FlexCAP

Report: Catalytic First-Loss Capital

Via FlexCAP, Habitat for Humanity International’s (HFHI) goal was to build more homes for low-income families by attracting commercial sources of capital.

Provider

Habitat for Humanity International (HFHI) and Habitat for Humanity affiliates in the U.S. HFHI is the parent organization to the affiliates.

Recipients

Various investors, including banks, insurance companies, foundations, and state housing agencies.

Amount and Instrument

The amount varies by transaction and declines over time. The first-loss amount incorporates two elements: the equivalent of one-quarter of principal and interest on the investor notes held in cash reserve (provided by Habitat for Humanity affiliate borrowers) and a guarantee equal to 5 percent of the outstanding balance on investor notes (provided by HFHI).

Structure and Terms

Affiliates make housing loans to eligible individuals, typically 20-30 year loans at zero percent interest. The FlexCAP program creates a secondary market for these mortgages, enabling affiliates to borrow against mortgages in their portfolios. Through FlexCAP, HFHI issues 7 or 10 year notes to investors, which are secured by a pledge of affiliate mortgages. The interest on FlexCAP notes is typically 3-4 percent. Affiliates select the 7 or 10 year loan term, and loans are sized based upon the discounted value of a 7 or 10 year payment stream from the pledged mortgages. Actual monthly payments from the pledged mortgages are used to make principal and interest payments on the investor notes.

Motivations

HFHI’s long-term goal is to provide low-cost capital to affiliates while maintaining a conservative structure that protects the interests of investors. The FlexCAP program enables affiliates to recover a portion of the mortgage cash-flow stream sooner and to then recycle these into more loans, thus accelerating home-building for low-income populations. For investors, FlexCAP provides access to steady, reliable cash flows, secured by many layers of protection. In addition to the guarantee and cash reserve (described above), investors are further protected by the fact that:

If a pledged mortgage becomes delinquent, the affiliate is required to substitute a performing mortgage of equal or greater value.
Affiliates may not pledge more than 60 percent of their performing mortgage portfolios, ensuring that it is not overleveraged and mortgages are available for substitution.
The loans are full recourse obligations of the affiliates, providing investors eventual access to the participating affiliates’ unencumbered assets in the event of a default.

Moreover, since the underlying mortgages are 20-30 years in length, while the notes have a 7-10 year horizon, the present value of the pledged mortgages is typically 200 percent or more of the FlexCAP loan principal at closing, and this ratio increases throughout the term of the investment. Last, but not least, investing banks are able to benefit from Community Reinvestment Act credits. Negotiations HFHI markets FlexCAP offerings to its 1,500 U.S. affiliates that then apply for a loan. HFHI conducts financial due diligence on the affiliate applicants and performs a legal review of every mortgage pledged as collateral. The affiliate notes, together with the underlying mortgage collateral, are pledged by HFHI to investors through an indenture structure. Wells Fargo acts as indenture trustee for the transactions and holds all collateral and administers all loan payments at both the affiliate-HFHI and HFHI-investor levels. The use of standard legal documents minimizes investor transaction costs for note closings.

Negotiations

HFHI markets FlexCAP offerings to its 1,500 U.S. affiliates that then apply for a loan. HFHI conducts financial due diligence on the affiliate applicants and performs a legal review of every mortgage pledged as collateral. The affiliate notes, together with the underlying mortgage collateral, are pledged by HFHI to investors through an indenture structure. Wells Fargo acts as indenture trustee for the transactions and holds all collateral and administers all loan payments at both the affiliate-HFHI and HFHI-investor levels. The use of standard legal documents minimizes investor transaction costs for note closings.

Highlights

INVESTEE DETAILS
Fund Manager	Habitat for Humanity International
Inception Year	1997
Geographic Focus	Throughout the U.S.
Term	Open-ended
Impact Focus	Accelerate home ownership for low-income and underprivileged families
AUM	USD 41 million
Fund Capitalization	Debenture notes
Investment Period	7 or 10 years
Investment Size	Varies
Target Return	3.5% on 7-year loans; 4.25% on 10-year loans
Track Record	A total of 271 Habitat for Humanity affiliates have participated in the FlexCAP program, with 21 investors investing more than usd 141 million since inception. Of the total note issuance, approximately usd 41 million is outstanding and usd 100 million has been repaid. There has been a 100 percent repayment record and zero delinquencies at the investor note level.
INVESTMENT APPROACH
Investment Instruments	Mortgage Loans
Investment Period	20-30 years
Investment Size	Varies
Track Record	Funding for over 4,000 new homes has been enabled.

Catalytic First-Loss Capital details the motivations, benefits, considerations and suitable scenarios behind the use of catalytic first-loss capital in impact investing transactions. Catalytic first-loss capital refers to socially- and environmentally-driven credit enhancement provided by an investor or grant-maker who agrees to bear first losses in an investment in order to catalyze the participation of co-investors that otherwise would not have entered the deal. Catalytic first-loss capital has gained recent prominence in impact investing dialogue as more investors look to enter the market.

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