How Single Family Offices Invest In Mezzanine Capital For Real Estate

Mezzanine capital is a form of debt which is only senior to common equity. That means: in case a project fails or a company goes bankrupt, at first debt is paid back, then mezzanine capital and then owners of common shares. Mezzanine capital providers are compensated with higher returns for their higher risk. Especially for real estate projects mezzanine debt can be crucial – and family offices play an important role at this point. Why and how we will explain in this article.

Mezzanine capital for real estate projects – and why family offices matter

Real estate project developers work with a certain stock of capital for new projects. Banks who provide loans for new projects require 10-20% of subordinated capital to reduce their risk. For instance, if the project developer has to bring in 10% of equity in a project, he can realize a 10M€ project (10% equity: 1M€, 90% loan: 9M€). We assume that the developer makes a profit of 2M€ per project. If he manages to raise funds from mezzanine investors (0,5M€ per project), he would be able to realize two projects per year – what would bring him an additional 2M€ of profits. For this, mezzanine investors are compensated with returns from 8-20% of interest per year. Compared to the current low-interest environment, that’s massive. Since only few investors engage in mezzanine financing, single family offices play an important role here. For some SFOs (especially those with a real estate background) mezzanine capital is a suitable way to bring an additional return component into their portfolio.

Three ways of mezzanine investments of family offices

In general, single family offices have to decide how they implement their mezzanine investment strategy. We differentiate between three ways:

  1. Direct investments: Family offices build up relationships with dedicated project developers and directly invest in new projects. That requires a certain experience in the real estate industry and good reliable partners. Returns can be higher here, but diversification is often lower.
  2. Fund investments: There are some dedicated investment firms focused on mezzanine financing. The firms take fees and thereby returns are usually lower. But diversification is given to a higher degree and often the firms bring in massive experience.
  3. Crowdfunding: Crowdfunding providers like Exporo are also playing an increasing role in European real estate mezzanine financing. Their role is comparable to 2), but processes and investment approaches are often more digital and innovative.

single family offices invest in mezzanine capital strategies

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Picture source: John Cameron

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