The Refinancing Gap on a Partially Leased Office
A sponsor owns a 1990s suburban office building with 120,000 sq ft NRA. In-place rents average $24/sq ft on 78,000 sq ft leased; the remaining 42,000 sq ft has been vacant for 14 months. Operating expenses run $9.50/sq ft on total area, and the building generates NOI of about $1.13M. A $14.0M loan matures in six months at 6.1% interest-only. The sponsor's refinance quotes come in at 7.4%, 25-year amortization, max 65% LTV, and a 1.30x DSCR minimum. The appraiser's stabilized value assumes 92% occupancy and a 7.75% cap rate; the lender will underwrite to the lower of appraised value and a 7.25% cap on in-place NOI. The sponsor also holds $1.1M of cash reserves and a personal guarantee exposure of $2.5M on the existing loan.
1. Quantify the refinancing shortfall and identify which constraint (LTV, DSCR, or value) actually binds.
Read the worked answer
Compute each constraint separately.
Debt-service test: annual payment factor on 7.4%, 25-yr amortization is roughly 0.0881 per dollar of loan. With a 1.30x DSCR on $1.13M NOI, maximum annual debt service = $1.13M / 1.30 = $869k, so max loan = $869k / 0.0881 ≈ $9.86M.
LTV test (in-place value): $1.13M / 7.25% = $15.59M; 65% = $10.13M.
LTV test (stabilized appraisal): stabilized NOI would be larger, but the lender takes the lower of the two, so the in-place cap value governs.
So the binding constraint is DSCR at ~$9.86M, not LTV. Against a $14.0M payoff that is a ~$4.1M shortfall - far more than the $1.1M of reserves. The sponsor cannot close on these terms; the deal requires either a paydown/recap, a lease-up that raises NOI, or a lender willing to waive DSCR for a period. Note the guarantee: defaulting exposes the $2.5M recourse, so walking away is not free.
2. The sponsor proposes funding the gap by leasing the vacant 42,000 sq ft at $19/sq ft (below market) with 12 months free rent. Evaluate whether this actually solves the refinancing problem within six months.
Read the worked answer
Test the timing and the math.
Timing: free rent plus TI/LC means no cash NOI from those suites for at least a year, and the refinance is in six months. Even signed leases won't be in underwritten NOI at closing unless the lender credits contractual rent - many will not credit rent not yet commenced. So the lease-up does not close the gap in the window.
Math: 42,000 sq ft at $19 = $798k gross potential, but after free rent the near-term cash contribution is roughly zero, and TI/LC (say $30-50/sq ft) is a cash outflow of $1.3M-$2.1M - more than the reserves. So the low-rent strategy consumes cash precisely when liquidity is tightest.
Conclusion: the proposal is directionally right for long-term value but does not solve a six-month refinancing. The realistic paths are a negotiated extension with a paydown from new equity, or a discounted payoff/recap. The sponsor should also stress that below-market leases depress the very NOI the lender capitalizes.
3. The lender offers a one-year extension if the sponsor pays down $2.0M and buys a rate cap. Should the sponsor take it? Frame the decision.
Read the worked answer
A paydown of $2.0M plus a rate cap moves the loan to ~$12.0M, still well above the ~$9.86M DSCR capacity - so the extension buys time but does not cure the test. The decision hinges on:
- Cost of the extension vs. cost of recapitalization. A rate cap on a $12M notional at today's vol is a real cash cost; combined with $2.0M paydown it may exhaust reserves, leaving nothing for TI/LC to lease space - which is the only path to higher NOI.
- Recourse. The $2.5M guarantee means a default is a personal balance-sheet event, tilting toward extension even at high cost.
- Option value of lease-up. If the market can absorb the 42,000 sq ft within 12-18 months at market rents, NOI could rise enough to clear DSCR at the next maturity.
Recommended framing: take the extension only if reserves after paydown and cap purchase still fund TI/LC, and pair it with a concrete leasing plan. Otherwise negotiate a discounted payoff or bring in a preferred equity partner - do not spend the last of the liquidity on the extension alone.