1. NCDA – Winter Conference 2013 Economic Development using Community Development Block Grants/Section 108 Loan Guarantees

2. Commercial development – Offices, retail, mixed-use, hotel Operating businesses – Manufacturing and service sector businesses Industrial development – Industrial park Types of Section 108 Projects Slide 2

3. Loan Pools – Business development & expansions Multi-family rental housing rehab – Rehab vacant building into residential use Infrastructure/Public facilities – Community center, roadwork, under grounding utilities Types of Section 108 Projects Slide 3

4. Uses of 108 Slide 4

5. Job creation Larger, capital-intensive projects Below-market interest rates Flexible financing options Mitigate impact of CDBG cuts Why Use Section 108? Slide 5

6. Spread capital costs over time Long-term funds at reasonable fixed rates Flexibility in repayment – Provision for interest-only Flexibility in structure – Senior debt instrument – Subordinated debt instrument Section 108 Advantages Slide 6

7. Leverage of limited public dollars ($5 of Section 108 for every $1 CDBG funds) Non-competitive & rolling application process Not a General Obligation (GO) for borrowing community Local decision-making Section 108 Advantages Slide 7

8. Section 108 Basics

9. Long-term debt: up to 20 year term Flexibility of loan structure – Possibility of interest only payments – Flexible principal repayment schedule – Negotiable collateral/subordination arrangements Historic low interest rates – Short-term, interim rates - 3 month LIBOR and – Long-term, permanent rates - “low spread" above the 2, 5, 7, and 10-year U.S. Treasury notes Lending Features Slide 9

10. Section 108 Underwriting: Program and Financial

11. Program Underwriting

12. Entitlements jurisdictions Non-entitlement public entities assisted by states that administer CDBG (Small Cities) States (added in 2009) – conduit for Section 108 loans to non-entitlements Eligible Applicants (24 CFR 570.702 and 570.711) Slide 12

13. – Eligible Activities Subpart M 24 CFR 570.703 – National Objectives Subpart C 24 CFR 570.208 70% low-mod benefit – primary objective – Public Benefit 24 CFR 570.209(b) If “special economic development” activity If public improvements shared by more than 1 business Program Underwriting Basics Slide 13

14. Financial Underwriting

15. Risk and return affect both lenders’ (debt) and owners’/investors’ (equity) willingness to fund a deal Private Debt: Risk of repayment, operating losses Equity: Risk of not earning rate of return Risks for Section 108 applicant include – Program compliance, including public benefits/# of jobs – Repayment from 3 rd party to local government for repaying Section 108 funds Risk & Return Slide 15

16. 24 CFR 570.209(a) and 24 CFR 570 Appendix A provides six key underwriting and evaluation guidelines for economic development projects Following guidelines not mandatory, but must conduct basic underwriting in order to receive a Section 108 loan Section 108 Financial Underwriting Slide 16

17. 1.Costs are reasonable 2.Financing is committed 3.Section 108 is not substituting for non-federal funding 4.Project is financially feasible 5.Return to owner is reasonable (avoid windfall benefits or undue enrichment) 6.Pro-rata disbursements of funding Six Financial Underwriting Guidelines Slide 17

18. Understand features of all financial “Sources” Confirm and evaluate “Uses” of funds Do “Sources” = “Uses” ? Sources & Uses Slide 18

19. Debt—borrowing from lenders Equity—ownership/investor – Cash or contributed asset Section 108 — “gap” subsidy Sources Slide 19

20. Identify where the money goes – Breakout project’s hard costs (construction, equipment) and soft costs (e.g., professional/financing fees) Evaluate reasonableness of all costs – Compare to costs standards Schedule draws of Sources to timing of Uses – Predevelopment, closing, construction, cost certification, certificate of occupancy, lease-up Uses Slide 20

21. Real EstateBusiness IncomeSales - Expenses - Cost of Sales + G&A (no depreciation or interest) = Net Operating Income= Earnings b/f Taxes, Depr., interestMinus Debt = Cash Flow= Cash Flow Minus Income Taxes Cash Flow Slide 21

22. All Section 108 Guaranteed Loans require pledge of current and future CDBG for repayment of Section 108 loan – States pledge CDBG for non-entitlement communities’ Section 108 guaranteed loans – Entitlement communities pledge CDBG for entitlement communities’ Section 108 guaranteed loans Collateral: Pledge of CDBG Slide 22

23. In addition to CDBG pledge, other security is required. (Evaluate Adequacy of Collateral): – Real Property: 80% Loan-to-Value – Machinery & Equipment: New: 80% of cost, less other senior debt Used: 90% of appraised net liquidation value, less other senior debt – Inventory: 50% of average of ending balances of last 3 operating years – Accounts Receivable: 80% of average of ending balances of last 3 operating years – Revenues (e.g., Tax Increment Financing, parking revenues, revenues from loan portfolios) Collateral: Additional Loan Security Slide 23

24. Can the deal be done without Section 108? Debt has to be sized to fit cash flow - DSC (Debt Service Coverage) Debt has to be sized to fit collateral – LTV (Loan to Value) Structuring the 108 Slide 24

25. Level I: Community borrows funds to carry out community/economic development activity – Repaid with CDBG funds over term; and/or – Repaid with other pledged revenue sources (e.g. TIF) – Flexibility and variation depending on project type, source of repayment, and nature of parties Level II: Community borrows funds to re-lend to Third Party Borrower (business or developer) – Repaid by Third Party Borrower with revenues from project; – Repaid by Third Party Borrower with other pledged revenue sources and guarantees Structuring the 108 Slide 25

26. Level I – Loan – Repayment - generally, CDBG used as source of repayment – Collateral pledge of existing and future CDBG Pledge of additional loan security Repayment Sources Slide 26

27. Level II - Loan Repayment – 3 rd party borrower loan payment (p & i) to local government borrower. Debt service payment cannot be less than Section108 debt service Collateral - CDBG pledged by State or Unit of local gov’t - Additional loan Security – State or Unit of Local gov’t pledges interest in 3 rd party loan, including security for loan Repayments - Third-Party Loan Slide 27

28. Section 108 Examples

29. Local food products business founded in 2006 Existing 18,000 sq. ft. facility seeking to expand. Experienced business owner Total project cost is $2.6 mil, Section 108 request is for $469,000 Sources of funds : bank loan, SBA loan and owner equity(cash). Example: Business Deal Slide 29

30. Uses of funds: – purchase a 25,000 sq. ft. building – purchase additional equipment – Working Capital Benefit: Job creation ( 25 FTE) in LM area Underwriting process is two-fold: Program requirements Financial Example: Business deal continued Slide 30

31. Eligible Activity: Special Economic Development 24 CFR 570.203/570.703(i)(1) Nat. Objective: Benefit to LM persons through job creation 24 CFR 570.208(a)4(i) and (v) Public Benefit : Applicable per 24 CFR 570.209(b) # jobs created & retained < $50k in CDBG $$(incl. 108) per job [ $469,000/25 = $18,760 per job] Example Business Deal Program Underwriting Slide 31

32. Real EstateBusiness IncomeSales - Expenses - Cost of Sales + G&A (no depreciation or interest) = Net Operating Income= Earnings b/f Taxes, Depr., interestMinus Debt = Cash Flow= Cash Flow Minus Income Taxes Cash Flow Slide 32

33. Profit and Loss(P&L) statement Analysis: – Trend is gradual growth (increase in sales) – Trend is stable cost of goods(COGS) compared to sales Cash Flow Analysis: – Sales – (Cost of Sales + G&A)=Earnings b/f Taxes, Depr., int. – cash flow available for debt service / total debt service (incl. 108) – Desire at least 1.2 for 108 deals Example Business Deal Financial Underwriting Slide 33

34. Balance Sheet Analysis : – positive & increasing working capital[current assets(CA)- current liabilities(CL)] – Stable Current ratio [CA\CL] – Good cash mgmt( receivable and payable ratios averaged less than 40 days) All other funds are committed – Commitment letter from bank and net worth statement of owner were submitted with application. Financial Underwriting contd. Slide 34

35. Program requirements are met Finance: Costs are reasonable compared to similar businesses Other Financing is firmly committed incl private financing Project seems financial feasible Owner is not unduly enriched Pro-rata timing of disbursement Project is recommended for funding Business Deal Underwriting Conclusion Slide 35

36. Example: Mixed-Use Real Estate Deal Slide 36

37. – Eligibility of Activities Development of commercial/office/retail space, under 24 CFR 570.703(i)(1) and 570.203(b) Rehabilitation of housing, under 24 CFR 570.703(h) and 570.202(b)(1) – National Objective Elimination of slums or blight, pursuant to 24 CFR 570.208(b)(1) – Applicable Public Benefit Standards [570.209(b)] $3,500,000/140 FTEs= $25,000 per FTE Memphis, TN—Court Square Center: Programmatic Underwriting Slide 37

38. Real EstateBusiness IncomeSales - Expenses - Cost of Sales + G&A (no depreciation or interest) = Net Operating Income= Earnings b/f Taxes, Depr., interestMinus Debt = Cash Flow= Cash Flow Minus Income Taxes Cash Flow Slide 38

39. Cash Flow Memphis, TN—Court Square Center: Financial Underwriting Slide 39 Operating Income $2,107,000 Operating expenses - $343,000 Other Project Expenses $559,000 Net Operating Income (NOI)= $1,205,000 Annual Debt Payment= $916,800 NOI ÷ ADP = Debt Coverage Ratio (DCR) of 1.31

40. Collateral – Partnership Interests – Lien on Real Property Loan to Value = less than 80% Memphis, TN—Court Square Center: Financial Underwriting Slide 40

41. Section 108 Application & Approval Steps

42. Consult with HUD Field Office Draft application and publish for citizen review and comment Prepare final application, with citizen comments considered Application Pre-submission Requirements (24 CFR 570.704(a)) Slide 42

43. 1.Project Description 2.Eligible Activity(ies) 3.National Objective 4.Public Benefit Standard 5.Sources and Uses 6.Project Structure and Participants Final Application Components Slide 43

44. HUD approval of application for Section 108 loan guarantee commitment is approximately 90 days. It depends on a number of factors: – Quality of the application and whether additional documentation is required – Complexity of project – Time of year (near holidays, budget hearings, and local processes) Timing Slide 44

45. Promissory Notes - Variable/Fixed interest rate notes issued by states or units of local gov’t.s Loan Guarantee - HUD issues loan guarantee for each note pledging full faith and credit of U. S. for repayment of each note Section108 Loan Guarantee Slide 45

46. Paul Webster – Director, Financial Management Division (FMD) – 202-708-1871 Hugh Allen – Deputy Director, FMD, 202-402- 4654 Contact Information Slide 46