All Forum Posts by: Account Closed

I'm currently flipping houses in Cincinnati. 


Wondering if any of you have had success sourcing work from the County's list of registered contractors?

https://cagis.hamilton-co.org/opal/registeredContr...


I have been using registered contractors for all permitted work, but I'm looking for a GC/ carpenters/ concrete and demo. 


Those of you who have used registered contractors-- Does it make sense to go down the list and get bids from a bunch of them, or are they generally too expensive to be worth my while? 


Thanks,
Patrick 

Originally posted by @Brian Burke:

Originally posted by @Account Closed:

Brian Burke thanks for your reply. I really appreciate all the detail.

When you structure a deal that has a return of capital is it usually a % of the distributed cash after the pref or all of it? What the incentive for investors to agree to this kind of structure? Doesn't this limit their upside? I always assumed capital was only returned from sale/ refi.

Regarding lender net worth requirements- so if you’re looking to sponsor a $20MM multifamily property, the GPs need to have a net worth of $20MM?

I’ve seen some development deals where the sponsor has had a couple million, developing a $10MM+ property. I suppose he could have had an additional GP, but it didn’t seem that way.

Return of capital is just that...the investor receives all of the cash flow until all of their contributed capital has been returned. This doesn’t limit the investor’s upside, they maintain their ownership percentage so this isn’t a dilution.  But it does limit their downside and that’s probably more important than upside to most HNW investors. 

On the net worth requirements—lenders want to know that their borrower has financial strength. You aren’t putting up your cash or assets as collateral, it’s just to give the lender comfort that if things don’t go according to plan you have assets that you can tap into to right the ship.  Plus they assume that if you’ve been smart enough to build up sizable net worth you must be doing something right and they want you to apply that “something” to their deal.  They don’t want penniless borrowers—that’s a recipe for foreclosure.  

And yes you will see other guys with little to no balance sheet out there doing deals and ask “how come he can do that when you are telling me I need all of these things.”  This is tougher to answer because there options (and you can apply these options too). You can get a partner with strong financials. You can use recourse financing (where the lender can bleed you totally dry if things go wrong). Or you can use lenders that have lower standards (but most likely much higher interest rates). The guys you are seeing are most likely using one of those methods or some combination of them. There’s nothing wrong with that—it’s sort of a right-of-passage to get to the big time...if you survive it. 

This business is like the jungle. When you are born, you are prey. If you survive you might make it to the big time. Or you might get eaten at any point. Lion cubs survive being prey because they have mothers at the top of the food chain fighting off predators. Think of that lion mother like your business partner. You might survive to get to the top if you have someone looking after you while you grow. 

 
Fantastic explanation. Thank you very much for the insight!


So that 1-for-1 net worth to loan requirement is really for non-recourse loans with the best terms?

Michael Le thanks for the reply! Does the lender require you to post your assets as collateral in addition to the property? Out of curiosity, why is there a 1-for-1 net worth requirement if the loan is being secured by the property? Is this only a requirement when you’re bringing in 3rd party investors? I certainly know some borrowers who own commercial real estate that do not have sufficient net worth to cover the loan for the property. I assume once you get to a certain scale, there are far fewer lenders... so the requirements are more restrictive? Is the net worth requirement for both recourse and non-recourse loans?

Brian Burke thanks for your reply. I really appreciate all the detail. When you structure a deal that has a return of capital is it usually a % of the distributed cash after the pref or all of it? What the incentive for investors to agree to this kind of structure? Doesn't this limit their upside? I always assumed capital was only returned from sale/ refi. Regarding lender net worth requirements- so if you’re looking to sponsor a $20MM multifamily property, the GPs need to have a net worth of $20MM? I’ve seen some development deals where the sponsor has had a couple million, developing a $10MM+ property. I suppose he could have had an additional GP, but it didn’t seem that way.

@Todd Dexheimer that makes sense. I know some small time guys will structure deals with guaranteed returns and a profit split. You can think of the structure as something similar to convertible debt. 

Just to clarify, when sponsors pitch preferred returns to investors, they're just pitching a hurdle rate, right? As you pointed out, a preferred return isn't an obligation-- merely a target?

As for the lowly sponsor part...

If you have experience in private equity, analysis, construction, development, project management... why not? By "lowly sponsor" I'm envisioning someone with a couple hundred grand and experience who quits his/her job to raise $xmm and acquire a large 150+ multifamily property or something of similar scale in an alternative property type. 

Thanks for your response!

Originally posted by @Omar Khan:

@Account Closed In private markets, there are minimal or zero standardization when it comes to deal structuring. Hence, technically, you can have any structure you like.

The issue you will run into with what you are proposing is that it is very easy to game the system esp. as Sponsor is compensated yearly based on exceeding a hurdle rate. Hence, there is no catch-up i.e. a certain $ value has not been paid back before the Sponsor makes money. Which means that a Sponsor can easily play around the with the #s to get compensated (it's not hard and has been done). 

Adding to @Sam Grooms point, I have seen deals where returns are a straight split (i.e. no preferred return hurdle). IMO, that is egregious especially since most syndicators are not investing major chunks of equity into a project. 

As a side note, to the investor it doesn't matter if a Syndicator is getting a minimal payout till they hit the hurdle rate. With the options folks have nowadays, it is the Syndicator's problem not the investor's on how the Syndicator will pay the bills in the time it takes to turn around a property and sell it. Hence as @Mike Dymski points out, many folks are holding onto their regular W2 jobs.

 
@Omar Khan, thank you for taking the time to respond!

While I certainly understand that it's "not the investor's problem" if the sponsor can't pay his or her bills-- wouldn't it be in everyone's best interest if the sponsor CAN work on the deal/ deals full time? Not sure about you, but I really wouldn't want to invest my money with a W-2 employee who has to devote 40-60 hours a week to something other than Real Estate. Or would you argue that being a sponsor/ establishing a syndication even for a large commercial property isn't a full time job?

In your opinion, would it be fair to pay the sponsor an annual development fee/ asset management fee? 

Originally posted by @Sam Grooms:

There's no issue with a preferred return to investors from a lender's perspective. It's one of the more common structures out there. 

It's fairly common to see an 8% pref (in our case its also cumulative), with an 80/20 or 70/30 split after pref. I've seen some structures where anything after the pref is a return of capital, which greatly increases the sponsors share of distributions each year. 

In regards to a cash on cash vs IRR hurdle, I've seen both.

Hey Sam,

Thanks for your response.  

Can you explain what you mean when you say your pref is cumulative? 

Do you also have a split when you sell the asset?

What do you mean by "a return of capital"?

Originally posted by @Lennon Lee:

Patrick,

Although we have gone with a waterfall structure on some of our deals, we typically structure our deals the following way:

- 2% Acquisition fee and 2% Asset Management Fee

- 7-8% preferred return 

- If preferred return is not met, the GP does not receive an Asset Management Fee. (Carried)

- 70/30 LP/GP split of cash flow after preferred return is met. (Depending on the deal it may vary to 75/25 or 80/20)

- 70/30 LP/GP split of sales proceed.

Offering a preferred return or not, should not affect the lender. The debt service is paid before any cash is distributed to investors or anyone else for that matter. The lenders look at DSCR (Debt Service Coverage Ratio), which they typically request that it be at 1.25 or more.

 
Thanks for the detailed explanation, Lennon. 

So just to clarify, a preferred rate of return isn't a guarantee you'll pay investors x% per year... merely that they'll get paid their return before other investors get their prorata (or not) share?

What metric do you use for your hurdle rate?

Does your 2% Asset Management fee recur annually? Is that 2% of the gross income? I'm guessing this is charged in addition to property management? Do you have in-house management?

Can you explained what "carried" means in the context of your asset management fee?

Thanks again!

I know people frequently structure deals with disproportionate distributions to the sponsor to reward them for their performance. 

Every waterfall model I've ever done has used IRR targets as hurdle rates.

This is great and all, and obviously if the property does exceed these hurdle rates, the sponsors can get paid off in a big way...

But since so much of the IRR comes from the sales proceeds, the sponsor doesn't see any of that bonus until the end. And why should they, right? I mean, most of the return for the investor is coming from that last cash flow when you sell. 

The problem is, if you're a lowly sponsor without much money, you might have to live off of your crappy pro-rata cash flow for years before your partnership sells off properties and you're rewarded with a huge windfall. 

Are there cases where sponsors are rewarded if they meet certain cash on cash targets, rather than IRR?

So far example, rather than giving the sponsor a 20% promote for anything above a 12% IRR, they'd receive a 20% promote for every year they exceed a 12% return on equity, then receive 20% on the backend in excess of whatever return brings the cash flows above 12% IRR. 

As an investor, would you ever consider this type of arrangement?

One alternative might be to give your investors a preferred return, and a locked in profit split for when you sell... do you think promising a preferred return would create problems for lenders?

Anything thoughts would be appreciated. 
Thanks,
Patrick 

Any updates?

If you ended up selling it for that price, that's a phenomenal ROI.