Inflation highlights need for way to share development risk

The affects of inflation on construction cost has a two-fold effect for financing real estate development according to Matthias Sandfort, Head of Banking Coverage, Corestate Bank.

“For the developer it’s an issue how to meet construction budgets in an environment with rising construction costs,” Sandfort said, adding that lenders have uncertainties too. “Will the property be delivered in the end within the budget or not? It’s a question of how to meet cost overruns if there are any. So it’s about the credit worthiness of the borrower, its sponsor and the technique of how to hedge construction costs.”

Talking to Real Asset Insight’s Richard Betts he said that it is not simply a case of transferring risk from the developer to the general contractor. “That would be too easy, but even if that happens the question is how is the general contractor hedged against rising construction costs?”

Uncertainty itself is not a show stopper to construction activities, he said but it is a question how to meet uncertainties and how to hedge them.

But the balance of risk is shifting between borrowers and lenders.

But the mezzanine tranche has got bigger, the leverage has shrunk and the gap needs to be filled by equity. “A balance has to be found and the greater is the risk and uncertainy, the more equity is needed to secure the financing of a construction site.”

Click on the video to watch the full interview or listen to the podcast below.