Everything's Coming Up Roses
Lenders Offering All-Time Low Interest Rates

By Eric Snyder

There isabsolutely no question that now is the time to refinance your self-storage facility. Thecurrent interest-rate environment is one of the best in the last 25 years. At thebeginning of September 1998, the 10-year Treasury (which is the index used by most lendersfor fixed-rate loans) had a yield of 5 percent. Lenders will then add a spread to the10-year Treasury, which is called a margin, to determine the overall interest rate to theborrower. The average spread at the time of this article was 2.4 percent, which equates toa 7.4-percent-fixed rate for 10 years. This lending environment provides the borrower withan opportunity to capitalize on historically low fixed-rate financing.

In addition to the historically low interest rates, there are flexible financingstructures available in the market to meet almost any financing need. You may want topursue low fixed-rate financing if you are a borrower looking to hold onto the propertyfor a long time. This can be achieved through a lender who has a commercial mortgagebacked services (CMBS) division. CMBS loans are securitized on Wall Street and providesome of the lowest fixed-rate financing available in the market. However, this optionlocks you into a loan for a long period of time since the prepayment penalties can beconsiderable.

Therefore, it might be in your best interest to consider an earnout if you have afacility with a rapidly increasing net operating income (perhaps due to the fact that youpurchased a poorly managed facility or recently expanded), consequently qualifying you formore loan dollars within the next 12 months. An earnout can provide you with a secondfunding once you have increased your net operating income, but at a higher interest ratethan a standard loan.

Finally, you may need to obtain financing options that are not available through theCMBS division of lending institutions. For example, you may want to consider a bridge loanif you want to increase the net operating income of a facility and then sell it in thenear future. This kind of loan will not be provided through the CMBS division of afinancial institution since it is usually a variable-rate loan for a short period of time(normally three years). Instead, it will be priced over the LIBOR (not the Treasury) indexby the portfolio lending division of a finance company. The advantage of this kind of loanis that there will be a minimal prepayment penalty, unlike CMBS loans.

The Financial Package

After you have decided what type of financing structure best suits your needs, you willneed to prepare a financing package to submit to a lender. It is important to develop arelationship with a lender who can accommodate all of your financing needs through eitherits CMBS or portfolio lending divisions. Your package for the lender should include thefollowing six items:

The most important ingredient to a lender package is good historical records andexplanations for past performance of the property. Good records may work in your favorwhen the lender is adjusting income levels down or expense levels up, which affects yourability to qualify for the loan. For example, the facility might have requiredextraordinary repairs in 1997 not typically recognized as "ordinary repair andmaintenance." You can maximize your loan dollars if you can document theseextraordinary repairs since the lender will exclude them from the underwriting. If you didnot have documentation to this effect, the lender may underwrite a higher expense numberfor repairs and maintenance and reduce your loan dollars.

Once the lender has reviewed your loan package, they will prepare a formal applicationfor your review. You should review this application thoroughly and make sure youunderstand all the different components of the loan application. At the end of thisarticle is a glossary of terms that will be beneficial for you in your review of alender's loan application. If you have a sufficient understanding of these terms it willhelp you be prepared to negotiate the loan application that provides you with a structurethat best suits your individual financing needs.

The two most important qualifications in the loan application that will determine yourfinal loan amount are the loan-to-value (LTV) and debt service coverage ratio (DSCR)requirements. The LTV is a percentage that compares the loan amount to the valueascertained by a third-party appraiser. In most cases this percentage cannot exceed 75percent, with some lenders going to up to 80 percent. The DSCR is a ratio that comparesnet operating income to debt service. Most lenders will require a minimum DSCR of1.25:1.00.

The Closing

After you have negotiated and executed the loan application, the lender will begin theprocess of closing the loan, which typically involves the following six steps:

Submitting due diligence items requires supplying the lender with a substantial list ofitems in order to begin a thorough analysis of your loan request. The lender will requestitems such as operating statements, occupancy reports, management agreements, partnershipagreements and many other items deemed necessary for review. Simultaneous to the requestof due diligence items, the lender will engage third-party vendors to prepare an appraisalreport, a property-condition report, an environmental phase-one report and a seismicreport.

The appraisal will determine whether or not the loan-to-value requirement was achievedper the loan application, and the property condition report will verify the amount ofreserves the lender will require to be escrowed. The environmental phase-one reportdetails any environmental concerns at the property and, should a phase-two report benecessary, the borrower will be required to have this completed before the lender willfund a loan. Finally, in some parts of the country, a seismic report will be required todetermine a probable maximum loss (PML) percentage. In most instances, if this percentageexceeds 20 percent, the lender will require earthquake insurance prior to funding of theloan.

Once all the reports have been received and the lender has visited the property, thelender will review all the materials and summarize the deal structure in a creditcommittee package. This package will be submitted to the individuals within the lendinginstitution who have authority to approve a deal. Normally, once the deal is approved, aloan-approval letter will be sent to the borrower and a legal team will be engaged toprepare loan documents. Once the loan documents have been favorably negotiated, the loanshould close within a couple of weeks.

Patience, Patience

It is important to remember that the funding of a loan requires gathering substantialinformation. It can be rather time consuming and you should be prepared to spend timedocumenting operating performance and working closely with your lender to obtain theoptimum financing for your project. To avoid surprises, you should estimate at least 30days to prepare a package and identify a lender, and another 60 days to close the loan.Keep in mind, though, that with today's low interest rates, the payoff for your time couldequate to an interest rate below 7.5 percent for 10 years.

Eric Snyder is director of Finova Realty Capital (formerly Belgravia). As the headof the Self Storage Program, Mr. Snyder is responsible for analysis and negotiation ofloan requests throughout the United States, and has analyzed more than $2 billion inrequests for self-storage financing. For more information, Finova Realty Capital may becontacted by phone, (949) 724-8700, or on the Web, www.finova.com.