Syndications as LP: Do you have someone look over the PPM?

Question

Been looking into doing some passive investing as an LP. (Meet all the qualifications and have some familiarity with PPMs.)

My question to anyone who has successfully invested (and returned capital) as a limited partner: Do you have someone look over the PPM on deals you plan on investing in?

I've heard it really comes down to trusting the operator and opportunity, and then just keeping an eye out in the PPM for anything abnormal.

Thoughts? Help? Anything is appreciated!

Chris Seveney · Answer

@Dylan Kennedy

Having been on both sides. I always have someone review the PPM an hour or two of attorney time is well worth it.

You are correct though what it comes down to is trusting the sponsor and making sure they know what they are doing and have a track record.

I see too many people today trying to syndicate deals where they have only invested when times are good and if we hit a slowdown are the experienced enough to handle it.

David Gotsill · Answer

@Dylan Kennedy - I'm torn on this one.

I understand and respect the input from @Jerel Ehlert (and if asked in my capacity as an attorney I would provide the same response).

But then I ask myself, as an investor, would asking an attorney move the needle on the deal?  I.e., would an attorney pointing out potential issues change my willingness to invest?  For the most part (at least for me), it likely wouldn't, because I think the potential issues are almost always the same, and they are business/operator issues, not legal issues.  I am also assuming that the LP understands what being an LP typically entails.  If the person is brand new to it, then I think a discussion with an experienced attorney would be very helpful.  And in all events, the LP herself should read the PPM, as @Mike Dymski says.

I'll acknowledge that I'm making broad generalizations that may not hold true in all situations, but are probably more-or-less true for most syndications (and are true for those I've reviewed) - so here's what I mean:

As a typical LP, you'll have zero ability to influence the terms of the PPM (perhaps if you're funding 25% or more you can get some concessions).  If you can't negotiate terms, then the potential LP decides either a "yes, I invest" or "no, I'll pass".

What are the terms that matter, from a legal perspective?  Well, 5 of the key items are going to be liability, contributions, distributions, transfers and control.  For most syndications:

• LPs will have no liability (other than loss of contributions) and you'll want to check the liability of the GPs;
• LPs will make initial contributions; and you'll want to confirm if LP is on the hook for any additional contributions;
• Distributions will ensure the GP/operator gets their cut (I'd want to know what that cut is), then to LPs in accordance with their percentage;
• LPs will agree that they cannot transfer their LP interest without the consent of the GP - you're locked in to the deal until the GPs end it;
• LPs will have none (or very little) rights to vote on operations, and GP has control.

The above isn't an exhaustive list of material concerns you might have as an LP, but it's what what I would expect and confirm for any syndication.  If I assume the above is true, then I'm basically left with due diligence on the GP/operator and the property/offering itself.  As @Chris Seveney and @Michael Bishop say, it's trusting (with due diligence) the operator.  If I wasn't comfortable confirming the above on my own, then I would definitely seek help from an attorney.

Always happy to consider any differing opinions or questions.

Amy Wan · Answer

@Dylan Kennedy depends on how many PPMs that GC has read before. If they have some securities experience under their belt, drafted some PPMs before, or read at least couple dozen, they may be fine. Otherwise, I always stick to specialists over generalists. The GC's job oftentimes isn't to be the expert in the law, but to know and be able to find and facilitate the process with the experts.

Mike Dymski · Answer

I read them myself. They are not that complicated...just long. And reading a PPM is exponentially easier than sourcing and managing deals directly.

David Gotsill · Answer

Hey @Dylan Kennedy.  There could certainly be no-go items in a PPM, which is why I would always read through it.  But it's hard to categorize or think of a hypothetical example (in the handful that I have reviewed, there's been no such terms).  I think that as you review, you would gain a feeling for what's ordinary/market, and that when you encountered something that was an outlier, that's when you'd want to dig into it more.

Dylan Kennedy · Answer

@Mike Dymski Definitely agree with you on that!

Christopher Smith · Answer

There are comprehensive books on how to evaluate syndications.

Jerel Ehlert · Answer

ALWAYS have an attorney review your PPM.  It is a contract.  Your rights and remedies are listed.  You are exchanging control over your capital for these rights.  A PPM is rarely, if ever, written simply enough to forego expert advice.

This is why most fortune 500 companies are run by people with a JD, even if they don't carry a license.

Michael Bishop · Answer

@Dylan Kennedy it really does come down to trusting the Operator. If you've found someone that you trust that also has a strong track record, it's important to keep in mind that their reputation and the future of their company is on the line with every deal. Screwing over just one person could sink them. I can't say this is the case though for a brand new or really young company, because maybe they're out there to just grab a quick buck and run.

In general, when folks ask me this question, I tell them it's entirely up to them. It certainly can't hurt, but the Operator has spent a lot of money and resources in making sure this PPM is right for everyone involved, and the Operator doing the work and bearing the costs is part of the beauty of investing as an LP.

Some LPs have counsel on retainer, in which case having them review is a no brainer. If you're the majority who does not fall under this umbrella, consider what I've said above.

Syndications as LP: Do you have someone look over the PPM?

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