11 March, 2021

Can new LP/GP Partnerships innovate fundraising structures?

A high degree of uncertainty triggered by the Covid pandemic coupled with the moratoria on loan repayments and exacerbated by an inefficient Portuguese private market that lacks transparency and liquidity relative to more established European markets, creates unique opportunities for active international investors seeking to expand their footprint into the Portuguese real estate sector. But what is the preferred avenue to deploying capital into Portugal Real Estate?

As in other European markets, Portugal’s capital raising pipeline has been impacted through Covid; projects have stalled, deals have been put on the back burner and many domestic developers, and more generally local General Partners (GPs), have been struggling to raise and allocate capital from international Limited Partners (LPs). Yet, with new fundamentals to play in the sector and difficulty to get bank debt financing, astute LPs should reassess their approach to deploying capital into the Portuguese market.

The international industry-standard capital stack consisting of a GP minority equity coupled with a large LP equity contribution complemented by outsized layers of private and bank debt has not been the norm in Portugal until recent years. Commercial banks have historically been the primary, and often the only, source for capital financing of the Portuguese real estate industry. However, looming uncertainty in the wake of the covid pandemic has curtailed the amount and added more stringent covenants into the level of lending these institutions can do, making them more conservative and depriving local players from their traditional financial lifeline. For that reason, commercial loans typically fall short of what equity partners need today.

Commercial banks do not usually lend more than 65% of the full value of the property, and they have particularly been reducing their exposure to development real estate. The gap between bank funding and the owner or developer’s funding needs leaves lucrative openings for investors to fill in the ‘middle of the capital stack’.

Private equity cash-rich giants already present in Portugal such as Blackstone, Oaktree, Lone Star or Apollo, and a flurry of other mid-sized institutional investors, are preparing for a world beyond the pandemic as the rollout of vaccines hints at real estate opportunities stirring back to life. Buyout firms’ global real estate funds are now sitting on more than $300 billion of unspent cash, according to Preqin. Some of this cash looking for appealing investments should- and undoubtedly will – be allocated to Portugal. The speed of the vaccine roll-out could again alter the relative investment appetite as the year progresses, but as it starts, we see a flurry of bullish datapoints driving positive investment sentiment and the complexion of post-pandemic capital flows into the Portuguese private real estate sector. That’s where domestic managers have a critical role to play. That’s why 2021 will undoubtedly be interesting.

One might understand that investors could be reluctant to take a chance on new manager relationships amid market uncertainties but, with a shortage of compelling opportunities and a scarcity of live deals, why would any foreign LP turn down a domestic GP willing to commit 5-to-10% of its own money into a real estate deal with conservative risk-adjusted expected returns? They might get uncomfortable in liaising with new or emerging managers but, as investor Robert Arnott famously said, “in investing, what is comfortable is rarely profitable.”. As institutional investment appetite grows, smart money will likely pour into Portugal through disciplined due diligence processes in evaluating investment opportunities alongside reputable domestic GPs. A great deal of research and caution is naturally required prior to making an investment in a new geography, a new asset class or with a new manager. After a decade of significant investment volumes from foreign investors, international LPs currently considering capital allocation in Portugal would not be first to market but instead would be early to market.

First to market would test demand and normally highlight errors that can be seen and later avoided. This phase is now behind us and we are of the view that it is now time to be early to market in a post-Covid environment. As a consequence, Bondstone is currently targeting a deployment of €400 million in debt and equity alongside large international LPs with the living sector, logistics and light industrial assets as key conviction calls for the years ahead. As GP, Bondstone’s principals will systematically co- invest their own cash on value-add, opportunistic and special situations deals.

Large international LPs have (wisely) been on the defensive for the past 12 months, but it seems time has now come to play offense. A targeted LP strategy should address current and forthcoming dislocation in the Portuguese real estate market. With looming market corrections on the horizon, an effective sector-agnostic GP-LP partnership could be well-positioned to capitalize on opportunities across a wide range of commercial assets, in both the value add and opportunistic spaces, in redevelopment or repositioning of commercial real estate assets, in the logistics and living asset classes, in distressed retail or hospitality assets and, later on, in the burgeoning NPL market. Both Limited and General Partners should remain open to employing creative integrated financial solutions and investment structuring such as development capital, joint ventures, convertible preference shares, loan stock, mezzanine finance or asset linked loan notes.

The embryonic, albeit buoyant, real estate GP-LP partnership model in Portugal is poised to bounce back in 2021 and beyond as the brunt of the coronavirus pandemic seems to be in the rearview mirror. Portugal’s economic recovery prompted by massive vaccine rollout and the lifting of travel restrictions by summer 2021 could boost deal flow and international LP appetite to deploy capital in Portugal alongside renowned GPs. As disciplined and detail-oriented investors with businessman vision, Bondstone will continue to cherry-pick landmark opportunities with strong winning risk/return profiles to invest side-by-side with international LPs looking to expand their footprint in Portugal.

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