Mezz or pref on the same $2.4m slice: the only page that changed was covenants

Spent a weekend building both versions of a $2.4m subordinate slice on a value-add multifamily recap, because the sponsor was genuinely indifferent and asked me which I'd rather have.

Mezz version: 12 percent, monthly pay, lien on the equity interests, intercreditor with the senior, standard cure rights. Pref version: 9 current, 4 accrued to a 13 target, minimum 1.25 multiple, membership interest at the parent, removal rights on two missed quarters.

On my cash flow model in the base case the two were within about 40 basis points of each other over a three year hold. In the downside case, property sells at a 7 percent haircut to underwriting, the pref actually came out ahead. The mezz version put me in a foreclosure on the pledged interests with a timeline I didn't control and a senior lender with standstill rights. The pref version had me stepping into control of the entity and running the sale myself. Messier on paper, faster in reality.

Where the real difference showed up was the sponsor's side. His senior loan documents restricted additional indebtedness at the borrower level, and his own investor reporting had a leverage figure his LPs watch. The mezz added to it. The pref didn't, or at least it presented differently. That's the whole reason he cared, and he hadn't said so until I asked why he was indifferent.

The assumption my whole comparison rests on is that the removal rights actually work in a fight. If the sponsor litigates, my clean three-month takeover becomes eighteen months and my downside case is wrong. I priced it as if it works. I don't know that it does.