Property Financing: The Future of Real Estate Funding in Kenya

1. Government funding

The government is a significant financier of real estate projects ranging from buildings and infrastructure such as roads and railways. This type of funding can be done through Public-Private Partnerships. This warrants that developers eyeing funding through this means, the government must partner with the private sector through PPPs to deliver on major projects.

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Of course, these partnerships can be done through solicited PPPs where a private developer is able to initiate a proposal to undertake a project in response to a request from the government, and unsolicited PPPs where a private developer makes a proposal to undertake a project at their own initiative by submitting a proposal to the government.

Another way to guarantee government financing of the real estate sector is through equitable share funding. Here, the national government, through the national treasury, can disburse funds to the county governments to boost development including real estate development. The counties would then draft their budgets as per their own developmental agendas and fund their real estate projects, and,

Consequently, government funding can happen through County Governments’ own funding. County governments have their own sources of finances such as revenue collections, investments, and grants from which they undertake devolved projects such as roads and affordable housing.

2. Debt

Debt financing involves getting capital from a financier and paying it back at a fixed rate regardless of whether the investments yield returns or not. Due to the capital-intensive nature of the real estate, debt financing is the typical way of real estate funding and can be done in two ways; private debt and senior debt.

In private debts, funding is advanced by individuals or organizations interested in returns and are neither institutionalized nor licensed as money lenders, most commonly the non-banking financing institutions. This method does not raise a lot of capital, and the terms of the agreement differ from one lender to the other.

On the other hand, in senior debt, the developer obtains funds from the bank or an institutionalized lender. The interest rates are usually determined by the market and regulated by the relevant authorities such as the Central Bank. Senior debt requires collaterals, and the debt must be paid first in case of liquidation.

3. Equity

 Equity refers to owners’ contributions towards the development of a real estate project. It includes;

• Traditional Equity Financing: This is where a developer, whether an individual or institution, purchases land and develops the desired real estate project, which they later sell or rent out,
• Joint venture Financing: This refers to an arrangement between two or more parties to undertake a project after which they share the returns as pre-agreed. Mostly, they couple real estate developer expertise and financing capability with the landowners’ contributions of land, and,
• Pre-sales Financing: This is whereby project developers can cover their capital requirements by selling their projects before construction and reinvesting into the project. Since sales are unpredictable, the developer may fail to raise enough funds if this is a required funding method for the project. However, this model has garnered the interest of investors since it allows them to take advantage of capital appreciation of properties that are sold off-plan.

4. Alternative Financing

One of the innovative funding solutions to solving challenges in traditional financing is structured real estate funding that investment professionals package to enable investors to access a return and fund real estate development.

These investments have since gained a lot of traction since they offer more market liquidity than fixed-income deposits, give higher returns to investors, meet specific investor needs as they are structured, and cut financial institutions’ middle man role.

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Some of the critical funding categories here include;

• Real Estate Structured Notes: This involves options issued by private equity firms as means of real estate funding, such as the real estate backed medium-term notes and other high yield loan notes. The investor (noteholder) makes a loan to the developer (issuer) who then agrees to repay it on a future date, with fixed interest payments with a typical investment term being short of around two years. Loan notes are flexible investments as they accommodate multiple lenders and bespoke investment terms, and offer higher and more stable returns compared to traditional investments,
• Real Estate Investment Trusts: This involves purchasing shares in a company that has converted the physical real estate asset into a liquid investable product either privately or publicly, such as the Fahari I-REIT traded publicly on the Nairobi Securities Exchange (NSE), and,
• Mezzanine Financing: This refers to a developer seeking funds from a subordinate financier to support the development and is paid after the bank debt but before equity investors. The lender can convert the debt to an equity interest in case of default and thus requires minimal or no collateral with an investment horizon of 1-3 years. Mezzanine financing works best for developers whose cash flow is restrictive.

Real estate funding is critical in many aspects. It is required for the attainment of development agenda, spurring economic growth, and boosting the private sector performance as well as the creation of employment to improve standards of living.

Therefore, the government should look to level the playing field for structured products in terms of requirements and regulations, to reduce over-reliance on the banking sector funding and support growth of alternative forms of funding that not only benefit investors through returns but also spurs development with high levels of institutional efficiency.