Launching Own Shop
I’ve got a problem, albeit a good one. Currently run acquisitions and asset management teams at a shop that strictly acquires multifamily throughout the Southeast. Currently manage 4500+ units and growing quick. I’m climbing the ladder and providing a ton of value. Having seen pretty much all I can see as far as acquisitions and ops, I feel it’s time to look into starting my own shop.
I have investors that are chomping at the bit to partner with me, but I’m struggling with what terms I should propose. Vast majority of my wealth is locked up as equity in deals so I’m pretty cash poor at the moment, so contributing meaningful $$ into one off partner deals isn’t likely.
if investor is willing to cover entire GP portion, what would be a fair split to where the investors feels like they are needed to keep business going, but also worth my time and effort.
im not worried about having a team and boot strap the first couple deals and get liquid to reduce my alliance upon these investors.
thanks
Based on the WSO threads discussing similar scenarios, here's a structured approach to consider when launching your own real estate investment shop and negotiating terms with investors:
Equity Split and Compensation Structure: Since you're considering starting your own shop but are currently cash-poor, you might propose a structure where the investor covers the entire GP (General Partner) portion. A common arrangement in such cases is to offer the investor a significant portion of the equity, but retain a substantial share for yourself to account for your expertise and the value you bring to the table. For instance, a 70/30 or 60/40 split in favor of the investor might be considered, depending on the specifics of the deal and the risk involved.
Performance-Based Incentives: To make the deal attractive to both parties, consider incorporating performance-based incentives such as a carried interest or promote structure. This could be structured so that once certain baseline financial targets are met, the split of additional profits could shift more favorably towards you. For example, after achieving an 8% return on investment, any profits beyond that could be split 50/50.
Clawback Provisions: To align interests and ensure both parties are committed to the long-term success of the venture, you might include clawback provisions. These provisions can be structured to ensure that if the investments underperform, the investors can reclaim a portion of the distributed profits.
Management Fees: As you will be actively managing the acquisitions and operations, charging a management fee is standard. This fee typically ranges from 1-2% of the assets under management annually. It provides a steady income stream for operational expenses and compensates for your day-to-day management role.
Long-Term Partnership Considerations: Since you mentioned a desire to eventually reduce reliance on these investors, it might be wise to negotiate terms that allow for the gradual buyback of equity from the investors or the adjustment of terms as your liquidity improves. This could be tied to specific milestones or timed to coincide with the maturation of certain investments.
Legal and Financial Advisory: Given the complexity of such arrangements and the significant amounts of money and trust involved, it is crucial to engage with legal and financial advisors to draft the agreements. This ensures that all parties' interests are adequately protected and that the terms comply with all relevant regulations and laws.
By structuring the deal in this way, you can ensure that the investors feel their contribution is necessary and valued, while also making it worthwhile for you as you bring your expertise and market knowledge to the venture.
Sources: https://www.wallstreetoasis.com/forum/real-estate/starting-your-own-shop-lp-debt-fund-vs-gp-dev-co-value-add?customgpt=1, Setting up Shop, How do you pay bills?, Do you think it's justifiable to ask for 25% of the GP for being the fund raiser for the projects?, Capital partner and Developer splits, How are you structuring equity split on personal deals?
Doubt an LP would cover the entire GP position and you just get fees. You have to put up meaningful $ like they are, I would think 20%ish of your NW if you're starting out, if not wait.
Everyone and their friend is going out on their own, why are you different. There are a lot of things that are taken care of at your current job you don't realize, as well as the cost.
Would this investor simply provide the GP co-invest? Or, will they also be required to fund deposits while under contract and/or sign on the loan docs for net worth requirements?
As for the previous comment about everyone going out on their own, I know way more shops closing at the moment than I do opening. I've only seen consolidation as of late, not too many new shops.
Im seeing shops open left and right. What shops specifically have you seen close / be consolidated?
Work for a pretty large LP that has historically given 100% equity. This was when money was a lot easier to raise (I.e. pre-2022) but we are still open to it in the right circumstances. You can always roll in your acquisition fee into the deal as equity as a starting point. You're promote hurdles will need to be high enough, and your fees will need to be relatively lean. Given you dont have a lot of mouths to feed that shouldn't be an issue for you.
If a GP rolls their acquisition fee into the deal, don’t they still need to pay taxes as technically it is income in the year of the acquisition?
Pretty sure it depends on if the acq fee is contributed to the promote entity (then technically an 'at risk' fee and gets taxed as carried interest rather than ordinary income?) or to the general LP pool (then viewed as ordinary income).
What do you think the split should be? How big of deal are we talking?
I think the best way, assuming the JV is going to create a platform that equates to <100m GAV (incl. financing costs) and it would be set up as a 10/90 structure, would be to:
1. Either, as someone suggested above, roll-up the acquisition fee and any other fees, like dev fee and AM fees, as part of your 10% contributions (if you charge 5% dev fee, I believe these would be more than enough to cover your 10% equity contributions given 50% development debt facility);
2. Or, pitch your business plan to one, maximum two, high net worth individuals, promising them a 10% return p.a. on their equity invested, and assuming your hurdles would be, for example, 10-on-10 (pref. return), 15-on-15, 25-on-20 and then promote 30/80, you would make the money on the promotes (past preferred return) and fees.
What you need is a Co-GP partner that will come into the deals and post up your equity contribution and cover any loan guarantees. A lot of times they'll have a network of LP investors as well to the extent you need additional equity.
There are a lot of smaller shops out there where that is their business model. From their point of view, they are taking the same risks as the LP but getting significantly better returns via a share of the promote and fees.
The Co-GP check sizes are small so it's generally family office type group or HNW individuals. Not really any institutional players that I'm aware of given it's a tough business to scale.
I would structure the first deal or two as almost a pure AM deal. Basically your firm gets a super strong performance carry bonus and a super minimal GP stake, I would say 1/3 to 1/4 of normal. Then you manage the assets as if you were a pure AM shop. You can draw down a bit of your return early to keep the lights on but this will let you get over the hurdle and prove yourself on your own. Then once that happens you can work up your GP stake higher and higher in the same manner or once your current net worth materializes you can invest directly as well.
As others have said a Co-GP is another option but those can be a bit more convoluted on the deal structure and responsibilities assignment. It is a common strategy, but just know that it will be more complex.
So how my current shop is set up as any deal I close is an automatic 10% of equity. These guys like to contribute the entire amount and own the deal outright outside of senior debt. This is very attractive, problem is I’m competing for $$ from the senior living, affordable, and development platforms as well. With it being near impossible to get deals done, we haven’t transacted for 18 months, and it’s getting frustrated.
The investor I’m talking to is a very high net worth individual that has zero exposure to multi currently so I think I could get favorable terms. Anything close to what I’m doing currently would be phenomenal, but understand that probably won’t be the case.
This isn’t a move necessarily to max out earning potential, although I think it would be best long term, but more so a play on having the freedom to transact at any time and not being reliant upon competing against others internally.
I think foregoing any equity upfront and only taking acq, AM fees,and a promote could be a good start for the first couple deals.
You don't want to take zero equity, more that you would just give up more than normal. In your 10% example you might take a 2.5% or a 3% equity slug in exchange for the LP funding the whole equity requirement. You can then roll your fees into the deal to cover that 2.5 - 3% therefore juicing the LPs return a bit. While getting your foundational tombstones down.
Do note, that just because you might have the freedom to do your own deals doesn't mean you will get any more deals done. It is an incredibly difficult market right now given cost of capital and asset prices. Also, have you been listed on a FM debt sheet before? If not you are going to need a co-gp regardless to sign on the debt. Getting FM debt requires a well defined track record.
Out of curiosity, how old are you?
32
As someone who started my own shop, I would lean more onto the acquisition fee and perhaps less profits at sale. Those fees go pretty quick when it takes 3-5 years to sell, or worse, you deliver the product into the market when values are depressed…
Now I’m not at all proposing to skin your investors alive by feeing them to death, but you’d be surprised at how much it takes to run a business and hire employees. I’m going on 3 years without profits now. Most people can’t or are unwilling to make those sacrifices and have a truly long term vision. They don’t seem too bad on a spreadsheet until you’re living it.
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