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Leverage on Leverage exposed when the economic cycle turns

A Melbourne-based property developer entered liquidation on Monday, citing interest rate hikes, lack of labour, elevated materials costs and Covid-19 lockdowns as the reasons for its collapse.

Merricks Capital does not have any exposure to this developer.

  • Discussions with industry participants suggest that the business was highly leveraged at a corporate level in addition to the traditional construction facility at each property.
  • Merricks Capital had previously reviewed the opportunity to finance some of these individual projects. As standalone developments, they appeared reasonable, and we suspect they will be completed and delivered by the senior lenders.
  • The issue at hand is that the developer appears to have borrowed much of the “equity” contribution required for each project.
  • As stated in our commentary last week we expect property prices will decline by 10-15% and we have been preparing our portfolio accordingly over the last year.
  • This preparation includes sticking to our core focus of lending against first mortgage on real estate and avoiding complex structures.
  • When a market participant goes bankrupt, it often creates opportunities at the more conservative end of the lending spectrum as lenders all stand back to see where the dust settles.
  • Our strategy remains to keep pursuing the most conservative part of the capital stack in real estate but take advantage of the wider pricing being offered by the market.

Private debt transitions old asset into world-leading agriculture processing facility.

This week the Merricks Capital investment management team visited Dennington, a 35-hectare milk processing site 5km from Warrnambool in western Victoria.

Merricks Capital funded the acquisition of the site by ProviCo in May 2020 after Fonterra closed the plant in 2019 to consolidate their Australian processing assets in response to a shrinking milk supply pool.

Since acquiring the site and with the support of a private equity backer, ProviCo has repurposed the site to manufacture high value dairy fractions, through state of the art technology and move away from base commodity production of lower margin milk powder products. This is a typical example of where we are supporting the agriculture supply chain by funding the repositing of an asset that sits outside bank appetite.

To replace the plant at the time of acquisition would have cost more than $150m (versus our loan of approximately $20m), however, it required the fulcrum capital to transition the asset from the highly competitive commodity milk processing business.

Merricks Capital has strong expertise in the dairy sector with a track record of an average investment IRR of more than 12% (net of fees and costs).

 

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