Individual Syndications v. Funds

[Christopher Nemlich]

Hello,

I'm looking to begin investing in syndications in the near future, but was interested to hear some opinions on picking individual deals versus some of the funds I have seen. The funds seem like a good way to gain greater exposure and get an extra layer of due diligence done for you, but there must be downsides as well. Lower return? Higher fees? Time spent without capital invested? Interested to hear all opinions. 

Thanks

[Brian Burke]

Not all funds are created equal, so there is more than one answer here.

In a general sense, funds offer the advantage of diversification—at the very least among properties.  But perhaps also among geographic markets, operators, and perhaps classes of property.

Funds have three primary disadvantages over single-asset syndications, however.  The first is that you might not know what assets the sponsor will buy.  Some funds are semi-blind, where the description of the typical asset is specified, but you still don’t know which properties will actually be bought.  This means you really need to trust the sponsor before investing.  It’s not a good idea to invest in a fund sponsored by a newbie.

The second disadvantage is that many fund sponsors are not operators.  Instead of investing with a company that is buying real estate, you are investing with a company that invests in single-asset offerings sponsored by operating partners.  With this comes a concept called a dual promote and dual-layer fees.  What this means is that the operator gets a profit split and fees, and the fund sponsor gets a profit split and fees.  This means you get a split of the split, rather than a split of the whole.

Another downside of a fund is idle capital.  This comes in two forms.  First is if the sponsor accepts commitments but only calls for portions of the capital while acquisitions are made, which results in you holding idle capital and reduces your return.  The other method is where the sponsor calls for all of the capital at once, and the capital sits idle with the sponsor until acquisitions are made.  It still lowers your overall return, but it might also put undue pressure on the sponsor to acquire with less discipline.  On the flip side, you can have idle capital when investing in single assets, too, as you wait for the right opportunities to invest in.  So this one could be a wash.

Overall, with the right sponsor, funds can be an excellent option.  Just make sure you know what you are investing in (operator versus capital provider), what types of property the fund will be buying, and the track record and experience of the sponsor.