Hi Reader,

We hosted a webinar on preferred equity last week. Did you catch it?

You can get the recording here.

Today’s email covers another vital question: "Why are we in a limited window of opportunity for top preferred equity deals right now?"

As a reminder, preferred equity sits in the middle of the capital stack. It can provide debt-like repayments ahead of common equity, with additional upside to investors. It generally carries less risk than common equity but typically has a capped upside.

Preferred equity is more needed right now than usual, and with this supply and demand imbalance comes better terms and returns for groups like Wellings Capital.

Why is Preferred Equity Compelling in General?

• Immediate cash flow, future upside, and shorter hold time
• Payment priority ahead of common equity
• Lower downside risk exposure than common equity
• Preferred equity still receives depreciation tax benefits
• Can negotiate control rights in case something goes wrong
• Can negotiate a MOIC floor to juice returns if taken out early

Why is Preferred Equity a Compelling Investment Right Now?

• Many lenders are pulling back on new deals compared to 12-18 months ago, drastically increasing the demand for preferred equity. We have all seen the news about lenders refusing to lend on deals. Many that do get funded end up closing with lower loan-to-cost ratios and stricter terms. This has created a gap, whereby sponsors scramble to close deals by employing preferred equity.
• Shortfalls in common equity create gap-funding opportunities. This is a double-whammy for sponsors already coming up short on debt. With both equity and debt capital in limited supply, preferred equity or mezzanine debt is often the remedy.
• Coupon rates/current pay are much higher than in the past. We are negotiating deals with higher coupon rates than we have seen in the past for $1-5 million check sizes. This capital crunch has hit smaller deals particularly hard. It is often not worth most preferred equity providers' time to evaluate these smaller deals. But these under-the-radar deals often provide the best safety and potential upside.
• Sponsors with excellent assets are often caught with an unfortunate capital stack. Many excellent projects with upcoming loan maturities will not get refinanced as planned. Sometimes this has nothing to do with the sponsor or project. Injecting preferred equity is often the only way forward.

Why is Right Now a Limited Window for Preferred Equity?

• Banks will start lending at higher leverage and relaxed terms when interest rates drop. As the credit cycle ebbs and flows, lenders will predictably change their underwriting standards and terms. High interest rates and tighter terms are creating an excellent opportunity for us right now, but it won’t last forever.
• When interest rates drop, sponsors with floating-rate debt won’t need to recapitalize as much as they do now. The current conditions have wreaked havoc on sponsors with floating rate debt. Though we won’t typically invest in these deals, their ubiquity has created tremendous demand on a limited pool of preferred equity dollars. When interest rates drop, the pressure and demand will decrease significantly.
• Institutional investment activity and common equity investments will likely increase when market uncertainty recedes. The issue here is not just the lower availability of debt. It also hinges on constrained equity availability. Part of the issue, in cases like institutional investors such as Blackstone and KKR, regards spooked investors cashing in their shares. The issue is not a lack of investible cash; at some point, the spigots will open again.
• Potentially more competition coming for $1-5 million check sizes could drive down current pay and coupon rates that we’re seeing now. We’re not alone in spotting this opportunity, especially with the premium returns generated from small check sizes. We believe preferred equity competition in this sector will increase soon, hence our desire to place more preferred equity as soon as practical.

To be clear, we are not raising preferred equity for one-off deals. And we have not established a separate fund for preferred equity.

The preferred equity deals we're investing in are creating increased projected returns in our Wellings Real Estate Income Fund. This is the only fund that Wellings Capital has available, and we are doing a special raise right now to fund some of the best opportunities in front of us.

If you'd like to learn more, please schedule a call with us here.

If you’re ready to get started, you can do so here.

At this time in the cycle, we are pleased to add preferred equity to the Fund's portfolio on your behalf.

Best,

Paul Moore

Managing Partner | Wellings Capital | www.wellingscapital.com​

Schedule a Call with Us

Review Fund Documents or Start Investment Process

P.S. On Friday's webinar, we discussed creating and distributing a glossary for preferred equity terms. We created the glossary, and you can access it here.​

As a reminder, documents and funds for this round are due by 5 PM ET on May 31st. As of today, we have a large preferred equity deal scheduled to close the first week of June.

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DISCLAIMER: The information contained in this email communication is for information purposes, does not constitute a recommendation, and should not be regarded as an offer to sell or a solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be in violation of any local laws. A more detailed explanation of the various assumptions and risks associated with hypothetical information in this email is set forth in the Private Placement Memorandum ("PPM") for Wellings Real Estate Income Fund ("WREIF"). Please read the PPM before making any investment decisions. All terms of this email are subject to the terms of the PPM. All investing involves the risk of loss, including a loss of principal. We do not provide tax, accounting, or legal advice, and all investors are advised to consult with their tax, accounting, or legal advisers before investing. Information and any opinions contained in this email communication have been obtained from sources that we consider reliable, but we do not represent that such information and opinions are accurate or complete, and thus should not be relied upon as such.