Syndication final payments

[Heath Clendenning]

I have two questions regarding a syndication I will start. 

If I hold the money for X years:

- When do returns get paid, and by what priority?

- If the final calculation on ROI is determined once the term is up, then the selling/liquidating period is not included in the formula? Doesn't this cause a problem when considering what the REAL annual return is?

- Is there a maximum time limit to return all money to the investors?

An example:

A syndication holds money for 2 years and has an 8% preferred return, 1% management fee and $2500 acquisition fee. The syndication will invest in short term residential opportunities. At the end of the 2 years, the properties are put up for sale and money begins to come back to the account. How to determine what the real ROI was for the investor, given some of their money was not available until the properties were sold. There could easily be a 4-6 month waiting period to this to fully execute.

Thank you for any help you can provide. 

[Brian Burke]

When returns are paid, and in what order is dictated by your operating agreement.  And since you dictate the terms of the operating agreement that means that it can be whatever you want it to be.  The trick is that you have to raise the money, so if your terms are out of market, you won't get the investors.  So they have to be fair and attractive.

Generally returns are paid quarterly.  Some do monthly but that can be a major pain so choose carefully.  Return of capital really depends on the investment strategy.  For longer-term holds return of capital is typically whenever proceeds are received from a cash-out refinance and/or at the time of the sale.  For shorter-term holds it might only be at the time of sale or fund liquidation.

The question of priority really means which gets paid first, the preferred return or the return of capital?  That might sound like a senseless question but it does impact the returns.  If return of capital is first priority the preferred return is less because every distribution reduces the capital account.  So most waterfalls provide for payment of the preferred return first, followed by return of capital second, and then promote splits third.

The calculation of ROI requires that you create a spreadsheet to track capital accounts. Your spreadsheet should have a column for each quarter. You track capital contributions and return of capital on consecutive rows in each column so that each quarter has a starting balance, contributions, distributions and an ending balance. Separately you calculate your preferred return in the same way by having a starting accrued preferred return (should be $0 to start in the first quarter), accrued pref for the quarter (multiply the ending capital account balance by the preferred return rate, divided by 4 because this is quarterly), preferred return distributions, and an ending accrued preferred return (a sum of the above three).

Finally calculating the actual return is simple. Use Excel's IRR function to calculate the IRR using the total of contributions and distributions for each quarter. You would include sale proceeds and all return of capital in the cash flows so no need to separate it out.