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Blackstone Gets Mezzanine Debt as Funds Fill $70 Billion Void

Intermediate Capital Group Plc is among leveraged loan funds whose expansion into real estate financing this year may help hoteliers and main street retailers fill a $70 billion void left by banks paring risky loans.

Blackstone Group LP’s Europe hotels owner got 150 million euros ($197 million) of mezzanine loans Dec. 13 from funds, reducing the amount it owes to senior bank lenders. Banks cut new U.K. commercial real estate lending by 69 percent last year as they repaired balance sheets battered by the financial crisis, a survey by De Montfort University showed.

“The opportunity is huge,” said Philip Keller, chief financial officer at London-based Intermediate Capital, which made its first move into the market by buying a stake in U.K. real estate debt this month. “We see similar dynamics in the commercial property market to buyout financing, in that banks are sitting on massive property balance sheet which they have to reduce and that’s creating inefficiency in real estate financing.”

Apollo Global Management LLC, a New York-based private-equity firm, agreed to pay $1.2 billion for distressed commercial property loans held by Credit Suisse Group AG, a person with knowledge of the deal said on Dec. 23. The mortgages are backed by buildings in Europe, the people said.

Real estate mezzanine debt carries less risk than buyout mezzanine debt because it is backed by assets, and may generate “low to mid-teen” returns, said Keller, whose firm oversees 11.7 billion euros of assets.

Mezzanine financing is a type of junior debt that often gives investors access to the equity of the borrowers.


“Moving into real estate mezzanine financing helps funds diversify so that they are less dependent on the activities of the private equity market and the accompanying leveraged finance transactions,” said Matthias Unser, Munich-based managing director with DB Private Equity GmbH. “I expect only larger asset managers can afford to enter the sector because it takes quite a bit of resources and expertise to be able to manage real estate debt well.”

Morgan Stanley’s real estate fund agreed to provide mezzanine debt to BRE/Hospitality Europe Holding BV, controlled by New York-based Blackstone, as part of the hotels owner’s debt restructuring, after banks cut their senior debt by 31 percent to 330 million euros.

Intermediate Capital bought a 51 percent stake in London-based Longbow Real Estate Capital LP, a fund manager offering mezzanine finance and debt to U.K. commercial property owners. Before the financial crisis, many borrowers could borrow as much as 90 percent of a property’s value; now loan-to-value ratios are closer to 65 percent, Keller said.

Bank Deleveraging

“The opportunity with Longbow is to match up the deleveraging by the banks with the quest of institutional investors to invest in inflation-protected returns,” Keller said.

Banks may need to reduce 46 billion pounds ($71 billion) of commercial property loans while only 500 million pounds of U.K. real estate-focused mezzanine funds have been raised, Keller said. Asset values have tumbled 44 percent in the U.K. from their peak in June 2007.

Values of commercial property in the U.K. remain 35 percent below their peak in 2007 after rebounding 16 percent during 16 consecutive months of gains, according to London-based Investment Property Databank Ltd.

Britain’s commercial property market recovered from the credit crisis faster than those in the U.S. Jones Lang LaSalle Inc., the world’s second-largest commercial real-estate broker, predicted that investments in Europe will rise as much as 35 percent in 2011 to about 130 billion euros, driven by sovereign wealth funds and institutional investors.

Commercial real estate may outperform other assets, with returns of 20 percent over the next three years, Standard Life Investments predicted in November.

The average return for European buyout mezzanine financing ranges from as low as 10 percent in 2007 and as high as 21 percent in 1991 and 1996, according to CEPRES Mezzanine Research, part of Deutsche Bank AG’s DB Private Equity. Mezzanine fund-raising in Europe has slowed to $150 million this year from $5.25 billion in 2005, the research shows.

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