How to Assess a Sponsor
(As always, I’m an investor giving my personal view and not a financial counselor; always seek your financial advisor before making investment decisions.)
This article is the second installment of Paul Kaseburg’s two-part interview. For beginners, who is Paul Kaseburg? Is he an investor?
Paul is the author of an eBook about passive real estate investing that I hoped I’d read when I first started. Although it’s late for me, I want you to grasp his knowledge early on—every bit of it. All pages until the end. I believe every beginner and pro should read Paul’s works. No matter what age and gender. After all, everyone deserves to know how to assess sponsors.
Investing in Real Estate Private Equity is a step-by-step manual for investing in real estate via private offerings with established corporations. Sophistic institutional investors have historically used the passive investment strategies discussed in this book for wealth creation and income production. Overall, this manual will walk you through developing your diverse real estate portfolio by selecting and investing with reputable and seasoned private real estate operators. Pretty exciting!
Unless you have a professional interest in the topic or are looking for personal investment opportunities (such as crowdfunding), the information in this book will be too comprehensive for most people. However, it is worth the read.
Paul has sat on both sides of over $1.7 billion in real estate transactions. His book covers everything a beginner needs to know, from asset selection to sponsor evaluation to capital structuring.
For professionals, he challenges conventional wisdom and deconstructs sacred cows by uncovering hidden conflicts of interest and inconsistencies that many in the field refuse to acknowledge.
Paul discussed sponsor performance-based compensation misalignment, stress tests, and the benefits of capital calls in part one of the interview. Part two of the conversation is Paul discussing how to examine a sponsor.
Part 2
4. “TRECFR: You’ve discussed the necessity of selecting the right sponsor several times. What are the most important factors an investor should consider in order to separate the best from the rest?”
(Excerpt from Investing in Real Estate Private Equity: An Insider’s Guide to Real Estate Partnerships, Funds, Joint Ventures & Crowdfunding)
Investing in real estate appears intuitively to be about selecting real estate deals. I feel that most investors would be better if they spent their limited time researching and selecting the most pleasing sponsors and leaving the transaction selection to them.
The rationale isn’t that most investors can’t adequately analyze agreements; doing so requires a time commitment in the sector and market, which is inefficient for passive investors, especially if they want to diversify between goods and places. It’s a labor-diversification argument, similar to how investors select hedge funds and rely on those managers to determine particular investments.
So, here’s what I’d look for when assessing sponsors:
Track Record: It is vital to analyze the actual net returns to investors as well as the depth and duration of the track record. Higher returns, everything else being equal, are encouraging. However, it is also helpful to consider the consistency of returns as a sign of the risk profile that the sponsor employs when selecting and financing deals.
A longer track record of successful transactions throughout market cycles is also desirable. Deal history in a specific vintage isn’t informative because almost everyone who has done deals in the last five years has accomplished well.
Platform and History: Having a fully integrated platform makes underwriting more conservative and allows sponsors to maintain a close check on their investments throughout the ownership phase. Maintaining a steady platform through market cycles also indicates that a company is operated with a long-term mindset, which is advantageous to investors.
Editor’s note: When Paul says “platform” in his book, he means something different from what some crowdfunding investors imply. Investors typically use the term “platform” to denote a real estate crowdfunding website that lists possible assets for sale.
Also, Paul refers to the staffing management and experience that the deal’s/sponsor funds have put in place to handle all of the investment’s primary management chores. These things involve property acquisition, management, and disposition, among other things. Some sponsors will outsource these tasks; therefore, they are not deemed to have their platform.
Effectively cycling such a platform shows increased skill and may also be an additional source of stability. It’s an additional revenue stream that may boost the sponsor’s ability to “keep the lights on” during difficult periods of the real estate cycle.
Look for an executive team with relevant experience with the proposed product and approach. Additionally, collaborative teams are a reliable sign of platform stability.
Sponsors who are engaged buyers and sellers have a competitive advantage over those who are not. As a potential buyer, having previous transaction experience with brokers and other owners is highly beneficial and leads to better rates and quantity on new acquisitions.
A line from Paul’s book:
4b) TRECFR: These are extremely valuable ways of evaluating sponsors. At the same time, implementing several of them would be challenging for the average crowdfunding investor.
Most don’t have deal flow from anywhere other than crowdfunding sites, where 99 percent of sponsors have never gone through a full market cycle (let alone multiple cycles). As a result, most investors cannot genuinely judge sponsors based on the consistency of their returns at various points of the cycle, evaluate a long track record, choose one that has maintained a stable platform through numerous cycles, and so on.
Some say this is because sponsors who have gone through a complete cycle (and done well) will have built up a big, enthusiastic investor base over a decade or more. With all the dry powder chasing yield, they don’t need to go to a crowdfunding platform to generate interest when they can do it themselves more easily and cheaply. Whatever the cause, the average investor is only seeing newer/less experienced sponsors right now.
In this scenario, I’ve seen many newbie investors follow the advice to “investigate the sponsor first” and do strange and terrible things. Many people want to know if the sponsor is someone they like (personally). Others want to be moved by their story or the transaction’s story (essentially just evaluating how good of a marketer the sponsor is).
While this may be a difficult topic, what would you recommend to these investors? (Perhaps they need to locate greater deal flow outside the sites; if so, how do they do it?) Also, are there any experienced, multiple-cycle sponsors you recommend that investors investigate?
(Excerpt from Investing in Real Estate Private Equity: An Insider’s Guide to Real Estate Partnerships, Funds, Joint Ventures & Crowdfunding)
I agree with Paul’s judgment that most crowdfunding investors lack access to seasoned sponsors. For now, crowdfunding sites have not attracted the most qualified sponsors. He likely mentioned that most of the most experienced sponsors with the finest track records currently have more equity than contract.
Furthermore, crowdfunding sites are restricted in terms of the amount of money they can generate, making them less efficient for more prominent sponsors.
Hopefully, this system will change as crowdfunding gains traction and can gather more funds for each purchase. While many seasoned sponsors are not going out of their way right now to seek new investors, most are also not turning away approved investors.
I believe that starting from the ground up, rather than reviewing deals as they come in, is the best way to discover outstanding sponsors. As a result, the procedure would be as follows:
● Determine your target allocation to real estate.
As a real estate investor, you should base your asset allocation on market value rather than the purchase price or portfolio equity.
● Create a strategy: REIT versus private, fund against syndicate, debt versus equity.
● Determine the types of target deal, geography, and size.
Seek sponsors (go through business publications/press and phone a few brokers to acquire a list of the groups that have been busiest in that field, then reach out to those groups to determine which take private investors, discuss their approach, and analyze their track record.)
● Evaluate such deals
It is important to evaluate deals to see things through. You cannot just decide based on whatever. Feel free to research and identify everything before taking a risk.
Editor’s note: Visit the site’s investment education area to determine your real estate target allocation, develop a strategy, identify transaction types, and evaluate deals.]
Those wanting to learn more from Paul’s extensive knowledge can purchase his e-book on Amazon. Feel free to absorb more of his knowledge. His insights can help you decide and see things through. Good luck.
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