom-and-bust cycle,” O’Brien observed, “Unless people had a project midstream, they’re sitting on the sidelines and waiting it out. We’re seeing movement, but it’s tentative and mostly for expansions or renovations at stable campuses. We’re not seeing new projects being financed. Fundamentally, though, projects are still viable if the deals are in good markets and have the support of the local communities. So once we’re through the current cleansing period, the senior living industry should be well poised for the coming cycle—“which will be stronger,” she predicts.