9 Questions you should ask a Real Estate Syndicator before investing
The sponsor team is vitally important to the success of a real estate syndication deal. As a smart investor you should make sure you grasp the precise investment opportunity, the sponsor’s team and their track record, and also their strategy and approach. Before investing with a commercial real estate syndication sponsor, ask these nine crucial questions:
- What is your teams track record?
Conducted a deep dive into the General Principals (GP’s), their advisory team, their capital partners, and others who co-led the investment. See what past businesses or ventures they have been a part of. Do they succeed in business and in real estate? This is much easier now with the internet, and especially Linkedin. You can see what educational background the sponsors have, what businesses they have been a part of or have led in. You can search their names and see if there have been any large legal cases or litigation you should know about. Most great GPs will have lots of articles they have written, or educational pieces they have created, lots do podcasts or seminars; check all of these out. Make sure the sponsorship team has depth. I’m usually wary of investment sponsors with just two people. I want to see a solid team to include: underwriting and analysis experts, property management experts, construction management experts, finance experts, and legal experts. I wanted to make sure they had a diverse team with a great track record of success in real estate investing. If the sponsorship team has the past deal experience it is great to look at what those deals have done and to see the track record of success.
- Do you as the sponsor invest in your own deals?
The answer is often yes. Sponsors typically invest along with their LP’s (limited partners) on their own deals to align the incentives. Sponsor teams will often bring in between 5-20% of the capital needed to back the syndication or the fund. The earnest money deposit usually comes solely from the sponsor; this money is also called “Hard Money” or Risk Money. This money is the earnest money delivered to the seller that is non-refundable should the buyers pull out of the deal for anything not specified in the contract. The rest of the capital is raised from limited partners or experienced capital partners in their network.
- What is the strategy and how long will my capital be invested?
Early on I heard everyone on Bigger Pockets talk about refinancing and getting their cash back, while this is possible, I learned that it becomes less common the frothier a market gets. If it makes sense, it will happen, if not it won’t but there still benefit to a longer hold. The GP has a goal of first meeting the investing returns as projected. Then if they can get additional returns that is always a huge bonus. A refinance is extra sweet because you can get your initial capital returned, still earn cash flow, and deploy that capital into another deal!
- What if you can not return the projected cash flow?
The general partners’ predicted returns should, in theory, surpass the preferred return offered. In that manner, even if the expected returns aren’t met, the full preferred return is distributed. If the actual returns are lower than the preferred return, the process will be the one agreed upon in the private placement memorandum (PPM). In most cases, the preferred return will accrue until it may be paid out of the profits of the sale.
- How does the sponsor get paid? What are common fees?
Everyone hates the word “fees”, but the good thing is all fees are independent of return projections. This actually means that the fees have zero impact on the return that you will make as an LP in the real estate syndication deal. You never have to pay these fees out of pocket, nor is it taken from your capital. Fees are already projected into the returns that you are given and are paid from the asset. If you would like to read more about fees you can learn more here.
- How often can I expect cash flow checks (to get paid)?
Distributions defer depending on the asset, and the team. Some assets will take a LOT of work to get up to profitable. The sponsorship team should be very transparent about this process in their webinar, conversations with you, and in the PPM. Some projects may take 6-18 months to stabilize, other projects may be able to cash flow year one. Most people prefer monthly distributions, but I have had some GP’s who do quarterly distributions. I have yet to meet a GP who does yearly distributions. But you can expect to receive any additional profit above the preferred return at the end of each year if there is any.
- What is the minimum investment required?
The majority of general partners (GPs) have a minimum investment. You will often see $50-100k minimums. Also, don’t hesitate to ask if you see a $100k minimum and you only have 50k to allocate to the deal. Sometimes GPs will let an investor in below the minimum in order to get the relationship started. The typical max amount a GP will allow an LP to invest is 19%. Any more than 19% and the passive investor is underwritten by the lender, and most GPs do not want that to be the case as it causes more time, and uncertainty into the deal.
- What are projected returns?
Always ask the General Partners about the projected returns. There are 4 key projected metrics you always need to know before entering a deal. Preferred return, internal rate of return (IRR), Cash-on-cash (COC), and Equity Multiple. You will notice that most syndicators have returns that all look alike when projected. That is because most general partners aim and claim to do conservative underwriting. Learn more about projected returns in our earlier blog about KPI’s in real estate investing
- How often will communication and updates be shared?
This varies by the sponsor, but most GPs update their investors monthly or quarterly along with their distribution schedules. Many investors think monthly is too much to add to their busy schedules, so we have seen a trend towards quarterly updates. Many GPs will do email communication updates, video meetings, or webinars. I have noticed that when the GP is detail-oriented in their reporting I have nearly zero questions, especially if they are hitting their preferred return goals for me! Great communication leads to more trust.
There are countless questions you can ask beyond these 9 I have listed here. Some other questions are related to reporting, property management, how the capital is allocated, how are LPs qualified, the difference between 506(c) and a 506(b), and more.
These 9 questions will get you on a great start to learning more about the general partner and how they are structuring the deal.
I hope this was helpful! To learn more about investing in multifamily and to get access to future deals we are doing at Growth Vue, contact us and talk to our investor relations team.