Updated: Jul 15, 2019
Real estate investors who are actively buying real estate go through a great deal of effort. From finding the property, negotiating the price, managing all of the financing, and not to mention, finding the investors to make the deal actually work.
The good part of this is that you enjoy the work you’re doing. While it’s challenging to find the property with the right potential for your investors, it’s exhilarating as well. Not only do you get to use your real estate and financial knowledge, you get to use your vision and creativity to reposition or renovate a property so that it brings in additional cash flow and income, as well as an increase in appreciation.
For all of the hard work that you put in, you’ll be earning fees and commissions. There are challenges, however, but it’s just a matter of learning what they are and ways to overcome them. So let’s take a look at these challenges and some strategies you can implement.
Challenge #1 Finding Deals
Everyone knows that the multifamily market is hot. In fact, it’s burning hot. Buyers are overbidding just to get access to a multifamily property, even if the numbers don’t justify making the purchase. While that’s good news for building owners, it makes it harder on syndicators to find deals.
The best opportunities are in Class-B and Class-C properties, because with proper value-add improvements a syndicator can usually raise the rents, which will ultimately increase cash flow and appreciation. Look in secondary markets, and markets that haven’t seen prices skyrocketing for no apparent reason. I personally look for deals in Texas, Florida and the southeastern states, for example.
How to overcome the challenge?
Find new and creative ways to find deals. You can target off market deals that are often (though not always) offered at a reasonable price. One such way is to find the owner’s information on the deed or by using tools such as Yardimatrix.
Even among value-add deals competition is fierce. My advice to you is to stick to your investment criteria and never overpay just to get a deal. Stick to the financial guidelines that you use when evaluating a deal, and don’t get involved in a bidding war. Instead, make sure that the deal has an appropriate IRR return. If the deal doesn’t hit my minimum returns – then I simply don’t buy, unless there is a really good reason to do so.
Challenge #2 Upfront Costs
One of the challenges that surprise new syndicators is having to deal with upfront costs. Raising capital for renovation and loan downpayment is one thing, but until you raise that money, you will need to have significant expenses out of pocket. Yes, you will be reimbursed for those costs from the money you will raise, and it will be paid as part of the acquisitions fee, but until then you will need to come up with that money.
Let’s take a look at some of these costs:
• Hiring a team of acquisition professionals: this will cost money because everyone likes to be paid for their work. The cost will vary based on how many underwriters you hire and their level of expertise and experience.
• LLC Formation: most syndications are based on an LLC - limited liability corporation. In many cases, the LLC owns the property and passive investors have an equity stake in that LLC. You can establish an lLC on your own, but I recommend to go with a lawyer. The cost will vary depending on the lawyer creating the LLC documents and formation, but will run from $200 to $700.
• The PPM, or Private Placement Memorandum, is a legal document that describes the property involved, the projected income and expenses, the hold period, and everything else that is related to the deal and the proposed property. It can be in excess of 100 pages, and must be thorough as it is used to outline all of the anticipated costs, cash flow and anticipated appreciation. You will need to hire a SEC lawyer to draft a PPM for each deal. This can run anywhere from $5,000 to $15,000.
• Subscription Agreement: when passive investors plan on putting money into the LLC, they sign a subscription agreement. It spells out the number of shares being purchased and the price that they’re being bought at. It’s a legal document that states the subscriber will by those shares at the pre-determined price. The cost to have a lawyer draft a Subscription Agreement runs anywhere from $350 - $2,000.
• Operating Agreement (OA): this is the legally binding document that outlines the structure of the LLC. It includes the percentage of each member’s interest in the company, how profit and loss will be used and divided among the members and other issues relating to the LLC.
Other upfront costs include a property appraisal ($2,000 - $10,000), a property survey ($5,000) and per-unit costs for walk-through inspections ($25 per unit), lease audit ($25 per unit), property condition assessment ($40 to $250 per unit), phase 1 environments at $2,000 and earnest deposit that amounts to 1% to 2% of the purchase price.
There will also be other cost relating to the loan, including a lender rate lock deposit of 2% of the loan balance (only applicable to agency debt), lender application deposit of $25,000 and loan negotiation by the attorney that can range anywhere from $2,000 to $10,000. As you can see, the costs add up rather quickly and can present a potential financial hurdle to first-time syndicators.
How to overcome the challenge?
First, you need to familiarize yourself with the cost estimates so you don’t get caught off guarded when you are in the middle of a deal.
When it comes to funding all upfront costs, you’ll have several options. First, you can borrow the money involved from what is known as a “hard lender,” but you can expect to pay 7% and higher interest rates on that money. The less successful track record you have, the higher the interest rate. As a first-time syndicator, you most probably will not have a successful track record.
A second option is to pay for those upfront costs using a piece of the equity in the property. You’ll need to find a private investor who has the funds and a willingness to lend you the money in exchange for a percentage of the property’s equity. They will get their money back when the property sells; if it appreciates as you anticipate, then their equity portion won’t wipe out all of your potential profits - just enough to cover their funds and a profit. You’ll still walk away with some profit.
A third option is to find a partner who will share their knowledge, contacts and experience with you in exchange for part of the anticipated profits. By rules from the SEC, you’ll need someone who is a General Partner in order to solicit money from other investors. Your partner can take on the role of the deal’s lead investor, using their knowledge and track record to make the deal happen.
Challenge #3 Separating Yourself from Others
Syndicators find properties, negotiate prices, find investors and put financing together to make the deal happen. Many syndicators operate in similar markets and go after similar deals. The challenge is to find a way to position yourself as a syndicator that’s different from everyone else, especially when it comes to working with investors.
How to overcome the challenge?
Separating yourself from the competition requires some creative thinking. One way is to position yourself differently. Perhaps you have a unique or unusual professional background that is intriguing to investors. You may have some unique skills or expertise in other areas that might help to attract investors. Or perhaps you have a powerful life story that others can connect with, and will seek you out solely based on your story.
Another option is to target investors that most syndicators often pass on. Teachers, parents of high school students or other niche audiences that often have the necessary income to become a passive investor, but not many (or any) syndicators target. Using your specific knowledge and background can often trigger ideas for target markets. Reach out to them and you may find you’ve found new sources of investment funds.
Challenge #4 Lack of Experience
When you just start out, investors and sellers would like to see experience. After all, they will be hesitant to work or invest with someone without experience. It looks like the chicken and the egg problem: without experience you can’t buy deals and raise capital, and without deals and capital you can’t gain experience, isn’t it?
How to overcome the challenge?
It takes time to gain experience. If you’ve worked alongside a successful syndicator, then you’ve learned how to evaluate properties, the market where they’re located and how to determine the appropriate purchase price of the property. You can use that experience when talking to investors, brokers and lenders, and use it as part of your own success story.
If you’re a new syndicator, then you might want to partner with an experienced syndicator who has the successful track record others are looking for, at least on the initial deals you’re presenting. It’s better to participate at 50% of a deal than not be able to participate at all. The faster you can close deals and use them as your own, the better off you’ll be.
Talk to your investors and colleagues to find a syndicator you might want to partner with. Listen to podcasts, go to meetups and if you find someone that you think might work well with, talk to them and present a deal you’re considering. Just be sure to have a legal agreement as to how the partnership will work and who makes the decisions.
After you gain the knowledge and experience needed by working with a partner and go through this process with several deals, you’ll be ready to handle syndication deals on your own.
When discussing syndication with an experienced syndicator, you can feel the enthusiasm they exude about their work. Rightly so, as syndicating properties can be an exciting profession. Just be aware of the challenges involved, and learn ways to overcome them. Look for creative ways to find deals, learn how to position yourself differently than the competition or target unique niches of investors, be prepared to handle upfront costs and consider teaming up with an experienced syndicator. Once you do, you’ll be ready to tackle anything that comes your way.
Are you a real estate investor and interested in learning more about passively investing in multifamily properties? Click here for the “Ultimate Guide for the Passive Investor.”
Want to Invest with Ellie?
If you are interested in learning more about passively investing in apartment buildings, click here to schedule a call with Ellie Perlman.
About the Author
Ellie is the founder of Blue Lake Capital, a real estate company specializes is 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 Unbelievable Real Estate Stories, a podcast that shares true stories from within the industry, and the critical lessons learned, from the most successful real estate investors, innovators, developers, and more from around the globe!
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.