How much Equity Should I Offer My Partner?

Question

Hello everyone,

I've been investing for 10 years with multifamily, but never built from the ground up. I'm about to get in my first 4 unit apartment development project and have zero experience.  I have the capital and assets to get a loan for the land + construction cost, but again, zero experience.

My potential partner has developed numerous properties because he works for a national home building. He understands how to get through the county, present and get projects approved. He knows the cost, timeline and can take it to the finish line. He does not have cash to contribute to the loan and is not financially capable of guaranteeing the loan.

The plan is for us to acquire the land, build the property, lease it and when the construction loan turns to a permanent loan, hold and move onto the next project. After we build, the holding period is where my operational experience will come into play.

How much equity and/or consult fee should I pay him? I plan to do multiple deals with him so the deal we cut now will lead into the future. It might be worth mentioning that he is the the one who found the the land we're about to buy.

Thank you!

Casity Kao · Answer

@Quy Huynh  Are you guaranteeing the loan and putting 100% of the funds that will finance the development?  If so, why would you give up equity and not just pay your partner their usual fee.  With additional developments you can leverage better pricing and also other developers because they will take you more seriously.  It sounds likes there is such a small window your partner can help with that this seems to be the only play that makes sense.  10 years from now when the building is still making money and you are essentially paying them for work they did ages ago, you will be asking yourself why you gave up equity.

Troy Sheets · Answer

Have you asked this person what they'd like to see? Maybe the % of ownership they're after is much less than you're expecting anyway?

My point of view is that you're calling this person a partner (your words, not mine). They brought you the deal and will handle architecture, zoning, permitting (and more, I'm sure) and manage the build? Sounds like a partner to me. Taking raw land to a permitted parcel is no easy task. Yes, you're taking on all the financial risk but it sounds like this person may have a complimentary set of skills and experience that would balance yours out nicely, which would make for a good partnership. Can you find more deals on your own in the future? Can you take raw land to a permitted parcel in the future? Can you manage a build?

I'm betting your partner brought you this deal in good faith expecting to be an equity partner on this deal, not to earn a fee with a part time job. We'd also need to know the rough costs involved to be able to assign a fee or a percentage. Is total cost of project with land and construction $400k or $4m?

Casity Kao · Answer

@Quy Huynh  I forgot to mention this but I am actually from Westminster, CA and went to high school there.  We may have mutual friends.  I would suggest asking around, but if you wanted to ask your partner I would ask them what they think is fair and why.  The important part is why because what the will probably say is they make so and so amount of money and do so and so amount of deals, so they will give you an idea of how they value what they should be paid by project and you can use that to value future deals.  From my experience most home builders will charge you more for your first deal and one offs because they are keeping busy currently so it's worth their time if they do saiy yes, so you may find that his/her ability to leverage contractors is better than yours with your experience because new build contractors are a different breed, and in general much higher quality.  I would suggest offering a small preferred equity portion since you already offered it and then have them make a suggestion to counter.  Like Troy said they may actually want less than you want to offer.

Troy Sheets · Answer

I'm the guy that started with no money but could find deals and manage the jobs, so I'm biased, and I'd say 50/50. I also had great credit and could sign for loans, although I had no real cash to contribute and a very modest net worth and income, so it didn't mean much anyway. I'm not sure what your financial situation is but when I partnered with my partners, the money that we thought would let us scale like crazy turned out to be nowhere near enough. We needed all of us signing on loans and raising money from friends and family. My point is, the initial capital my partners contributed didn't go very far and I ended up, at least initially, raising the lions share of the capital. Now we all do really well finding investors, lenders and networking but initially, the guy with no money brought in all the money and found lots of deals.

In hindsight, my partners and I all took leaps of faith with each other, so it's tough to say go 50/50 off the bat, but if you value this person and think they bring more to the table than a few construction management skills and will be integral to your success, why not keep them around? Perhaps scale the ownership on successive projects? 25% on this one and, if it goes well, higher on the next till they get to 50/50.

The other thing to keep in mind is that while you're risking cash and credit to get this deal done, if it's a good deal, you'll be refi'ing all your cash out anyway to rinse and repeat, so it won't be your cash in at the end anyway. Hopefully your partner can at least sign on these as guarantor so he's on the hook financially?

Quy Huynh · Answer

@Troy S.  -  They're asking me to set the fee and/or equity. You're right, they probably aren't looking for a part time gig.  I agree his skills balance with mine nicely. Yes, I'll be able to find more deals in the future myself, but due to scaling, I'd like to keep the relationship strong and worth his time so he can continue running point with the project(s). No, I can't take raw land to permit nor can I manage a build. The land + construction is projected to be $550K.

How would you arrange it?

Quy Huynh · Answer

@Casity Kao You have a strong point. I think I mistakenly only looked at it from a short term window (the development period) whereas I should be looking 10 years out like you are (the holding period). I offered equity for him to take the project more seriously. He doesn't have a usual fee because with the home builder, he gets a salary.

Do you have a suggestion to what kind of fee I should offer?

How much Equity Should I Offer My Partner?

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