Mind The Gap: RXR Is Busy Filling Incomplete Capital Stacks

Like a good passenger on the London Underground, RXR is minding the gap.

Because everyone in commercial real estate knows just how many apertures there are in today’s capital stacks. And who better to fill them than one of the world’s more esteemed real estate companies?

You likely know RXR for its development and investment activities across the U.S., but the firm has also had a lending arm for some time now — one that’s seen a distinct uptick in activity of late.

In fact, and perhaps unsurprisingly, the number of incoming calls for help with capital stack solutions more broadly has  increased exponentially, Scott Rechler, chairman and CEO of RXR, said.

“To give you an idea, by the end of this quarter, we will have done over $3 billion in projects,” he said. “In terms of capital deployed it’s around $750 million so far this year, with another $2 billion currently in our pipeline.”

The firm has been busy providing mezzanine and preferred equity but, more broadly, an array of capital solutions to borrowers riding out the market bumps.

When Doves Cry

If 2023 was the year of market paralysis, 2024 is turning out to be the year of — often reluctant— transaction activity. While there were high hopes for multiple rate cuts at the beginning of this year, the Fed’s dovish stance and multiple pauses mean asset and portfolio issues have become problems that can no longer be pushed away. Loans are maturing, refinancings are overdue, and difficult disposition decisions can’t be delayed any longer due to bid-ask quibbles.

Still, money talks, and transactions can’t be completed with incomplete capital stacks. The uptick in deal activity as the industry begrudgingly settles into “higher for longer” has only laid bare the dearth of available and willing lending counterparties, and the lack of proceeds available for some transactions today — presenting a key opportunity for  well-capitalized firms to step into the void.

“We’re in a moment in time where there’s a lack of financing available, and we can help fill that void,” Rechler said. “There’s a re-equitization that needs to happen and, longer term, our view is that as we shuffle through banking system issues, the world of private credit is going to be more of a permanent fixture — even more than it was before.”

Rechler compares the rise in private credit and non-bank financing to the early 1990s when commercial mortgage-backed securities (CMBS) took off, and also its explosion following the global financial crisis. With banks facing increased capital requirements — and scrutiny — today, they’re less able to hold debt on their balance sheets, and instead “focused on being conduits, whether those loans ultimately go to the CMBS market or to non-bank lenders,” Rechler said, adding that — after cautionary tales like Silicon Valley Bank and Signature Bank — more congruent duration matching via non-bank lenders and life companies is becoming increasingly important.

All of this has led RXR over the past two years to refine its own approach to credit investments. Leaning into its firmwide expertise in acquisitions, asset and portfolio management, and construction, it views potential debt opportunities through an equity lens today, deploying capital via three lending strategies in its high-yield credit fund:  stabilized multifamily property gap financing;  new construction financing for multifamily properties; and platform and portfolio-crossed financing, where the firm will originate preferred equity or mezzanine loans across multiple properties, or at a platform-level.

Despite its roots being in the office sector, it’s multifamily that RXR is targeting in its high-yield credit strategy today, in large part because of banks’ historical exposure to the asset class.

“The banks are under real pressure from the regulators,” Rechler said. “Initially, regulators would say, ‘Well, it’s only office [causing issues],’ but I’ve been saying for a long time to policymakers that the Achilles heel to the regional bank system isn’t office, it’s multifamily — because that’s where banks have been the biggest financiers across the country, and that’s where the greatest concentration of risk is when it comes to refinancing.”

That exposure is especially worrisome for banks with floating-rate loans originated in 2020, 2021 and 2022—when rates were too low to limbo under— on their books.

“Banks are now [forcing] borrowers to refinance,” Rechler said. “They’re not being patient, and they’re not kicking the can anymore. They’re forcing borrowers’ hands and saying, ‘Refinance us out.’ That, again, is what creates the opportunity here.”

Russell Young, an executive vice president of investment management at RXR, said he’s seeing a lot of situations where a project capitalized under the old interest rate regime is now running into trouble. “Today, rates have gone up and interest reserves have run out,” he said. “The borrower thought that reserve was going to last through the end of the loan’s maturity, but it now needs to be replenished. Those types of recapitalizations are pretty prevalent today.”

And, a lot of the calls RXR is receiving today are coming from its peers and existing relationships. “It builds on itself,” Young said. “We’re able to come in and find a solution for a particular sponsor or borrower. That reputation gets out to the market and then we get the next phone call.”

Sign O’ the Times

While some of RXR’s investor and developer peers have also gotten into the credit business and then created isolated silos for that new business, RXR has chosen to integrate its credit solutions business into its core investments. “When we underwrite an investment, we underwrite it for the real estate, and then we underwrite it for the credit and involve the same people that are underwriting our equity,” Rechler said. “We’re underwriting a loan through an equity lens, then putting a credit layer on top.”

The firm aims to be “somewhere between a lender and a partner” to its clients, Rechler said. “We want to be the solution provider. So, if there’s someone that needs capital — to help them execute their business, to recapitalize a project or a partnership — we want to try to figure out the right capital solution that helps them achieve that in the most efficient way possible.”

Some of the time, recently, that also includes helping a borrower get out of a situation with a hard money lender who’s now putting the pressure on them to be repaid.

Ultimately, RXR’s tri-fold strategy addresses the three main investment categories it’s been fielding.

“The first one is, loan proceeds have really dropped versus where they were in the pre-interest rate hike regime,” Young said. “Capital financed up to, say, 75 percent of costs and now senior mortgage proceeds are 50 or 55 percent, and that gap needs to be filled. Here, we’re looking at coming in with either preferred equity or mezzanine debt to fill those situations, typically on cash-flowing properties in light transition.”

Then, there’s the reduced lending playing field for new construction loans. “There are certainly less traditional construction lenders in the market today,” Young said. “Construction lending is a place that’s been even more acutely impacted, as there was really just a small handful of lenders to begin with. We’re filling 45 to 50 percent of the capital stack, up to typically 65 to 70 percent for good projects, good sponsorship and good locations.”

Young said because the firm has a development arm that’s able to take over projects in-house, “senior lenders — the few that are left— like to have us in that subordinate position and, because of that, we’re able to get deals done that wouldn’t otherwise be able to get done.”

When it comes to active construction lenders, “it’s a short list,” Young said. “They also have a short list of borrowers that they lend to. A lot of times you’ll see these projects where maybe it’s the next tier of sponsorship where, for example,  [Bank] OZK wouldn’t look at the deal unless RXR is in the picture, so we help bring that entire picture.”

RXR is also helping sponsors and entrepreneurs who have large multi-phase development projects that are underway — with partially completed buildings, for example — and they need an overall recapitalization. “We’ll help design and fund that recapitalization to take out their old capital stack and provide a new one that’s more efficient for them,” Rechler said.  “That gives them the time to finish everything, it resets interest reserves, and it’s more cost efficient for them.”

At the platform level, the firm recently financed a build-to-rent strategy in the Sun Belt, where it’s invested over $110 million of equity (so far) into a platform that’s buying build-to-rent product from developers. In this instance, if someone’s building a new 500-unit development, an investor will pre-buy 100 units and RXR funds that business for them.

“An entrepreneur used to go to raise a fund or just go to an institution and raise capital and it’s getting harder and harder to do quickly, so we help fill that hole,” Rechler said. “We’re working on a series of these types of platforms to help these entrepreneurs build businesses, almost like we did back in 98 with our student housing business in a similar type of structure.”

In line with broader market trends,RXR is also doing some note-on-note financing and “looking to do more of that, programmatically,” Rechler said.  “We’ll also provide structured paper that the lender themselves can offer to their client as part of a refinancing.”

U Got the Look

The firm is making plenty of moves that don’t involve distress. Just last month,  the firm hit headlines for its $85 million mezzanine investment in the construction financing for Kushner Companies’ One Journal Square in Northern Jersey. Apollo Global Management provided a $210 million senior loan in the deal, and RXR worked closely with Kushner to complete the deal’s capitalization.

“We’ve had a long standing relationship with the Kushner organization,” Young said. “We’d actually talked to them originally about doing an equity investment into the transaction, so we’ve known the deal for some time.”

The project is a 1,723-unit, two-phase multifamily development in the Jersey City,  Journal Square submarket, with a Target-anchored retail component. When completed, it will be the biggest multifamily project in New Jersey. Kushner closed on a $1 billion financing for its first phase — which is almost topped out — in 2022. RXR leaned into its construction expertise when making the investment.

“It’s very well advanced, and was compelling and interesting to us, given that a lot of the construction for the project has been de-risked,” Young said. “For us, we looked at the market opportunity in Jersey City, which has continued to evolve..”

On the refinancing side, RXR is seeing a mish-mash of situations. Some properties are multi-phase in nature, some are just getting completed, and some still have components under construction. “Some projects at the tail end have now run out of interest reserves and need to be recapitalized,” Young said. “They’re facing loan maturities, so we’re providing a refinancing and using our relationships to put on attractive senior-level financing, so lower the overall cost of capital. We’ll fill the gap to fully complete the capital stack, and also do the underwriting for the remaining construction — which is always a little more complex, coming in mid-construction and providing this capital in the form of debt. We’ll also look at being involved in the equity side as well and taking a participation for that, and provide a full suite solution to recapitalize a complex project.”

Even though multifamily is RXR Credit Solutions’ main squeeze today, it will also look at self storage, industrial and logistics properties in need of gap financing.

“As Russ said, the common theme is these investments were underwritten when interest rates were near zero, and no one could imagine where we are today,” Rechler said. “Everyone is upside down today, but we have the ability to come in and try to help be the solution provider for the gaps.”