How to put an equity value on project/property management?

Question

Hi all,

My partner and I have found two individuals to help fund a commercial deal we found. The total amount  down will be roughly 300k. My partner and I don't have any substantial money put down however, we will be managing the entire project from start to finish. After two conference calls they are both excited but are asking for some money on our end (50k total) to have some skin in the game. They are not looking for a return but rather equity.

My question is: how much equity do you place on project management/property management? If they are responsible for 250k of a 300k down payment and we are responsible for finding the deal, project management and property maintenance, how do you split the equity?

How we ended our last call: They start with majority equity and when we refinance and make everyone whole it becomes 25% each (100%/4 partners). But determining that initial equity is where I am struggling. Lastly, if my partner and I end up managing the property full time after rehab that also has value so it should not be a 25% split..... Our partners understand this but we have yet to put a exact number in writing.

Property management would be on 4 commercial spaces/22 studio apartments above (same building) roughly 330k gross income.

In our minds, this deal is not going to make us rich but rather open the doors to better opportunities and the experience is priceless. So with that in mind, I am not looking to be greedy but also need to be compensated accordingly.

All suggestions from past experiences would be helpful, thank you!

Omar Khan · Answer

@Bill F. Thanks

@Michael Doherty As you can infer from the replies above me, you can structure this as creatively as you like. From a practical point of view, I would suggest taking a a smaller cut say 10%-20% and going light on the fees i.e. don't fee this project to death. The fee structure on the larger multifamily works because there are enough $$$ to go around. On smaller deals, you do not have that luxury.

In your case, you are on the right track. Focus on developing a relationship with these investors especially if you know they are good people and have investable capital for your future deals. If you hit it out of the park with them, these investors will do the advertising for you. And that advertising is worth a lot more than any paid advertising you can do.

Michael Doherty · Answer

@Bill F. @Dan Handford @Theo Hicks @Omar Khan- thank you all for your posts. Because this is our first deal with these two investors, we want to build good rapport and credibility because to your point Omar they will be our biggest advocates going forward.

My partner and I plan on doing the entire project management from start to finish and then manage the property afterwards so there will be no management company. Typically PM in my area charge 10%, but for a building this large I would expect 6-8%. We are projecting 330k in gross rents. I am just struggling to put an equity amount on the management portion. But perhaps we keep an equal split once everyone is made whole (after the refi) and then just take 6-8% of the rents to be split between my partner and I and leave equity out of it.

As for the equity going into the deal, from a cash standpoint only contributing 50k of 300k would put our initial equity at 16% without considering deal acquisition and project management. For this reason I think it should be reasonable to ask for 20% initial equity to be split between my partner and I. Thoughts?

Dan Handford · Answer

@Michael Doherty I would think that since they are bringing the majority, if not all, of the equity and given that this deal is rather small...they equity partner would be receiving the majority of the deal...not unheard of to get a 95/5 or 90/10 split on this between JV partners. I would definitely ask for some hurdles in there when you actually hit certain thresholds. I would also suggest adding some fees like acquisition fees, PM fees, and disposition fees to help compensate you along the way and for bringing the deal/managing the deal from start to finish.

Bill F. · Answer

@Michael Doherty

Instead of trying to figure out the perfect equity split to pay you for finding and running the deal, charge an annual PM fee and a one time acquisition fee.

This article helps.

As for the % to charge for these fees and how to split equity (straight split, waterfall, something else) @Omar Khan can help you more than I can.

But for the PM fee, if I were an investor you wanted to develop a relationship with, I'd look to see how much your fee was compared to a professional PM company.

Theo Hicks · Answer

IMO the most important trait an property management company can have is responsiveness. If I need to get a hold of them, I expect them to answer the phone, or return my call the same day. If I send an email with a question, I want a response within 24 hours. You can get an idea of their responsiveness before actually hiring them. I recommend giving them updates on your status with the deal, and asking a few questions to see how quickly they respond.

Another important trait is that they have past experience with the asset type you are pursuing. So you want to make sure that they company you hire has experience managing apartment+retail spaces. Ask for a few of the assets they are currently managing and visit them in person.

Michael Doherty · Answer

@Theo Hicks the building is 22 potential studio units (2nd floor) and 4 commercial spaces down on the first floor. I have previous property management experience but nothing to that degree. My partner however, manages about 20 tenants currently so he is a bit more experienced than I am from that aspect.

What I think is most important is having a team/process in place ie.... contractor, electrician, plumber, ect. which we have. Between myself and my partner we are going to give it our best shot, if however it becomes too much to handle, which in all honesty it could, we have a couple management companies in mind.

In your experience, what separates a good management company from an average or okay one?

Theo Hicks · Answer

@Michael Doherty Do you and/or your partner have previous property management experience? I don't think you mentioned how many units the property is, but I am assuming it is more than 10? I you don't, I would consider hiring a professional management company, especially since you are using other people's money. I tried managing my 12 units on my own, and my previous management experience was with a duplex, and it was too much too fast. I hired a professional management company and more than made up the fees I paid in efficiencies and spending my time elsewhere.

Alina Trigub · Answer

@Michael Doherty I agree with @Caleb Heimsoth  approach. No need to dwell on the split. Add a few fees and move forward. What's more is important is detailing in the Operating Agreement the roles and responsibilities of each partner as well as the voting rights to ensure all terms are spelled out ahead of time!

Theo Hicks · Answer

Hi Micheal,

Typically, deals are split 50/50 to 90/10 between the operators and the investors. So, if they are bringing 75% of the capital, they get 75% of the investor ownership share (for example, if it is 70/30, they get 52.5% and you get 17.5%).

Since you and your partner are the operators, continuing the 70/30 split example, you'd split the 30% based on your duties. If you are doing the same level of work, then I'd split that 30% equally. Additionally, you can charge an acquisition fee for putting the deal together (2% of the purchase price paid at closing), disposition fees, refinance fees, guaranty fees (if you are signing on the loan).

Are you actually doing the property management yourself or are you the asset manager (managing the management company). Either way, you should receive a fee for asset management (2% of the collected income) and the property management company will receive a fee (based on the size, 4% to 6% of the collected income seems fair).

How to put an equity value on project/property management?

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