Conversation with WR Immigration
Due diligence and selection of EB-5 Projects
March 13, 2024
WR Immigration Partner Joey Barnett speaks with America EB-5 Visa, LLC's CEO Marko Issever
Topics discussed:
- EB-5 Process
- Other Immigration Considerations
- Investment/Financial Considerations
- Job Creation and Use Short-Term Bridge Financing
- Sustainment and Timing on Repayment
- Regional Center Due Diligence
- Fund Administration v. Annual Audits
Capital Stack:
The capital stack is the way each project chooses to fund itself. Typically, we have a senior debt, mezz debt, and equity. In traditional financing, the EB5 portion either refinances the mezz debt or is a new raise instead of the mezz debt. When we have many created excess jobs, we see additional EB5 replacing part of the senior debt and equity. Typically, we want to see no more than 60% senior debt, no more than 20% EB5, and at least 20% equity. While this is the average structure, we see transactions with significantly more equity or EB5. We evaluate each deal based on its own merits. We consider many factors, including but not limited to the interest rate environment, the project strength, etc. We will have more to talk about this when we dive into the due diligence methodology we use.
Top 3-5 characteristics:
Job creation:
How much of a buffer is there? How many have already created jobs are there? If not many, what is the likelihood that the project will not reach the required number of jobs? How likely is redeployment, considering the specified duration and extensions outlined in the PPM, if the project is already well-advanced in its process and the EB5 is merely being used to refinance high-cost debt? Is there any danger that USCIS might update its policy and decide not to give credit for the already created jobs with refinanced funds? In summary, we look at the pros and cons of these factors.
Capital payback:
We look at a few crucial ratios. Security of capital investment is of utmost concern for everyone. No investor wants to lose their capital. They want to make sure that the transaction is well-capitalized. They want to ensure that once built, the appraisal report shows a created value significantly higher than the capital spent, providing an additional cushion for the EB5. The existence of a committed loan at a comfortable LTV used to be a huge plus. In the high-interest environment we are in, it has become less significant. If we have time later, we can go into what is different today than before. We mentioned that a typical EB5 financing structure is 60% Senior, 20% EB5, and another 20% developer equity. Less debt and more equity are always preferable. We have a few ratios we look at, which we published in our latest article, published by EB5 Investors Magazine. They are:
- a) equity as a percentage of total project cost,
- b) loans and EB5 together as a percentage of the forward appraisal value of the project, and, lastly,
- c) EB5 as a percentage of the project appraisal after senior loan repayment.
Speed of adjudication:
There are projects in the market that offer expedited processing. While these promise speedy adjudication, investors should be careful to ensure they do not come with undue risk. Again, a broker-dealer can be very helpful in highlighting any hidden above-normal risks, if any, in these projects. RIA mandates USCIS to devise a methodology for speedy processing of rural projects. Although USCIS has not announced any official statement on this issue, their actions show they are processing rural projects much faster: in less than a year.
Return on investment: This consideration used to be a distant fourth, but with high-interest rates, it has become an important consideration. On a risk-adjusted basis, projects offering higher yields would be preferable.
Sustainment period:
The recent redefinition of the sustainment period will make this a critical criterion when selecting a project. The 2-year at-risk period will start once the JCE starts usage of capital. Whether this policy update and clarification will have any practical impact will depend on the investment terms stated in the PPM. We believe that most strong and established project owners, regional centers, and their developer clients will insist on a minimum five-year term for the EB-5 investment with possible extension rights because large-scale construction projects require longer than 2-3 years periods and the longer investment terms stated in the PPM will rule. While cash-strapped risky projects might offer tenors that match the new guidelines, most conservative investors should stay clear from such projects not to assume undue capital repayment risk.
Regional Center v. EB-5 Project Developer reputation and track record:
Although there is no question that track record and reputation are important, many investors use these criteria as sufficient statistics, and that is where they err. The reputation and track record of the regional center most often is a necessary but not sufficient statistic. The reason is simple. The developer controlling the JCE is deploying capital. As such, their repayment ability, the location, and the nature of their project and undertaking will dictate whether the project will succeed in achieving their stated goals. In addition, as an extra measure, the reputation and track record of the RC can be used to assume that they will negotiate strong covenants with the developer to protect themselves. It is ok for investors to trust household name RCs, but they better verify the facts. We know several projects underwritten by large and reputable RCs that went bust.
Explain what a capital stack for an EB-5 project is:
Capital stack is what the projects use to fund the project. Typically, it will consist of a senior loan, mezz loan, or preferred equity and common stock, referred to as equity. Most projects we see in the marketplace today have begun construction before the EB5 raise. EB5 raise follows some or all equity spend or some mezz debt spend. There are also self-funding deals with only equity and EB5, where the developer purchases the land with their equity and starts building with EB5. As they construct and finish units, they sell them to create additional funding for additional construction. Due to the relatively expensive senior loan market, we see less of it raised. Projects are opting for the EB5 & equity combination.
Prospective investors are getting more sophisticated and ask good questions about the benefits of being a senior lender v. being in a senior position. What are your thoughts?
I am glad that you asked this question. I used to be very religious about requiring senior debt in our deals. We took comfort from a deep pocket checking out the transaction. Now that you can finance on an all-in basis with EB5 cheaper than with senior debt at a double-digit interest rate, I am no longer concluding that senior position transactions have gotten there because nobody wants to lend to those projects. We now prefer a senior position EB5 deal to a deal with a senior lender. The interest expense savings are dwarfing today senior lender benefits if the developer has significant skin in the game with a large equity investment behind the EB5 and the project characteristics otherwise check.
What are your thoughts about an RC being the developer and the NCE manager?
There is a trade-off. With RC, NCE, and JCE affiliation, accountability increases, and the project is controlled better. On the other hand, if there is a hiccup with the project, going to the NCE and asking them to sue their sister JCE company could be challenging. But again, these points are very relative. When the RC and the NCE are sister companies, it is harder for the two entities to blame each other if there is a problem, resulting in increased accountability and better visibility into the project development. The independent RC / JCE model has its advantages, as well. Typically, the debt terms will be better in that model. The RC will not allow dilution of the EB-5 collateral. After senior loan repayment, they will not allow additional indebtedness, diluting the collateral available for the return of EB-5 capital.
When can you get your EB-5 investment funds back?
This topic has become very hot with the new USCIS guidance of 2-year usage of the EB-5 capital by the JCE. The reality of the situation is the PPM will dictate the actual term of the EB-5 investment. The NCE will have the right to hold the capital until the tenor plus any extension rights. That said, we are seeing competition among established project owners. They are sharpening their pencils, reaching consensus around a 5-year term that comes in many flavors: e.g., five years flat, 3+1+1 or 2+1+1+1.
What’s up with I-526 denial guarantees? Are they all the same?
No, they are not. There are many flavors. Many say if we have the funds available, we will pay. If not, we may or may not. Which kind of denial will trigger a capital repayment? Many only cover project-related denials. Others cover denials on an unconditional basis, including the source of funds-triggered denials. Since a majority of denials are sources of funds related, investors should carefully read the fine print of the denial guarantee language outlined in the private placement memorandum.
Responsiveness and duty of care, how important?
Extremely important. From the start to the acquisition of the 10-year permanent resident card, the EB-5 application is a lengthy process. Investors investing so much wealth deserve clarity on all fronts before moving forward. This obligation spans all the EB-5 service providers, including but not limited to RCs, Developers, immigration attorneys, broker-dealers, fund administrators, etc.