Updated: Jan 9
As a passive investor, you probably receive many different investment offerings from syndicators. Going over the deals takes time and effort, especially since an average offering is 50 pages long. What if there was a way to review a deal and evaluate it in just 10-minutes time? There is, and I’m happy to share it with you. To make it easy, I’ve outlined several steps you can take to make the process go quickly.
First Things First: Invest with a Syndicator You Like and Trust
One of the best pieces of advice I provide to prospective investors is to only invest with a syndicator they like and trust. I’ve found that doing business only with people that I like, and more importantly trust, has been a golden rule for me, and it’s one that has proven itself over and over again.
Even if the deal presented is exceptional, you have to remember that you’re entering into a long-term working partnership with the syndicator and you have to be cautious as to whom you do business with. In this case, listening to your gut and letting your instincts guide you is the best course of action.
The question is, how do you determine if a syndicator is trustworthy? You can certainly tell if you like someone, or if their personality doesn’t mesh with yours. However, trust is a completely separate issue. The best course of action is to ask questions.
You can start by reviewing the syndicator’s past deals, and question whether they met the projections that had been established. Another key question to ask is have him or her talk about an investment that didn’t go as planned. The answers will be enlightening. If the answer is honest and an open discussion about what actually happened, rather than something he or she thinks you want to hear, then the syndicator is trustworthy.
This leads us into another question, which is what if the deal you’re considering doesn’t go as planned? Is there a “Plan B?” For example, suppose the deal you’re considering is a value-add plan, where there will be upgrades and renovations to the existing units in order to raise rents. What happens if you can’t raise rents? Was the deal written with the rent increase included? In my own value-add deals, I never underwrite with the exact premiums that I plan to receive. (A “premium” is the additional revenue you expect to receive after the upgrades are completed). I always use a lower number than what I anticipate I can get, because if the deal works with that number, it’s a good deal. In this case, ask the syndicator if he or she can show you the returns using lower premiums.
Step #1: Is the Deal Open to Accredited Investors Only?
There are two types of investors, accredited and non-accredited. Accredited investors meet certain requirements that relate to income, net worth, professional experience and other factors. This status is required by the SEC to ensure that investors are financially sophisticated and have a limited need for protection from investments that may be considered risky.
If you’re a sophisticated investor, you don’t want to waste your time going through the deal documents, only to find out it’s only offered to accredited investors.
To be considered accredited, an investor must have an annual income that exceeds $200,000, or $300,000 for joint income for the previous two years, with the expectation that the investor will meet the same or higher income in the current year. An individual can also be considered an accredited investor if they have a net worth exceeding $1million, excluding the primary residence, whether it’s individually or jointly with his or her spouse.
There is an advantage to being an accredited investor, as they have the opportunity to hear about more real estate deals than non-accredited investors. It enables individuals to take advantage of more lucrative real estate deals, which also helps to diversify their real estate portfolio.
If you’re not an accredited investor, make sure that the syndicator is accepting equity from non-accredited investors. Otherwise, you don’t need to waste your time evaluating a deal that you simply can’t participate in.
Step #2: Does the deal meet your investment criteria?
Before spending any time evaluating an investment opportunity, make sure you’ve established your own investment criteria. That way when a deal comes across, if it doesn’t meet your individual investment criteria, you don’t have to spend any time evaluating the deal.
My recommendation is that you have a precise investment criteria in these parameters:
1. Deal size
4. Risk Profile: Core/Core Plus/Value Add/Opportunistic
5. Hold Period
For example, what markets do you want to invest in? Are you willing to put your money in high-risk multifamily properties? Is there a minimum size deal that you prefer, or does the building have to be a certain age for you to participate? What is the minimum or maximum hold period you are comfortable with? These are just some examples of the criteria passive investors use, and you’ll want to have your own unique set.
Many syndicators, including myself, send a summary email to potential investors with various bullet point that highlight the investment opportunity, and it’s all the information that you’ll need to know whether or not you should proceed.
The bullets usually include the market, asset class, risk profile, returns and hold period. There are basically four different real estate investment strategies: Core, Core-Plus, Value-Add and Opportunistic. Each has a certain level of risk, and you need to feel comfortable with the risk level of each one.
Core properties are stable and low risk. Usually, they are Class A properties that require no or very little renovation, and generally have a low vacancy rate with long-term leases in place.
Core-Plus properties are also stable with steady income and low to moderate risk. They are somewhat between a Core property and a value-add one. While they provide steady cash flow, there may be some opportunity to increase the flow by improving the property.
Value-add properties have a tremendous potential for growth with moderate risk. These are the properties that I invest in. It may be a property that is showing its age or that requires maintenance and has outdated infrastructure, like a roof or HVAC system. It could also require updating the apartments with new flooring, appliances, and other materials. Once completed, it can lead to a rent increase and additional cash flow and appreciation.
An opportunistic property has the highest potential for growth, but is also the riskiest investment option of the four. Opportunistic properties have zero or negative cash flow. In addition, they may require extensive renovation and maintenance upgrades, which may be keeping tenants away. Your comfort level with risk will help to determine your investment criteria.
Now a few words about returns… as a passive investor, make sure you know what your target returns are, when it comes to both cash-on-cash and IRR. In today’s market, we see many deals that close at 7%-8% cash-on-cash and 14%-17% IRR. If you aim at 7% cash-on-cash and the deal pays only 6%, then you can disqualify the deal right there.
Step #3: What are the return drivers?
This is a critical step to pay close attention to. When going over the offering, skim through the numbers and see whether the returns are heavily based on appreciation, which means that during the hold period you will receive low cash flow, but high appreciation is projected; or whether the deal offers high cash flow during the hold period with a modest appreciation projection. If the deal relays on appreciation – you must understand what are the drivers - are you investing in a core market that showed very high appreciation in the past? Otherwise, you are looking at a risky investment. If the deal relays on cash flow from rent, again, you’ll need to understand what will drive the cash flow – what is driving the demand for this property? Is it a new big employer that moved to town? Is the area up and coming and attracting more renters? Or is there a huge competition there from competing properties that can hurt your future cash flow?
When you are looking at a deal at a first glance, look for those return drivers. If they are not strong, or if the syndicator’s answer doesn’t satisfy you – you should consider whether this is the right deal for you.
Lastly, look at the in-place cap rate – the cap rate at purchase – and compare it to the exit cap – the cap rate that the syndicator projects they can sell the property for. The average cap rate in the U.S. today is around 5%, and a conservative syndicator will project a higher cap rate, since the higher the cap rate – the lower the real estate prices. Otherwise, you are investing in a deal with the expectation to sell the property in a stronger real estate market than we have today. Since the exit cap tremendously affects your returns, this is one major metric you should include in your analysis.
Saving time when evaluating deals is crucial when you have so many to review, and these steps can help. Start by reviewing deals from syndicators that you like and trust. Unless they have those two major qualities, you shouldn’t waste your time with the deals they send to you. Review their past track record and meet with them to ask the right questions. If you have a comfort level that includes trust, you should consider reviewing their investment opportunities. Find out if the deals presented to you are only open to accredited investors. If you’re a non-accredited investor, don’t spend time evaluating the deals. Set up your investment criteria, and only review deals that meet your unique property type and risk level. Finally, determine the return drivers and see if they’re in sync with your own. Taking these steps will help you minimize the amount of time spent evaluating deals, without having to miss some excellent opportunities.
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About the Author
Ellie is the founder of Blue Lake Capital, a real estate company specialized in multifamily investing throughout the United States. At Blue Lake Capital, Ellie helps investors grow their wealth and achieve double-digit returns by investing alongside her in exclusive multifamily deals they usually don't have access to.
Ellie is the host of REady2Scale , a podcast that focuses on the "APS" of real estate: Asset, Process, and Strategy. Each episode discusses how investors can scale their real estate portfolio and/or businesses.
She started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100MM. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations.
Ellie holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Management.