The Capital Stack Overview
Every real estate development is capitalized through a "stack" of debt and equity. In small bay industrial development, the typical stack has two layers: a construction loan (debt) and equity from the developer and investors. Understanding how each piece works is essential for anyone thinking about developing or investing in this product type.
Typical Small Bay Capital Stack
Construction Loans
A construction loan is short-term debt used to fund the development process, from breaking ground through lease-up and stabilization. Key characteristics of construction loans:
Loan-to-Cost (LTC)
Lenders typically advance a percentage of total project cost, not total project value. In small bay industrial development, most community banks and regional lenders will advance 65 to 75%; our current construction loan is sized at exactly 75% loan-to-cost of verified project cost. The remaining percentage must come from developer and investor equity. LTC requirements vary by lender, market, and borrower track record.
Recourse
Construction loans for small bay industrial, particularly for smaller developers without institutional relationships, are almost always full personal recourse to the developer. This means the loan is backed by the developer's personal guarantee, not just the project's assets. Lenders take on significant risk during construction (when there is no income and significant money is at stake), and they require recourse as the price of access.
As a developer builds a track record with a lender and demonstrates consistent project delivery, limited recourse or non-recourse structures may become available. First-time or early-track-record developers should plan for full recourse on construction financing.
Interest Rate and Term
Construction loans are typically floating-rate instruments tied to the Prime Rate or SOFR plus a spread. The term covers the construction period plus a stabilization runway, typically 18–24 months total. Interest is typically interest-only during the construction and lease-up period and is funded from the loan proceeds (not paid out of pocket by the developer during construction).
Lender Appetite for Small Bay
Community banks and regional banks are the primary lenders for small bay industrial development. National banks generally don't lend on projects of this size, and credit unions have regulatory limits that often restrict commercial real estate exposure. The best relationships are typically with banks that are active in the local market and understand the industrial submarket.
What makes a lender comfortable: experienced developer, credible project cost (backed by contractor bids), realistic rent assumptions (backed by broker market surveys), and adequate equity in the deal. First-time developers will face more scrutiny and may need to bring additional collateral or accept tighter terms.
Permanent Financing and Takeout
A construction loan must eventually be replaced, or "taken out", by permanent long-term debt once the project is stabilized. The permanent loan is based on stabilized property value (which is based on stabilized NOI and market cap rates), not project cost. This is a critical transition: if the project performs well, the permanent loan can refinance the construction loan and potentially return equity to investors. If performance is below underwriting, the takeout may come up short.
Permanent Loan Characteristics
- Loan-to-Value (LTV): Permanent lenders advance a percentage of stabilized value. Typical LTV for small bay industrial is 65 to 75%, though in practice the debt service coverage requirement, not LTV, is usually the binding constraint. Our current permanent loan sizing is capped by its 1.20x DSCR covenant, not the 75% LTV limit.
- Debt Service Coverage Ratio (DSCR): Lenders require that property NOI cover the proposed debt service by a required multiple, typically 1.20–1.35x. If the NOI doesn't support adequate coverage, the lender will reduce the loan amount. DSCR constraints often determine loan sizing more than LTV.
- Fixed vs. floating rate: Permanent industrial loans are often fixed for 5–10 years, then adjustable. Locking in rate certainty is valuable in volatile rate environments.
- Amortization: Small bay industrial permanent loans typically amortize over 20–25 years, with a balloon payment at the end of the term.
Equity Structure
The equity portion of a small bay deal comes from two sources: the developer and outside investors. How equity is structured between these parties determines each party's risk, return, and control.
Developer Equity
Developers typically contribute a meaningful portion of equity as evidence of their commitment and alignment with investor interests. The developer's equity may include cash, land value (if they own the site), or in-kind contributions (sweat equity for pre-development work). Developer skin-in-the-game matters to lenders and investors alike.
Investor Equity
Outside investors fill the equity gap between the developer's contribution and the total equity required. Investors receive a preferred return, a priority rate of return on their invested capital before the developer participates in profits. Above the preferred return, the developer earns a "promote", a larger-than-proportional share of remaining profits.
Dymaxion structures terms deal by deal and publishes the full waterfall, preferred return, and promote in each offering's data room. Typical investor checks run $150,000 to $500,000, and the sponsor co-invests alongside investors in every project.
What Lenders Want to See
Getting a construction loan approved requires more than just asking. Lenders evaluate several factors systematically:
- Developer track record: Have you built and delivered similar projects on budget and on schedule? First-time developers are fundable but face more scrutiny and may need more collateral.
- Market analysis: A credible analysis of local market conditions, vacancy rates, asking rents, recent comparable leases, that supports the rent assumptions in the pro forma.
- Contractor relationships: A signed construction contract (or at minimum, competitive bids) from a licensed, experienced contractor. Unpriced construction is the most common loan application weakness.
- Equity commitment: Evidence that the equity is actually committed, not just a letter of intent from investors, but a funded equity commitment or deposit. Some lenders require equity to be injected before loan funds are advanced.
- Site control: Proof of site ownership or a recorded purchase contract. Lenders won't commit to a loan on a site you don't control.
- Environmental and title clearance: Phase I environmental assessment and clean title are non-negotiable for any institutional lender.