With Interest Rates Rising, C-PACE Can Help

T he threat of a rising interest rate environment is causing some to wonder about how this will impact commercial real estate property values and investment performance in Texas and beyond. Some investors fear that rising interest rates will cause cap rates to rise and property values to fall, resulting in weaker total returns. Generally, the Texas commercial real estate market has strong fundamentals and it looks stronger and less volatile relative to other investment options. This is evidenced by the fact that deal activity has remained comparatively flat year-over-year while equities are down, and prices remain high.

Despite the positive outlook, in a rising interest rate environment, owners must be more discerning than ever when evaluating their financing options and capital stack. The good news is that in 2013, state legislators passed a little-known financing program called Commercial Property Assessed Clean Energy (CPACE).

This specialty financing program can be extremely accretive to property bottom lines by offering a meaningfully lower cost of capital than mezzanine financing or equity. Our company, Lever Energy Capital, focuses on providing C-PACE capital to commercial real estate owners and developers.

On the rise across the nation as well as across the state, C-PACE is a form of financing that enables property owners to finance significant portions of the capital stack and capital expenditures at low, fixed interest rates over terms as long as 25 years in Texas, one of 20 states with an active C-PACE program. Across the United States, commercial property owners received hundreds of millions of dollars in C-PACE financing in 2017—more than twice the total dollar amount of C-PACE financings closed in 2016. Much of the growth in C-PACE in 2017 was due to projects funded in Texas, which was home to approximately 6% of total C-PACE financing dollars that year. Due to the accretive nature of C-PACE, Bloomberg News believes it has a $250 billion market potential across the nation, and our company expects a significant portion of this market to be in Texas. But before we get to how C-PACE can be accretive, let’s look at how C-PACE works. hood with C-PACE capital provided by Lever Energy Capital. That capital is being used to fund fundamental pieces of the building redevelopment, including a new HVAC system, electrical upgrades such as LED lighting and controls, building envelope improvements, as well as soft costs and fees associated with these portions of the project. With $2.5 million in C-PACE financing for the cost of these improvements, C-PACE is a significant portion of the capital stack with a lower cost of capital than traditional mezzanine financing or equity. The property owner will repay the C-PACE financing through tax assessment payments amortized over 25 years at a low interest rate that is fixed over the same period.

The private and public sectors, through entities such as our company, provide C-PACE financing for up to 100 percent of building costs related to building system and envelope improvements, water conservation measures and renewable energy or other on-site energy generation additions. Hazard mitigation upgrades also can be financed in some states, including (in parts of Texas) storm resiliency. C-PACE financing is available for various commercial property types, including office, industrial, retail, hospitality, multifamily, data centers, mixed-use and special-use property types.

The improvements for this adaptive reuse project are expected to result in lower operating expenses and annual increases to net operating income, which will increase the overall property value. Cash flow will also increase as a result of ReTh!nk’s substitution of C-PACE for more expensive forms of capital.

C-PACE’s repayment mechanism is one aspect that makes it unique. Like metropolitan districts and other special assessments, CPACE is paid back as a long-term property tax assessment associated directly with the improved property. This unique repayment mechanism allows C-PACE to provide longterm, low-cost, nonrecourse, fixed-rate financing that matches the life of the building improvements. The increased property tax assessments are often outweighed by the operating savings derived from the building upgrades and pass throughs enabled by property tax treatment of C-PACE payments; the result is a cash-flow positive investment within the first year.

One specific example of C-PACE making an impact in Texas is ReTh!nk’s adaptive re-use project near downtown Houston, slated to open in the Fall of 2019. ReTh!nk, a coworking community created for real estate professionals, is developing one of its first locations in Houston’s Washington Heights neighbor-

Additionally, and perhaps more importantly to the property owner, the C-PACE financing will automatically transfer to the next property owner upon sale. In the current environment of rising interest rates, assumable and long-term fixed-rate financing can be attractive to buyers and sellers alike. Ultimately, putting CPACE financing on a property translates to an increase in property returns with regards to operating income, cash flow, asset quality, and pricing upon sale.

So, the next time you are evaluating your capital stack and fretting over rising interest rates, consider C-PACE as a tool at your disposal. Its popularity is growing in Texas and beyond because it provides real estate owners and developers a new accretive financing tool that can result in a cash-flow positive investment within the first year.

The 2018 Chapter Award Winners (L-R) Outstanding New Member Award: Natalie Bode, Cushman & Wakefield; CREW Dallas Dealmaker Awards: Suzanne Brasuell, ENTOS Design and Sara Terry, Stream Realty; CREW in the Com - munity Award for Philanthropic Excellence: Diane Butler, Butler Advisers; President’s Award: Michele Langenberg, TIER REIT. Not pictured: Chapter Service Award: Rachel Rouse, HOK; CREW Dallas Dealmaker Awards: Mandy Fults, Stream Realty and Kmeal Winters, Gables Residential.

Suzanne Brassuell, 2017 President, ENTOS Design.

Past President and Future at the December Holiday Awards Luncheon: (L-R) Vicki Summerall, 2019 President Elect, Republic Title of Texas; Shea Kracheck, 2019 President, Lane, Gorman & Trubitt; Paula L. Beasley, Immediate Past President, Farrow- Gillespie Heath Witter;

The 2019 CREW Dallas Board of Directors (L-R) Suzanne Brasuell, ENTOS Design, Strategic Advisor; Sara Terry, Stream Realty, Director; Janice Peters, Hudson Peters Commercial, Secretary/ Treasurer; Beverly Woodall, JLL, Director; Laura Hoffmann, Winstead, Director; Laurie Arnold, Johnston & Pratt, Director; Shea Kracheck, President, Lane, Gorman, Trubitt; Michele Langenberg, TIER REIT, Director; Vicki Summerall, Republic Title of Texas, President Elect Paula L. Beasley, Farrow- Gillespie Heath Witter, Past President; Megan DeLeon, Adolfson & Peterson Construction, Director; Kimberly Hopkins, CREW Dallas, Executive Director.