Affinius Capital’s Craig Solomon On Playing Up and Down the Capital Stack

Craig Solomon is one of the wise men when it comes to commercial real estate finance and investment, as he’s been in the game for more than four decades — first as an attorney, then as an investor. The vice chairman and chief investment officer of Affinius Capital has steered the firm since its 2023 rebranding from Square Mile Capital, a real estate investment firm he founded and ran as CEO that merged with USAA Real Estate in 2012. 

Affinius has an active debt platform that’s widely covered in the press, but less is known about the equity side of the business, which has thrown itself into the development of data centers and industrial properties in recent years. Savvy leadership is critical during choppy times in the market, and Solomon has structured Affinius to play up and down the capital stack to take advantage of the interest rate regime (and other factors) at any given time. 

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He spoke with Commercial Observer last week about the importance of recapitalizations and restructurings, the core tenants of his investment ethos, and why relationships have been the secret sauce in his storied career. 

This conversation has been edited for length and clarity

Commercial Observer: Tell us about your background in commercial real estate and how you came to form Square Mile Capital. 

Craig Solomon: I was a lawyer at Paul, Weiss, Rifkin, Wharton and Garrison. I spent a year as a litigator and then elected to move into the real estate group, where I spent five years practicing real estate finance law. I then left in an ill-timed effort to transition into the commercial real estate business. It was ill-timed because it was around the stock market crash of 1987, followed by the real estate depression of 1990, 1991 and 1992. So my timing was unfortunate, to say the least. For a long period of time, I ran a small real estate investment business as well as a real estate lending business and accounts receivable business. 

In the early days of leaving Paul Weiss, after striking out to scratch my entrepreneurial itch, I had a young baby, and another one on the way, so I needed to make a living. I started practicing real estate law privately, just to put some money on the table, and that turned into a rather significant law firm by the name of Solomon and Weinberg. For a long time before Square Mile Capital, I ran a vertically integrated real estate law firm here in New York City, one which peaked at around 40 attorneys, and we did everything that touched real estate, including real estate tax, real estate joint ventures, real estate litigation, debtor-creditors and the like. 

The only things we didn’t do were condominium plans, because it’s rather a commoditized business, and zoning and entitlement work, as it’s sort of a localized business. By virtue of that experience, I was also running the real estate finance business and the accounts receivable business, and I sold off those two along the way, and through the law firm, one of my largest clients for many years was [private equity firm] Cerberus. Our firm was their largest outside counsel, and so I ended up leaving the firm to form Square Mile with one of the principals at Cerberus, Jeff Citrin, around 2006. 

How did Square Mile Capital become Affinius?

So, coming out of the Global Financial Crisis, there were two things going on. Small, niche firms would thrive, especially if they had a specific investment focus, and large firms were also going to thrive, as folks re-entered the market. But the firms in the middle were going to struggle raising capital and struggle to keep up with the general partner commitments associated with raising capital. We were trying to determine what our firm, which at the time was about $1.1 billion of assets under management, was going to do coming out of the GFC. We were fortunate in that the firm’s pedigree, and my background, was in distressed real estate, debtor-creditor bankruptcies, buying debt at a discount — all of the things that were attractive at the time. So we were a firm that was attractive in the marketplace, but we were on the smaller side. 

What happened was I was approached by my current partner, Len O’Donnell, who was the president of USAA Real Estate. At the time, USAA Real Estate was a wholly owned and separately run subsidiary of USAA, the $200 billion financial services conglomerate. The thinking in our approach to merge was that USAA Real Estate had deep roots in traditional real estate — investment, multifamily, industrial and joint ventures — but not deep roots in structured investments, distress, capital markets, things that were the opportunity sets coming out of the GFC. 

They reached out and we had long conversations, and it was 2012 when we ended up selling an interest in the business to USAA Real Estate in exchange for substantial capital commitments to fuel general partner co-investments into our various fund products and access to USAA’s regional acquisitions network. We also got the research and capabilities a large firm can bring to the table. 

How did that marriage go?

We basically divided up the world into various strategies — these are for Square Mile strategies, and those are for USAA Real Estate. 

But, a number of years later, a couple of things happened. We started to realize that USAA proper, which is considered a systemically important financial institution, is under federal regulation, because they own a bank. A lot of regulation rained down on USAA proper coming out of the GFC, from the Federal Reserve, from the Office of Thrift Supervision, and the Office of the Comptroller of the Currency. That regulation got to a point where it didn’t make sense any longer for USAA Real Estate to be subject to that regulation. 

So, it was agreed that USAA Real Estate would be acquired by us so it wasn’t under the USAA umbrella. At that time, my partner and I reached an agreement where, rather than selling my remaining interest over time in what was then Square Mile Capital, that we would merge the two businesses into what is now Affinius Capital.  

How has Affinius protected its equity business amid all the interest rate changes these past three years? 

In terms of your equity, the way you protect yourself first and foremost is not by not overlevering. So even in the heady days of near-zero absolute interest rates [2009 to 2022], we were not a firm that heavily levered its various investments. We don’t use financial engineering, typically, to create return, so we were modestly leveraged by industry standards. That’s just built into the DNA of the firm. 

On the other hand, what we do for a living is we create value on the floating-rate side of interest rates — short-term bridge financing — and we sell that value created to somebody who’s gonna use the long end, the 10-year Treasury fixed rate. So the bulk of our debt in our equity business was and is floating rate. That’s that’s a challenge as the floating rates matured, but if you’re well capitalized and you’re not overlevered, you can handle de-leveraging as needed, the acquisition of new interest rate caps, things of that nature, in order to assure that you’re not gonna have a problem with with your lenders.

How do you make sense of this new interest rate regime? 

We had a handful of rate cuts, and those affected the longer end of the curve. The 10-year is a fixed-rate bond. But even when we were having drops through the federal funds rate cuts and the 10-year Treasury was dropping as a result, the short end of the yield curve was not. In fact, it was inverted. And, so, if you were a floating-rate borrower, you weren’t getting the benefit of those rate cuts. 

There was a point in time where you had a 3.75 percent 10-year Treasury and over 4 percent on the 30-day SOFR [Secured Overnight Financing Rate]. With the usual curve, it’s supposed to cost less to borrow for two years than it does for 30 years or 10 years, right? What we’ve been going through is sort of an inversion. So those that were able to take advantage of the three rate cuts were those that were borrowing fixed-rate, so a lot of folks went into the market to refinance with five-year, fixed-rate CMBS [commercial mortgage-backed securities], and then the Trump trade occurred, and now we’re back to a 4.6 percent 10-year Treasury. Now we’re modestly inverted. The 30-day SOFR rate is 4.35 percent, the 10-Year Treasury is 4.6 percent. We’re not inverted but we’re kind of flat, and that’s a very strange place to be in the real estate business.  

Which asset classes do you play in on the equity side?

It’s asset class specific. We are very active hyperscale data center developers. We have been developing for a handful of years in that space, and will continue to develop, as it’s one of the growth areas of our business more broadly. 

We have almost entirely eschewed multifamily development because we simply can’t justify either the land cost, or we can’t effectively forecast exit cap rates because of interest rates. Moreover, there’s an affordability issue in this country, which pushes us more towards investment in workforce housing and types of affordable housing. So we’ve not been building a lot of multifamily on the equity side of our business. However, we’ve been financing multifamily for others on the debt side of our company. 

Similarly, our industrial equity business has not been an active developer on the same scale that it was prior to the run-up of interest rates. We had been one of the most active developers for Amazon when Amazon was building out its supply chain, and we continue to do things with Amazon, both in the data center space and in the logistics space, but it’s on the logistics side, as things are much slower on the development side. Where we are active in industrial development is in Mexico and in Europe. 

How would you sum up Affinius’ equity strategy? 

The way we think about equity business is: Where do we see durable tailwinds? What is happening in the world at large that will have an impact on real estate, and is that impact positive or negative? If it’s positive, how durable is that trend? That is what took us in 2011 into the logistics space, as we saw what was happening with the percentage of sales happening on the Internet and the need for the Amazons of the world, and others, to build out their supply chains. That similarly informed our investment in the media space — the ownership of studios and the rental of studios to the streaming firms — as we saw folks consuming content on their smartphones, tablets and computers, rather than watching cable. 

And that’s also informed our entry into the data center development space, first as a result of the cloud and now, clearly, as a result of AI. That also informs our interest in affordable housing, especially as we look at the affordability gap. That’s how we think about the equity side. 

How much has distress informed your investment strategy? 

Distress is at the core of our historic DNA. During the GFC, we were very large buyers of portfolios of subperforming and nonperforming debt, so we’re well tooled in workouts, restructurings, and debtor-creditor relationships. Frankly, we anticipated that for our opportunistic vehicles we would see substantial opportunity during this current downturn, and, to be blunt, we have not seen it at scale. 

Why not? 

There’s a variety of reasons. One is there’s a tremendous amount of liquidity that’s built into the markets today. Two, I think that the Federal Reserve has given the regulated banks largely a pass and has encouraged working with borrowers, nursing borrowers, rather than exercising remedies. And the Fed is also fighting inflation, so they’re increasing interest rates, and commercial real estate is the casualty. And, so, I think the banks have largely been given a pass to work with their borrowers. 

The third reason is the advent of debt funds, the nonregulated debt funds, and we’re one of them. They’re occupying a larger and larger portion of the commercial real estate lending pie in the United States. There were no debt funds pre-GFC. An opportunity arose post-GFC to achieve those yields, and it sort of all started. Those debt funds have more liquidity, they’re not regulated, there’s less pressure, they can work with their borrowers if they so choose, but they can be rescue capital for borrowers who are in need of refinancing. 

What’s the competition been like from debt funds that are also bringing similar amounts of equity as Affinius into the workouts and restructuring space? 

We made a conscious decision in the early days of building Square Mile, and later Affinius, that we wanted to have capital up and down the capital stack. We wanted to have sources of capital where we could be first-mortgage lenders; we wanted to have capital where we could provide mezzanine debt; we wanted to have capital where we could provide structured preferred equity; we wanted to have development equity; and we wanted to have equity to go out and buy cash-flowing assets. 

And the reason for building our business in that way was because it seems like every 10 years or so there’s a cycle, and for three of those years we’re all in the desert, not knowing what we’re doing and watching values fall. We as a firm, and I as an investor, have made the mistake in the past of being a single-strategy player in this industry. And, when that happens, you’re left holding the bag, and you don’t really have a business. So, by virtue of having capital at every part of the capital structure, we can dial up and dial down risk as we see fit in the marketplace. So if the equity trade is not a trade that makes good sense for our firm, or for our investors — and we have well over 800 of them, by the way — then credit is, and we’ll go more senior in the capital stack. And when interest rates become more aggressive, when spreads are thinner, when there’s less margin in our lending businesses, that means that we can borrow really well, and we will dial up the risk on the equity side. 

Considering you play up and down the capital stack, how much have recapitalizations played a part of your equity business recently?

We have restructured a tremendous amount of our existing debt, which is largely floating rate, but we’ve done it without having to access third-party capital to de-lever debt capital structures. So our recapitalizations have been working with our lenders to provide extensions, to refill reserves, to perhaps pay down the loan. 

But, because we’re modestly leveraged as a firm and because our equity strategies are largely modestly levered, the amount of recapitalization didn’t require going to a debt fund or an opportunistic fund and saying, “Hey, we need capital to fix this problem.” We engaged in self-help. And because, frankly, we have very large relationships with the debt capital markets because of our capital markets activity, we have really good relationships. So, if you have capital, you can sit down in a reasoned way and come up with extensions and restructures that work for the lenders and work for you. We really haven’t had to access third-party capital to save assets. We’ve had to access capital to save assets, but it’s been controlled capital.

Look, we went into the credit business in 2012 because we saw excess returns in providing debt at that time, mainly because the banks were not lending, and since then we’ve continued to grow that business. I think we’ve originated nearly $50 billion of real estate credit. So during these last three years of higher interest rates, it’s not that we’ve grown our credit business to the detriment of our equity business. It’s that we’ve grown our credit business because that’s where the opportunity is, back to my point about being able to dial our risk up and down. 

One sector we haven’t touched on yet is office. Have you provided any rescue capital for underwater office assets? 

We have relatively modest office exposure, simply because it’s an asset class that we’ve not had substantial success with in the past. Our exposure in the asset classes is a very small percentage of our overall portfolio. We are watching carefully as the office market moves, but we haven’t in any material way backed up the truck into office, and I don’t think we will in this cycle.

Why?

My perspective is that investing in office is good for the operator and not so good for the capital. There are fees that are associated with leasing, and fees that are associated with construction management, and all those fees are inured to the operator but not to the capital. It’s just never been a huge asset class for us. And when it has been, it’s been on the structured side, so preferred equity, with some kind of an equity cushion. 

But the reason we’re all in a world of hurt is because, historically, two-thirds of the transactions in this country are office. Now, are we going to  take advantage of it on a go-forward basis? I will tell you that I think that one of the great contrarian opportunities of this cycle will be in office, and I can also tell you that we are unlikely to be a huge participant in it. I think it’s a great buying opportunity, but I also think it’s a tough asset class, and I think it’s market specific. So I believe there are better risk-adjusted return opportunities in the market for our firm. 

And are you interested in being a general partner or a limited partner? 

It really depends on the asset class. For example, we are in vertically integrated data center development. We own a majority interest in an affiliate whose name is CoreScale, which is our data center development arm. So we don’t allocate capital to third parties in that program. 

In the industrial space, we’re a very built-out development team, but we do it through allocation to industrial developers programmatically throughout the country. We do that, largely, because the transactions are on the smaller side in industrial, so it’s just more effective to have local, trusted partners to go through entitlements and the like. Similarly, with multifamily, while we’re not vertically integrated, we do have deep asset-management capabilities, but we allocate multifamily development capital to a small group of institutional development firms. 

And then these sort of opportunistic strategies overlay across all of that, so that the opportunistic platform is really an allocation platform.

What are your core principles of your investment strategy? 

Preservation of capital — put the investor-client first. And we eschew financial engineering to create returns. More importantly, we are builders of value, creators of value, whether we allocate to that creator of value or whether we directly do it ourselves. 

The way we look at our firm is we have four central investment approaches. One is our credit business. Another is our technology-adjacent businesses, which include things like our logistics business, our media business and our data center development business. Then the third would be our housing platform, where we’re very focused on the affordability gap in this country and trying to address it. The fourth would be our opportunistic platform that covers market tumult and special situations. Those are really the four central investment tenants. 

How important have relationships been to your career? 

The real estate business has historically been a hugely fragmented business with not a lot of data that’s available to everybody. And, so, the only way to get business done has been through relationships, and the only way to grow a business is through repeat relationships. I think that continues today for sure. You’d see a tremendous amount of repeat business, whether that’s with repeat operating partners, repeat borrowers, or repeat senior lending relationships. It is hard fought over time to make those relationships. 

Now it’s somewhat more diffused than it used to be, you know, through social media, through crowdfunding platforms and the like — folks can get things capitalized in a manner that they couldn’t in the past. But I still think at the end of the day that it’s a relationship business. Especially in difficult times. I’ve been doing this a really long time, either as a real estate finance lawyer, and then in this world of investment for 18 years, and relationships with lenders, lawyers and borrowers mean everything — and that gets tested when things get tough. 

Brian Pascus can be reached at bpascus@commercialobserver.com