2023 was a good year for Nectar and an excellent year for our investors.
Our team consistently put in the work, day after day. We made slow but steady progress toward our goals. We served our borrowers, increased the quality of our portfolio and our internal operations and infrastructure. It was not a banner year, but considering the condition of commercial real estate and capital markets in 2023, I am thrilled we had a good year.
For our investors, we continued our unbroken record of making every stated distribution. 12% for our fund investors and 15% for our note investors. Additionally, credit quality increased and performance remained strong. If you’d like more information on our investment offerings, let us know.
Before diving into learnings and themes from 2023, I wanted to reiterate what we actually do here at Nectar and why.
What We Invest In and Why
In many ways, Nectar is a culmination of my life story and work. I grew up in Southwest Atlanta. I started buying real estate from my dorm room at Harvard. After college, I worked at Goldman Sachs while continuing to grow my real estate portfolio. After three years, I had amassed 500 units. I decided to leave Goldman to move back to my hometown of Atlanta and increase the supply of affordable housing. Over the next decade, I bought, developed, rehabbed, and asset-managed over $450m of real estate.
Here’s what I learned, often painfully: as a real estate investor, your net worth is trapped in your assets. There aren’t great options to access liquidity, particularly for sub-institutional investors. Cash is like oxygen. You don’t notice it until it’s not there. Projects that are profitable on paper can fall apart if you don’t manage your cash flow correctly, or if you don’t have the right capital partners in place.
In 2021, Brittany and I launched Nectar to solve this problem. We provide small balance mezzanine debt and preferred equity to experienced real estate investors who own low leverage, cash flowing properties.
This approach produces, in my opinion, the single best risk-adjusted returns in the real estate space today. It is an opportunity that exists because most mezz lenders don’t want to do the work to underwrite deals smaller than $10m. We leverage machine learning technology to allow us to thoroughly underwrite deals as small as $100k and take advantage of this inefficiency in the capital markets.
Since 2021, we’ve built the foundation for a business that I believe will deploy billions of dollars.
What Do We Look For In an Investment
When thinking about where to deploy our capital, our approach is actually quite simple. We’re looking for a proven sponsor with sound real estate fundamentals. Here are a few basic questions we’re looking to answer in our process:
- Does the sponsor have a proven track record of successfully owning and operating real estate?
- Are the sponsors responsible with the use of debt?
- Do sponsors have a history of paying their bills on time?
- Is the market healthy and growing?
- Do the underlying assets produce enough cash flow to pay us and have plenty of margin left over?
- Are the assets in good physical condition?
This is all common sense. And by taking this approach, we unlock a new source of capital for the highest quality real estate operators. This gives our sponsors a secret weapon to invest in high ROI projects they otherwise couldn’t have, or it gives them the liquidity they need to weather a temporary storm.
2023 Highlights
Reflecting on our year, we can look back and see a few major themes and highlights.
Our credit quality took a step up.
As the markets tightened and capital became more scarce, we saw our opportunity to push toward higher quality credits. We landed clients with more proven track records, stronger metrics, and larger, more resilient portfolios. While most capital providers were pencils down, we both tightened our underwriting standards and deployed 2.5x more capital than the year before.
Please note: this is not to say that our credit quality was poor pre-2023. Many of our best clients came from deals we did in 2022. We’ve always held to rigorous underwriting standards, while constantly seeking to improve.
We had our first default.
A deal we did in 2022 stopped paying in May 2023. After many attempts to get in touch with no response, we filed suit. I cannot share too publicly while court proceedings are ongoing, but all things considered, the situation is going well and we expect a full recovery.
We never want a default, but in many ways, this has been an invaluable experience for our team. Our underwriting, servicing, and collections processes are all much stronger because of the learnings gained from this experience. Not to mention, our confidence in the security of our financings has increased dramatically. That confidence will be much higher when a check hits our bank account on some undetermined future date to tie a bow on this whole episode.
We built our broker channel.
In 2022, we started to build a channel of brokers and affiliates for deal flow. In 2023, we brought on team members to focus on this strategy, and it paid off. By Q4, we had stopped direct marketing and 80% of our deals came from third-party brokers. It helps that we built a product that truly meets a need in the market, one that brokers don’t have a tough time selling.
Going into 2024, we feel good about our ability to consistently originate, in large part because of the broker network we created in 2023.
2023 Metrics
- 57 new advances
- $12,494,010 deployed into new advances
- $219,193 average size of advance
- 56.7% average LTV
- 50.1 months average Term
- 2.47 average Cash Flow Coverage Ratio*
2024 Outlook
As we move ahead into 2024, here are a few things to look out for in 2024 in the broader market and for Nectar.
Distress in the commercial real estate space will continue. Nectar is built for these moments.
2023 was a tough year for commercial real estate, but we’re not out of the thick of it. There are still $2.81 Trillion in mortgages maturing between now and 2028. Property values are down. There may be some relief from interest rates ticking down, but not enough to bail out many over-leveraged property owners. It’s unclear how the market will shake out exactly, but it is clear that we are in a deleveraging cycle.
We’ve structured our financing terms at Nectar to specifically mitigate risks associated with this type of distress. More specifically:
- We never go past a mortgage maturity date. We’re fully paid out before the mortgage matures. We are never reliant on the sponsor to sell or refi in order to pay us off. Throughout the history of Nectar, our clients have repeatedly asked us to offer terms that go past their mortgage maturity date. But we’ve always stuck to our guns on this issue, and it’s clear that was the right move.
- We leave plenty of equity cushion behind us. Our portfolio average LTV is 56%. That means even if property values see a steep decline, there’s still equity behind us to make us whole.
- Our principal is paid out of existing cash flow. This means that even if the market falls and rents stagnate, we will still be paid.
The bottom line: we’ve created a financial product that does not require the real estate capital markets to function properly at any given time. As long as our sponsors, with proven track records, perform reasonably close to historic levels, our investments will turn out well.
We plan to continue raising into our fund, and also offer more direct Co-Investment options.
Our fund offers a lower risk option that’s great for truly passive investing. You put money in as a preferred member, and you get paid first every quarter. These funds can withstand between a 15-20% default rate (slight variation is due to terms we offer to the sponsors).
One way we’ve found to maximize our capital efficiency and diversify our fund portfolio: Co-Investments. Co-Investors can buy up to 90% of a deal off of our balance sheet. For the increased risk that comes with higher concentration, they earn a higher return than we offer in the fund (generally mid-teens).
This allows us to reduce concentration in the fund without needing to raise significantly more capital. To use a simple example: If you invest $100k, we believe you are better off with $10k spread across 10 deals than $100k in one deal. That’s what Co-Investments allows us to do.
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Thank you for following along and being a part of our journey at Nectar. I’m excited for another year to serve our clients and our investors in 2024. Here’s to another prosperous year for everyone in the Nectar community.
Thank you,
Derrick Barker
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