[P1-DROP] MIP6 Risk Assessment: Alternative Equity Advisors DROP: US Agricultural Real Estate

Who from the SPV would initiate proceedings regarding the delinquency?

Could the DAO have one specific CU to which viable claims could be assigned and, if need be, that CU could be the entity that hits outside counsel and pursues litigation?

The management, which is Peoples Company affiliates.

If you are investing through securitization you can’t take the collateral because you are not alone. Having a real-world CU to do that would trigger control and/or tax issues. But there are plans to have a similar legal entity that would own a little bit of DROP so as to enforce our rights if needed.

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Given the different character of farmland vs short term trade receivables that are the other DROP deals in front of us, does the DROP subscription agreement for P1 differ from the standard DROP subscription agreement?

The standard DROP template provides for the Underlying Asset to be the payment obligations. I just want to confirm whether this particular one provides the farms or the farms’ cash flow as the collateral. The standard DROP template (Section 4.G.) also only refers to a security interest in the “payments actually received by the Issuer.” For P1, is this language altered to provide the farms in the place of the stream of payments?

I know Centrifuge was built more for baskets of receivables, so wanted to clarify how the rights of DROP token holders are different in this case, and confirm the documentation states that the farms themselves are collateral for the financing. I don’t have access to the documentation for P1 (or even know if it’s been finalized), or else I’d look myself.

In general, I would be pretty excited to loan against farmland on these terms. But I do want to confirm whether P1 DROP tokens are backed by the real estate asset of farmland or the financial asset of farmland revenues and sales proceeds.

The management, which is Peoples Company affiliates

But isn’t that different than how @spin has previously explained the SPV with “the DAO will push holders to initiate securities lawsuits”? What you say here seems inconsistent with Lucas’s past positioning.

I presume the RWA team is working on these plans? If so, I think it would behoove you all to put before the community plans for this legal entity as soon as possible. In the hopes of transparency, if the DAO is taking on (considerable) risk with Centrifuge’s RWA approach we should understand how our committee proposes diminishing that enforcement risk. Also, and as an aside, I would suggest that the RWA committee add a structured finance lawyer if possible – it strikes me as a necessary slot to fill and at least that person (or persons) would be more comfortable with the enforcement mechanism needed – securities litigation – that a team of laypersons.

Sorry I was speaking about the delinquency of the farm renters. If the asset manager is doing fraudulent activities, it would be the jobs of either the Independent director (which in this case is set from the beginning even without waiting for our legal advisors to know if this is the good path) or TIN/DROP holders.

We are working on that, it’s a side effect of this post. I hope to have it done this summer.

I would remind you that some tokens we have as collateral are managed by a multisig. Being fraudulent in the real world in a US jurisdiction for established businesses is less likely than being fraudulent in DeFi. Therefore I would challenge the “considerable risk” wording.

Thanks. I look forward to seeing the RWA Committee’s post on an entity to shoulder potential legal action on behalf of the DAO. And yes, I am very aware that some collateral tokens are managed by multi-sigs. However, I would remind you that the risks of Centrifuge’s RWA model (as I highlighted here here and here, among other places) go far beyond one isolated issue. And, FWIW, their lawyers from Manatt never produced any work product for us to review, as I requested months ago. Oh well, c’est la vie.

The SPV is contemplated to hold fee simple title to the farm properties. These properties will be unencumbered and locked into the centrifuge system as NFTs that will require the payment of all farm proceeds (net rents) and net sale proceeds (if sold) to go to Centrifuge to pay first the Drop and then pour over additional proceeds to TIN tranche.

In this way it is like an assignment of rents in a commercial transaction, but it is payment dependent on rents and sale proceeds. This is different than the properties serving directly as collateral. The recourse would be different.

The recourse would not be foreclosure. The recourse would be through requesting paydowns, or more collateral, and/or freezing the draw features of the facility.

In case of neglect or malfeasance then the recourse would be though the MKR appointed director. Basically having the SPV taken over, hire new farm managers, etc. The independent director would/could manage the SPV winddown, continue to collect rent, pay the DROP fee, etc.

An important difference in farmground versus tokens, is that they generate a positive yield. They will yield something which would allow patience as the DROP currently 2% would continue to get the proceeds from the farms. So it would take a major wreck to drive the farm yields under the 2% coupon necessary to keep current. Overall much stabler asset class with “guaranteed” positive yields, but more illiquid and may require longer investment horizon.

Thank you so much for this.

Do you know if there has been a legal review of these documents by someone representing the DAO or some part of the DAO? It may be outside your purview, but I’d be much obliged if you could point me to who has done such a review with a lawyer’s eye.

To emphasize my view following the conversation above:

  1. This deal should be pursued.
  2. It should be made a requirement that as to each parcel purchased a filing is made in the local land records evidencing the financing contract the land is subject to. Recorders in both Iowa and Nebraska are familiar with a similar document - land contracts. This won’t be a lien, but will affect marketable title and prevent any sale being completed without the SPV signing off on it and having the opportunity to make sure the contractual obligation to lender is satisfied.
  3. There doesn’t need to be and shouldn’t be such a long-term hold off on liquidation. Midwest farmland is regularly sold at auction (usually online), marketed for perhaps 30-60 days, 1% commission or slightly more. If a lease is presently on it it is sold subject to the present lease and that will barely affect price if the lease is for just that year. It does not have to be marketed like commercial or residential property. The potential borrower is pulling someone’s chain if they are saying an auction sale upon default will upset the apple cart and bring pennies of what it could if you would just let it stay in default and sell it years down the road on its terms.
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Thanks for the comments. I agree on point 2) as well.

For point 3) I think this facility is setup to trust the manager of the SPV to manage the farm properties leases and sales unless they give good reason not to and they are removed from their capacity to run and manage the SPV’s assets. The recourse as to “liquidation” is more closely aligned (in my opinion) to that which would be necessary to provide “notice of default”, “cure period”, begin a judicial foreclosure, etc. Even in states that allow contract for deed, there are protections in place and due process concerns that need to be addressed. The orderly liquidation would result in the DROP being retired as farms are being sold, and as rents are being collected during the marketing period.

The period for marketing is meant to follow an appropriate marketing time that would shape a third party appraiser’s definition of “market value” of the appraised assets. For agricultural farm properties the marketing assumption is often 6 months to a year. This period would allay concerns of having to capture the liquidation or firesale value. It should be noted that farm properties are often very liquid as they are currently. The nature of the SPV is that it may have 10-20 farm properties that would need to be liquidated, and these could cover multiple states. It seems prudent to give Alternative Equity Advisors, the time it says it needs to successfully liquidate the farms and payback the DROP rather than force some arbitrary short term marketing deadline to “get out”. The risk, is mitigated in the meantime of the liquidation period as the assets would continue to generate rent and the cash would be available to pay the DROP accruals.

The trust assumption is that AEA has skin in the game and will work to maximize its return to ensure that it receives back its equity and investment in TIN. The appraised value of the farms is relevant as it basically behaves similar to a nonmonetary covenant, that if it drops below the appropriate ratio, then AEA through the SPV would need to cure the ratio or else the possibility of the MKRDAO put option being called which would start the liquidation process. Though unlike a traditional mortgage transaction the real property does not serve as collateral, there is no foreclosure, and the repayment comes through the rents and sale proceeds of the collateral. All of this is a long way of saying that giving all parties involved time to market these real world assets, is likely the best solution for all parties as it gives everyone time and the patience to work through repayment. Though it should be obvious (I will say it anyway) that in case of “fraud” or malfeasance, then the expedited procedure is for the SPV independent director to assume control of the management of the properties, to step into the shoes of AEA and to market and manage the properties after removing the “bad actor”. Having the contemplated marketing and liquidation period, would also give time for the MKR appointed independent director to properly conduct his/her business to maximize the proceeds and repayment from the facility.

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This is such an obvious no, given all of the trust required, all of the uncertainty around whether there even is any recourse and how that recourse works if the trusted actors turn out to not be trustworthy and take actions to embezzle the funds (or just turn out to be incredibly negligent), and the very high debt ceiling right off the bat.

And we are supposed to take on all of these risks for 2% ROI?

There’s no way anyone thinks this is actually positive EV. We need to learn to pass on bad deals, because if we don’t then we will soon be flooded with deals like this.

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Not sure about that brother – yesterday the Oracles Core Unit showed us this Slide:
image

RWAs are about to make it Raiiin!! :money_mouth_face:

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Overall, just want to lay out the deal and its risks for the DAO to make its decision. I feel that much of the reticence is about the trust assumptions that are inherent in secured financings necessary to bring RWA to the MKR system.

As for whether 2% is a fair ROI, I would argue that the cap rate, or the rate that investors of farmland expect is around 2-2.5%. Also, most lenders will lend at a spread over their cost of capital (often priced against LIBOR or Treasuries in the 220-240 range.) Though for prime credits, I have seen this spread compress to as low as 150 over Treasuries.

It quickly gets into monetary theory of the MKR/DAI system itself. To me, it is a question on whether 2% over the MKR cost of zero? If so, then 200 over seems to be at least comparable to the credit spreads the market is requiring.

It is an inherent risk as well, that the higher the interest rate, in of itself is reflexive, toward defaults. In other words, I would rather have a 2% loan that the credit can pay, than a 5% loan that it can’t. The fact that the DROP coupon is low (but still reasonably market) would increase the ability of the farms to service the debt.

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Well and its 2% plus some of the gain on land sales, right?

I believe the upside is capped to that of the Stability Fee/DROP target returns. All excess flows to the TIN tranche

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Thanks. I should fine tune my (3) comment, I’m probably closer in actuality to what is currently proposed. If the default is that a particular property pledged is in default because a renter has defaulted but as a whole payments are being made to timely and fully satisfy obligations to DROP holders, I have no problem with what I understand is the proposal which is continued management by AEA and no liquidation. My (3) comment is based upon a failure to pay DROP holders fully on time, in which case we should have the ability to liquidate relatively quickly - not in days or weeks but within a few months and not years – both for risk protection but also so that we can truly say the DAI minted is backed by the real estate – and liquidating in months is not “fire sale” terms for tillable ag real estate.

I have no problem with the 2% return for the reasons James states among others. I note that Midwest farm real estate has not had more than a 10% swing in value per YEAR since 2012, and that year was a swing up in value. Compare that to what Maker provides financing on currently.

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To be more precise: I think the 2% needs to be contemplated as a ratio against Surplus Buffer.

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