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Optimal financing commercial property of a Dutch housing association : a case study of housing association Mitros

Muilwijk, Arjen (2012) Optimal financing commercial property of a Dutch housing association : a case study of housing association Mitros.

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Abstract:In January 2011, new regulations for housing associations were introduced in the Netherlands. These regulations include a more strict division between social and commercial activities for housing associations. According to the regulations, commercial property should be financed without State aid. Housing associations responded very negatively to the regulations, emphasising the importance of these activities for the liveability of neighbourhoods and claiming that it would be very difficult or even impossible to finance them without State aid. Commercial financing (without State aid) is a new topic for many Dutch housing associations. In this report, I analyse the optimal financing structure for commercial projects of one Dutch housing association, Mitros, given the specific characteristics of Mitros, its environment and the conditions demanded by lenders. I also study how determinants from corporate financing theories work out for this specific case. First I extract determinants of optimal financing from corporate financing literature on capital structure, debt maturity and variability of interest rates. I analyse these determinants for the Mitros case to see how they work out in this specific situation. I also add specific case determinants which are relevant for Mitros optimal financing structure. Then I will analyse different debt sources and discuss the specific conditions demanded by lenders in the Mitros case. Finally, I will translate the qualitative analysis into a WACC calculation for Mitros commercial projects, in order to calculate the optimal capital structure. Applying the optimal financing determinants in the Mitros case, the determinants predict low costs and risks of debt and equity for Mitros commercial projects. Case specific determinants were added to the model, of which supervision by an independent supervisor, which decreases both financial distress costs and information asymmetry costs, is the most important one. Furthermore, I found that long debt maturity and fixed interest rates best fit with the long life time of real estate and the fact that Mitros is a risk averse organisation. Banks are, not surprisingly, the most appropriate debt source for Mitros commercial projects. Estimated interest rates demanded by a sample of 5 banks vary between 0.75% and 2.2% above EURIBOR and maximum loan-to-value varies between 60% and 90%. Maximum debt maturity varies between 7 and 15 years. To find the optimal financial structure, an extended WACC formula has been formulated. At the debt costs side, I did not only look at the interest rate but also at transaction and maintenance costs of debt. Furthermore, the tax shield was discounted to compensate for the fact that Mitros is loss-making and will only benefit from the tax shield in the future. Costs of equity were calculated with the CAPM using a Dutch real estate industry beta. Applying the formula to a present-day example of a EUR 5 million project provides a WACC for the cheapest bank of 4.67 (average of all five banks: 5.05) and shows that the optimal capital structure maximises the amount of debt available. This report contributes to Mitros by giving advice on how to finance its commercial projects. It provides a clear in-depth analysis of the determinants of Mitros financing costs, risks and benefits and an extended WACC formula to calculate appropriate discount rates for its commercial projects. The findings may also be relevant for other Dutch housing associations, because there will be many similarities with them. This research contributes to literature by combining several corporate financing theories into one model. This model may be useful for analysing financing costs, risks and benefits of other companies. Also, this research identified the existence of an independent supervisor as an important determinant of financial distress and information asymmetry costs. This may also be true for other industries with such a supervisor. Finally, the traditional WACC formula was extended with transaction costs, maintenance costs and discounting of the tax shield.
Item Type:Essay (Master)
Faculty:BMS: Behavioural, Management and Social Sciences
Subject:85 business administration, organizational science
Programme:Business Administration MSc (60644)
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