‘IF YOU ARE PREDICTABLE, RELIABLE AND STEADFAST, THE CUSTOMER KNOWS WHERE THEY STAND’

Demand for bridging and development finance remains strong, says MSP Capital’s head of broker relations Arian Manouchehri, who describes how economic volatility can benefit the specialist lending market

While the UK property market is still seeing the aftermath of the multitude of overwhelming changes that occurred in 2022, including continuous Bank of England rate increases and the mini-Budget, experts are cautiously optimistic that the industry is on the road to recovery.

Arian says that—despite the macroeconomic challenges—the further retreat from the market by high-street lenders, plus several shockwaves in the BTL market, have presented good opportunities for specialist finance providers. These lenders are able to step in and assist with short-term financing needs, easing pressure on borrowers who have been let down until a long-term solution is found.

Looking back at MSP Capital’s performance in 2022, Arian confirms the business has seen an increase in the number of clients opting for bridging and development finance over the past 12 months. “We are seeing tremendous appetite for MSP Capital’s services. Our loan book value in 2020 was £200m but, by 2022, it had hit just shy of £400m,” he states.

The company has seen an influx of loan applications for both its bridging and development finance propositions, and there was even a slight uptick around the period of government transition in 2022. It received applications for loans of varying sizes, including some large-ticket facilities nearing £20m—the lender’s maximum loan size. Arian states that the bulk of MSP Capital’s business completed, however, is below the £5m mark and believes there is a notable number of high-quality opportunities in this segment. He also divulges that a slight increase in the length of the loan term has been sought: “Our borrowers are sensible and understand that a term length with extra allowance isn’t the worst idea should sales slow in light of the recent macroeconomic changes.”

MSP Capital has seen a particular increase in demand for its development exit loans throughout both 2022 and in Q1 2023. “The legacy of Covid-19, coupled with the recent economic challenges, resulted in many development deals being delayed—as a result, there were a number of instances where the borrower was tied into a development project but wanted to capture opportunities elsewhere,” explains Arian. “Our development exit bridging loan provides that liquidity to go and acquire the next project and allows our client to continue their growth as a business.”

The same level of success was witnessed across the lender’s development finance proposition as well, which offers facilities of up to £20m and a maximum 70% LTGDV. “From the loan applications we continue to receive, it is clear that demand for development finance continues,” says Arian. “In the past 12 months, we have supported a range of residential development deals and we are happy to lend against ground-up, conversion, light refurb and part-complete projects.”

Arian is confident demand for development finance remains robust, despite the wider market difficulties, such as supply chain pressures and materials and labour costs. “Based on our own experiences in recent months, I am cautiously optimistic; loan redemptions, driven by sales to the end buyer, remain very much present. The most important thing when assessing an opportunity is to make sure there is a sensible plan to achieve practical completion. Ultimately, that’s how we are redeemed and how the borrower makes their return.”

According to Arian, the lender’s success to date is down to its reputation for flexible lending and high-quality service. “We are building on what was already a sustained, steady period of growth for us, as more brokers recognise our unique approach. At our core, we are a relationship-led business, always happy to discuss a funding need in detail and how best to address it,” he shares. “This is what drives so much repeat and referral business; when brokers have a positive experience and feel looked after, they are more likely to use us again and recommend us to others, and we can expect this to be a continuing factor for the foreseeable future. We aim to look after people as best we can, get rid of red tape that adds no value, and focus on the salient and commercial points of a deal.”

The finance provider’s knowledge in handling various deal structures, as well as its consistency and speed of delivery are elements that Arian thinks make MSP Capital stand out—and are qualities that he believes are more important during volatile times. “We have surveyors, valuers, accountants, bankers, property developers and many other experts within the team who bring an enormous collective knowledge. This allows us to provide rapid and reliable decision making on seemingly complex matters,” he comments.

“In the property industry, the ability to move with speed and decisiveness has always been a strength. In volatile market conditions, urgent funding requirements will often arise, so being positioned to service these requirements at short notice will present opportunities for lenders with experience and confidence. If you are predictable, reliable and steadfast, the customer knows where they stand, and opportunities will be realised as a result.”

While Arian is confident that the demand for specialist finance will continue in 2023, he identifies one key issue likely to affect brokers and borrowers: consistency in valuations. He emphasises the importance of working with valuers who have the relevant local knowledge and understand the market to head off potential problems.

“Any lack of consistency in decision making around risk assessment is more likely to be heightened during a period of economic uncertainty—that’s something we’ve seen before and will see again.”

Nevertheless, Arian doesn’t expect to see any major impact to valuations.

“So far, we are seeing sale volumes remaining resilient and capital values largely being sustained. Therefore, the empirical evidence at this stage doesn’t point to materially declining valuations,” he suggests. “The macroeconomic factors and potential impact on house prices should be accounted for in sensible underwriting decisions and ensuring loans offered are fit for purpose.”

As we talk about what trends we are likely to see in the market this year, Arian says development exit deals are expected to remain popular. “Our data shows sales to end consumers remain resilient, particularly in the geographical markets we prefer (South West, South East, Greater London and the Home Counties). That being said, development exit deals will also be an option if, more widely, the market does see a slowdown in sales due to the interest rates changes we are all experiencing.”

In the development finance space, Arian predicts the focus on sustainability and energy efficiency will continue—driven by proposed regulation and the cost of living crisis changing buyers’ priorities when purchasing homes. “This is a pattern that is likely to become more entrenched as these types of buyer behaviours become the status quo. Modern methods of construction are a subset of a larger shift towards more efficient homebuilding and greater conscientiousness as to the carbon impact of the construction process itself, rather than their EPC rating alone once completed. I would draw parallels to the rise in the popularity of electric vehicles as a replacement to the conventional combustion engine—progression is both desirable and inevitable.”

Above all, Arian is confident the demand for specialist finance is here to stay: “We have seen a shift away from high-street lenders towards specialist ones over a number of years; this is a long-term pattern that will certainly continue into the future. There is no doubt 2023 will be a year that presents both challenges and opportunities, and I am excited to experience our course.”

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M&A among specialist finance companies have long been on the horizon, and it looks like the wheels are already turning. But is activity expected to be marginal or widespread?

Words by ROB

LANGSTON

ince the global financial crisis, the specialist lending space has developed into a bustling ecosystem, with a wide range of lenders and products serving a rapidly growing market. However, as the economic backdrop has deteriorated and interest rates have risen, lenders’ margins have started to come under pressure.

At the same time, finance providers are under considerable pressure to invest more in technology to maintain high service levels and reach new customers. A more challenging operating environment is likely to mean fewer entrants to the lending space in the coming years, says Matt Watson, chief executive and founder of Guernsey-based specialist finance provider Tenn Capital. “The wave of new lenders coming into the market will dramatically decrease in the next 12 to 18 months and, actually, the consolidation period has probably begun,” he says, noting that the benign, low-rate environment that led to many lenders entering the market no longer exists and profits are now under greater pressure. “Eventually, you get to a point where you have an open and honest conversation about consolidation.”

This is expected to lead to “larger, more scalable businesses”, says Matt, which will “crucially, offer a better service for clients” as the remaining finance providers would be those able to invest more in their offering and compete on service.

Although economic conditions have changed, there is still considerable demand for loans, with the specialist mortgage market forecast to grow to £16bn by 2030, according to specialist lender Together.

Nicholas Mendes, mortgage technical manager at brokerage John Charcol, says demand for specialist lending products has grown considerably in recent years, fuelling entrants into the industry. “The pandemic was a pivotal moment for specialist financiers as high-street lenders’ appetites began to be reined in; new finance providers took the opportunity to make not only a name for themselves, but also a credible long-term solution. In a postpandemic world, clients have more options and opportunities than previously. This can be seen across a range of product lines, and I expect we will continue to see innovative hybrid products moving forward.”

The addition of lenders in the specialist finance space has helped to create a highly competitive marketplace for borrowers, but the influx has made it difficult for various finance providers to gain scale and grow profits. As such, some lenders remain on the smaller side, putting them under pressure as market conditions change and costs continue to chip away at earnings.

All this has made M&A a more attractive option for owners of smaller lenders who may be looking to exit the market, and a sensible route for those looking to add scale to their business.

“What we have had over the past 10 years is quite a benign environment where lots of people could set up shop and start lending,” says Duncan Chandler, head of financial services M&A at consultancy BDO LLP. “Those days are probably over. What you now find is many of these businesses are not sustainable and haven’t reached safety in getting to the right scale—especially with bridging where the loan books have such short maturity and the velocity of lending is high.”

Chris Gardner, joint CEO at development lender Atelier, claims that while the number of lenders—both banks and non-banks—has risen over the past 12 years, “80% of the business is done by 20% of the lenders”.

“If you are a specialist finance provider entering the sector today, market share and acquisition of market share are tough challenges to overcome,” he comments. “As with most lending, it is about critical mass, and you must get to a certain scale before the economics work. That has been a challenge for new market entrants for the past five or six years. It’s still a compelling market, an asset class that people understand and, because we have had a very long period of rising property prices, people have found that risk quite acceptable.”

One of the biggest advantages of consolidation will be access to secure funding lines. More recently, the banking sector has come under greater pressure following the collapse of Silicon Valley Bank and the takeover of Credit Suisse, raising the spectre of another potential financial crisis. In such an environment, lenders with multiple and dependable lines of credit are likely to be better positioned than those without. Bigger finance providers with more secure funding lines will be able to ride out any particular difficulties in the market, while those with big client bases but fewer sources of credit may find themselves acquisition targets. The greater number of non-banks active in the specialist lending space without access to a deposit base has also given rise to concerns about the strength of the sector. But Stephen Hogg, chief operating officer at Enra Specialist Finance, says while banks might be perceived to be in a better position, Silicon Valley Bank has shown the banking sector can be just as exposed to risk as non-banks. “Over the past several years, the main driver of consolidation among specialist lenders has been nonbanks becoming banks and then needing to consolidate further as they require substantial scale to justify their higher cost bases,” he says. “In large part, this movement has been driven by a judgement call that funding is more stable and costs are cheaper for banks than for non-banks.”

“Some might argue that non-banks are less resilient to shocks than banks, and therefore there’s a bit more risk in the market as interest rate volatility returns,” Stephen adds. “But, as we’ve seen recently in the US, volatility can cripple large banks just as easily as smaller businesses. What matters much more than size or a banking licence is simply whether businesses are well run and risk is well managed.”

Nicholas says the industry’s complex funding lines have always been its ‘Achilles heel’ and often come under pressure during times of crisis. “As we witnessed post miniBudget, some lenders had to withdraw their products with little to no notice due to lending lines being pulled, or had to add new expensive lines of credit, making certain products an unrealistic option as they became too expensive,” he shares.

There are currently “storm clouds” on the horizon over funding as problems in the banking system emerge, claims Duncan, but he is of the opinion that bigger lenders with more established lines of credit should be fine. “Everyone is worried about funding—this is a very existential thing because without it, you’re out of business,” he explains. “If you are bigger, you can get better funding terms, or you can jump onto someone else’s funding platform if you merge. If your funding dries up because you’re small, you will ultimately [need to] sell out to someone else who has funding.”

The strong growth in specialist lenders in recent years means consolidation could happen in several areas, such as bridging, BTL or development finance. However, they are all nuanced markets with different dynamics at play.

A surge in the number of bridging finance companies in the UK due to low barriers to entry—such as wide access to liquidity and a broker-led market— has made it a natural area for mergers.

But consolidation has focused mainly on certain players, says Nick Parkhouse, a partner in the financial services corporate finance team at consultancy EY. “Where businesses have been sold, it has mainly been as a result of them having scale or multi-product strategies. The number of single-product, small- to medium-sized bridging lenders that have been sold in the UK is very low,” he explains. “One option that could be considered in the absence of selling is to merge with another finance provider and create a large-scale lender. By doing so, both parties would have to accept that, while this may drive cost savings, you are likely to have an overlap in broker relationships, thus potentially reducing the benefit of such a transaction.”

Nick adds: “BTL has had a difficult six to nine months since the mini-Budget with a combination of higher and more volatile swap rates, along with a securitisation market, which was broadly closed in Q4. It feels like it is [starting to] come back, with lower rates and capital markets reopening. However, margins for lenders are lower than they were.”

Valuations in the sector should also support consolidation; Duncan believes the relatively crowded market could drive players with stronger funding to get acquisitive, especially if businesses end up with reduced price tags. With the current challenges facing the banking system, some attractive opportunities have started to emerge as investors consider banks and non-banks (each in their own way) as higher-risk assets in the event of a financial “wobble”, or less attractive from a return perspective, should new regulations—like the PRA’s proposed Basel 3.1 framework for credit risk— increase costs and squeeze profits.

“Across the piece, the banking sector and quoted specialist lenders are still lowly valued. And, with what has happened in the past few months with all the talk of a recession, the mini-

Budget, higher interest rates, and now with Silicon Valley Bank, those valuations aren’t going north any time soon.”

One constraint that may stifle the amount of consolidation in the specialist lending sector is the M&A process itself, says Chris, particularly in more short-term areas of the market, such as bridging. “If you acquire a short-term lender whose loans are repaid relatively quickly, some of the loan books will have dwindled by the time you finish the due diligence process,” he says. “It’s not like buying a mortgage lender, where they might have £250m in 20-year mortgages that you can acquire with 19 years of revenue to go. Also, lending and risk appetite are very different across the sector. Potential acquirers may decide that, upon completion of their due diligence, the business they were interested in no longer meets their risk appetite.”

While fewer finance providers might ordinarily mean less choice for brokers and their clients, Duncan believes that if some of the heat were to come out of the market and you had fewer, better, more reliable lenders, some aspects of consolidation might be welcome. “An oversaturated market can often do with a bit of a shake-up.”

Chris says the lenders that remain in the sector will likely be the ones that can afford to invest in their business and offerings. “I do see it as a winners-and-losers game,” he states. “Businesses that are well funded with good products and capital to invest in their platform will continue to take market share. Others probably won’t reach the scale and will gradually fall away.”

Opinions remain split over whether activity will climb in the coming months. While some believe the crowded lender market is due for consolidation, others think it might not make sense financially. “If we think about the next few years, we are not going to see a great deal of consolidation,” predicts Chris. “We may see some of the better lenders acquired by other lending organisations looking to bolt on a development finance or bridging arm. But we’re not going to see wholesale consolidation between lenders. Why? Most lenders are relatively small compared to larger lenders, and a merger does not make economic sense. They’re all chasing the same customers, and I don’t see any incentive or business case for inter-sector consolidation.”

M&A activity typically falls into one of two types: constructive or defensive, says Stephen. Constructive consolidation is where a buyer sees market opportunity best accessed through M&A, while defensive M&A is a corporate finance strategy that consists of companies acquiring other firms and assets as a “defense” against market downturns or possible takeovers. “In the short term, interest rate volatility will put pressure on any business that hasn’t managed interest rate risk effectively and, in extremis, this could drive some involuntary consolidation,” he says. “So defensive M&A is more likely over the remainder of 2023,” he forecasts. “I think the one constant is that dynamism and change are good things for our industry, sorting the stronger businesses from the weaker ones and driving positive evolution within the specialist lending sector.”

Matt envisages that over the next 10 years, the market will likely see a reasonably small, but meaningful, number of larger players. “This will solve a lot of the problems that exist today.”

A research centre developing sustainable practice in the built environment has been set up by UCL, with support from Puma Property Finance. The lender’s managing director Paul Frost and the university’s associate professor Armando Castro discuss why combining academic and industry expertise will bring viable benefits to the property market

Words by andreea dulgheru

With the net zero carbon target looming over the UK, there’s no denying that sustainability is a hot topic in UK construction. For specialist lender Puma Property Finance, this is a core focus. Conscious that it could not achieve this on its own, the firm began looking for a partner. “We were very keen to find organisations that had the credibility, independence and academic rigour to really investigate this topic properly,” explains Paul. “It would be unrealistic for us to do it all ourselves so, rather than acting unilaterally as a lender and trying to move the market in some way, we chose to partner with an organisation to amplify our impact and bring greater results.”

As fate would have it, UCL was already laying the foundations for this type of work. Armando tells me he had proposed in 2021 the creation of a multidisciplinary centre to promote legal, financial, and policybased research to drive sustainability in the UK construction sector. “The world’s already suffering some consequences of the climate crisis, and there are social and governance issues that need to be better researched and debated in society,” he says. “However, we think that we need a more fact- and research-based conversation, rather than the purely emotional and political debate that [is happening] right now, particularly in the construction industry and built environment.”

Just like Puma, UCL was also looking for a partner to embark on this journey with—an active and well-known player in the UK development sector, with a desire to improve its sustainability practices and drive change in the industry. A serendipitous meeting between Paul and Armando confirmed their ideals were the same, so the two partnered at the beginning of 2023 to officially launch the Centre of Sustainable Governance and Law in the Built Environment. Its aims are to address the challenge of building more with less emissions as the demand for better-quality housing increases.

From Puma’s perspective, bringing academia into the mix offers an independent and impartial view of the industry’s issues, ensuring that the research and subsequent proposed solutions are objective and credible. For UCL, the partnership gives the team access to Puma’s data, meaning that research is grounded in reality and approached from a practical rather than purely theoretical point of view. “It’s easy as an academic to stay very isolated and just focus on your own research, so starting very early on with an industry partner helps to keep us more down to earth and grounded,” explains Armando.

The new centre will see the 10-member team—with expertise in areas such as economics, finance, civil engineering, geography and psychology— develop applied research to improve understanding of sustainable practices in the built environment and drive forward solutions. Ultimate objectives include developing innovative financing models for construction projects, improving knowledge transfer, and decarbonising buildings.

According to Armando, team members are working on individual research projects on a variety of topics at the same time. “To give a few examples, one of the members is conducting research on how climate-related overheating is affecting older communities in the UK. Another colleague is studying how to accelerate the decarbonisation of building stock by collecting better quality information and then later on sharing that for the delivery and refurbishment of buildings,” he elaborates. “A third project is focusing on the metrics and KPIs that should be included in sustainable lending practices, which can then help foster and develop better practices for supply chains and borrowers. There is a wide scope of research, but our idea is to develop tools and frameworks that later can be adopted by the industry and government.”

The first semester will be focused solely on collecting and analysing data, after which the centre will produce open-access reports. In addition, it will organise events and seminars for various sector stakeholders—including industry academics and policymakers—to go over the research findings and discuss how they can be implemented across the industry.

As part of the collaboration, Paul represents Puma on the centre’s advisory board. In addition, the lender will play an active part in the research carried out by sharing data from its existing and future loans to offer practical, real-life insight, something Armando believes is extremely valuable. Paul also notes that Puma is open to implementing frameworks or initiatives that come out of the research.

“Different investors and lenders have taken some initiatives around so-called green loans and green finance products. By partnering with UCL for this centre, we want to do two things: have an assessment of how successful and impactful these initiatives are, as well as get a sense of what hasn’t been thought of and done in this area, so we can innovate.”

Both Armando and Paul emphasise that the centre’s research is not targeted at housebuilders and property developers directly, but aimed at decision makers within the UK construction sector, including finance providers.

“We will not be developing green cement or materials research, but we are keen to engage with any organisation through the optics of governance and management and the financing aspects,” explains Armando. “By being able to convince the finance side through research that these are key and important issues, we can have a greater social impact.”

There is no denying that the construction sector is paying more attention to sustainability, with the national—and global—ambition of reaching net zero carbon by 2050 being the main driver of this. However, while Paul believes targets and government policies helped sharpen this focus, he doesn’t think they have been the principal driving factors. “I think this has been largely led by the private sector and its shareholders, as it’s starting to become increasingly evident that there is an economic imperative for this, on top of the moral one,” he explains. “When you think about real estate, sustainable buildings are worth more, they have greater longevity and lower running costs, plus people are prepared to pay more for them. So, if you’re a real estate developer, operator or investor, why would you not be pushing this agenda? I think there’s now a realisation of that, and that’s starting to come into investment decisions that I don’t think was necessarily the case a year or two ago.”

While there has been a rising number of developers taking on sustainable schemes—a trend that both Paul and

Armando have seen over the past 18 months—there are still several issues that could impact progress. One of these is the lack of consensus when it comes to measuring the sustainability of a project, as there are several systems to assess, rate and certify them. According to Paul and Armando, this can open the door to greenwashing if developers and housebuilders choose to prioritise and promote a particular sustainable factor of a project while side-lining the rest.

“There are lots of measures out there, but the question is how reliable they are,” adds Armando. “It’s important for the industry to have a defined set of agreed metrics because, if we don’t measure things appropriately, the risk of greenwashing is really high. For example, lots of research is going on in environmental topics, but how does that integrate into a broader ESG framework? That’s something we are still studying, and we aim to share some insights on this once we have them.”

The biggest problem, in Paul’s opinion, is developers’ lack of long-term vision, compounded by recent economic volatility and high labour and material costs. “If you’re a developer or a construction firm, you must make the numbers add up and, sometimes, sustainable initiatives cost more. While they do deliver more valuable buildings and the return on investment is much greater, not everyone has the luxury to have that longer-term perspective,” he states.

“I do hope that the cost pressures squeezing the construction sector don’t reverse some of the progress that’s been made or halt it. I hope people can maintain that long-term perspective and see the value of sustainable buildings.” While the progress of the green agenda is threatened by macroeconomic pressures, both experts are confident that the spotlight on sustainability will continue in the construction sector, and are hopeful that the insights delivered by the centre will accelerate this.

In addition, Paul emphasises the importance of alternative finance providers in pushing the green agenda: “The alternative lenders have been taking a larger market share in development finance for a long time, and I think that will continue. Sustainability is increasingly becoming a mainstream part of the conversation in development lending so, by extension, it is inevitable there will be a large role to play for alternative funders.”