All Forum Posts by: Frank Sichelle

Quote from @Evan Polaski:

@Frank Sichelle, I hope to clarify one item you mention:

If you, as an LP, are looking into a company, you should be asking for Original Underwriting vs Actuals.  I don't know the inner workings of your hypothetical sponsor, nor really almost any other sponsor, so I can't speak to how things are done in any specific way.  But, it is typical corporate practice for any company to build a budget for each fiscal year, and then as they are working through that budget, there will likely be some reforecasting done based on actuals and any major events that will likely impact the original budget.

But more importantly, you need to make sure you are asking for the correct comparison.  Whether it is intentional or just a lack of understanding in what is desired versus what is asked, if you ask an operator of the budget vs actuals, the operator may very well be delivering what was asked.  But internally, budget is what they are running day to day from.  Proforma, or original underwriting, or original projections, or "how are your actuals vs what you originally presented to investors".  Each company could have a different term they use for those proformas, so asking in several ways may be the only way to get what you are looking for.

I ask all of my sponsors to provide actuals versus original budget. Providing actuals versus a budget that was drafted a few months earlier and possibly even reforecasted mid-year is entirely worthless. With this approach, a sponsor will never miss their budgets because they will simply adjust the budget to make the actuals look positive.

For example, in one of Rise48's updates, the reforecasted budget called for negative 5% cashflow over the past 12 months and actual 12 months resulted in negative 6%. Still a miss and terrible atrocious operations but what would be significantly more valuable for LPs would be to see that their original budget was for a positive 7.2% distributable cashflow. You're response may be that markets fluctuate and budgeting is difficult and that is true but that is literally the job of sponsors so they should be better forecasters than that if they're accepting equity from investors.

I will speak generically about hypothetical sponsors because they too are pursuing legal action to quiet investors. A sponsor goes from category 1 to category 2 when they continue to lie to investors about the current status of their portfolio and continue to invest in new offerings with a structure that victimizes new investors and props up their old (bad) investments. A structure that belongs in category 2 is also one built on this new twisted version of "fund of funds" which convinces inexperienced individuals with no real estate experience to raise capital for an unaffiliated sponsor. This is especially a red flag when a sponsor goes as far as creating investor portals providing the tax reporting for these "fund managers". This structure creates a revolving cycle of unsophisticated investors that can continuously get burned because the equity is raised by outside individuals. 

The team is entirely unsophisticated as well and they made TERRIBLE investments in 2021-2022 but so did many others. What differentiates a category 1 and category 2 is that instead of recognizing the 2021-2022 mistakes, a sponsor denies them and instead increases their acquisition fees (3.75% last I saw) so that they can withdraw cash immediately from new bad investments in order to fund the need for capital calls in their old investments. This cash transfer is the only reason that you have not seen capital calls but rest assured 1) those GP loans sit ahead of LP equity and 2) capital calls are still coming. Ask your sponsors for recent BOVs, they've received them on all of their 2021 and 2022 purchases and they will show a 30%+ value declines. You won't find any mention of them in the updates though. And, speaking of those updates, their "budgeted" numbers are nowhere near the numbers they were originally budgeting. Just take a look at the original investment offering versus the updates they send.

Another sign of a category 2 sponsor is one that structures new investments today so costly and so poorly that it almost immediately assures loss of equity. And, the only reason they do this is because it gives them the talking points they know they need with new investors. For example, using very expensive debt (9%+) but paying down the interest upfront so that you can claim a low interest rate and positive financial leverage. Spoiler alert - purchasing interest rate caps are just another way of paying interest on your loans. Second, raising millions of dollars of extra equity upfront so that you can then redistribute it back to investors and claim 5% distributions, is fraud. You may not recognize it for years to come and it will allow that sponsor to continue to invest and collect a 3.75% acquisition fee, but this type of poorly structured investment will result in a loss of equity. The last offering that I saw was purchased for $125,000 per apartment but because of all the extra fees and needed cash reserves, the property will be required to be sold for $185,000 per apartment in order to break even. A 48% increase in value in order to just break even! And, that wasn't a deep value-add, opportunistic investment.

Unfortunately, this will continue to go unchecked for awhile and sponsors such as the hypothetical one above will continue to prey on unsophisticated investors because they know they can be tricked.

I'm not sure there are many syndications executing investments with debt funds today and paying 10% of the property's value to buydown the interest rate and claim positive financial leverage. 

Some investments are difficult to analyze. Others, like this one, are so blatantly bad that the sheer volume of people raising money for them have destroyed the reputation of fund of funds across the entire industry. Everyone should read the entire series of posts on X but to highlight the two largest red flags:

1) They had to raise millions of dollars to fund the operational shortfall of the investment while still falsely claiming to investors a 5% average annual cashflow. That's not cashflow, that's raising investor capital to return investor capital and charging a fee in between.

2) Claiming a low basis of $132k/unit while loading the deal with so many fees and reserves needed to make it not an immediate foreclosure, that the all-in basis is actually $193,952. In other words, the property needs to appreciate 35%+ just for investors to receive their money back. Spoiler: Most real estate was appreciating 3-6% a year during the incredible bull run of 2010-2020.

According to someone in another forum, the funding deadline was 5/20 and only 49% of the capital call has been funded.

I've been a long time reader of BP but active only on WSO. Both valuable but the two forums are almost exact opposites. WSO is anonymous which creates an environment of exaggerated comments but mostly filled with experienced associates in the industry. BP has genuine people interested in real estate and some good sponsors but a large number "guru" sponsors that are more focused on raising capital than finding and executing good investments. I think more needs to be done to protect LPs across the industry or if that's too difficult, stricter accredited status and/or higher minimums. The amount of lost capital has only just begun to be realized and the sponsors on my list that are still acquiring properties are particularly troubling to see. 

No one wants to name names and understandably so. I think any list of bad sponsors needs to be broken down into two categories: 1) Inexperienced sponsors that got caught up in a rising interest rate environment, and 2) Bad sponsors that are either acting malicious and/or greedy.

There are many many many sponsors, particularly those on BP and raising capital on social media, that fall within the first category.

Category #1 - Inexperienced Sponsors:

Ashcroft, Opendoor, Elevate, Western Wealth, Tides, ZMR, GVA

Category #2 - Malicious/Greedy sponsors:

Appleway, Nitya, Rise48, any "fund of fund" sponsor that's come out of Rise 48, Grant Cardone, Affinity, Nightingdale, Rockstar Capital

This is just a short list but I think it's important to protect LPs. The wall street oasis community does a good job at calling out the terrible sponsors. https://www.wallstreetoasis.com/forum/real-estate/mf-syndica...