Structuring: Sweat Equity for GC
Looking to acquire 14 units.
The “GC” isn’t really a GC but can source off market deals & manage renovations under a separate license.
He’s been doing it for 4 years but is growing fast & is a reputable guy from references.
He’s willing to do Reno work for free too & have me just pay subcontractors.
All he wants is to get equity in the deals & get into Multifamily (he does single family now & is having trouble getting funding/capital).
I’m raising the capital, managing investors, managing the property manager, etc.
How do I calculate his equity?
I feel like having him get compensated in equity is good for me & the renovations of the property.
How should I structure his equity?
Should I pay him a sourcing fee so I don’t have to give up as much equity? Do I have him come in at an LP position, right?
All ideas, thoughts, advice are appreciated.
Based on the most helpful WSO content, here are some detailed suggestions for structuring sweat equity for your General Contractor (GC) in the acquisition of 14 units:
Structuring Sweat Equity for the GC
Equity Compensation Structure:
Preferred Return and Waterfall Structure:
Sourcing Fee:
LP Position:
Example Structure:
Additional Considerations:
By structuring the GC's compensation through a combination of sweat equity and possibly a sourcing fee, you align his interests with the success of the project while managing your equity dilution effectively.
Sources: How are you structuring equity split on personal deals?, Negotiating Participation - Boutique SoCal Development shop, Moving from Appraisals to REPE Acquisitions?, https://www.wallstreetoasis.com/forum/investment-banking/how-to-prepare-for-restructuring-technical-questions?customgpt=1, Structuring and Flow in an M&A Model
Bump
I haven't been there or done that, so take with a grain of salt, but to me the simplest approach is just give him the $ amount as LP equity instead of cash. On paper, it's the same for modeling purposes, model it as a cash outflow for GC fees, then simultaneously raise money from him as an LP.
Makes sense. Thank you!
At closing is there any impact? Like the outflow in GC fee being taxed before being reinvested in LP equity?
Oof, not sure, i can speculate but probably worth talking with someone who knows about that.
Appreciate the thoughts/insight
Having done this in the past with decidedly mixed results, here are some thoughts that may or may not be helpful.
First, this guy isn't a licensed GC and he only has four years of experience - is this really the partner you want?
He's also not really saving you any money; he's basically offering to throw in his GC fee, it sounds like, in return for a piece of the deal. Depending on what he's including, that's gonna be somewhere from 4-12% of the rehab cost - what is that actually worth? What is he asking for in return? Lets say you are going to spend $1mm so the math is easy - is he asking for an equity stake worth $40,000? Is he asking to be an LP or a GP? If the former, all well and good - payment in kind is fine as far as it goes.
If you pay him a sourcing fee, then you haven't actually changed the structure of the deal, you've just called his GC fee a sourcing fee and moved on. And you should 100% have him come in as an LP. As I said above, all he's really doing is paying for his equity position in kind - that isn't worth giving him a piece of the upside. Now, if he does the work AND puts in cash, it's a different story, but you have to ask what value he's providing and what he's asking for. Foregoing a fee is nice and may reduce your total equity raise, but it really doesn't translate to "I deserve a GP interest for this" in my opinion.
More importantly, though, is thinking about the future. What happens when you need to do a capital call? This guy is already telling you that he's cash poor - you'd be well-advised to assume that he won't be coming in for his pro rata share of a future capital call unless he can once again pay in kind, so you need to understand that you'll be covering that. What happens if he doesn't do an adequate job on his renovation work? Now you have the added complication that the GC you're fighting with to come back and finish the job is also one of your LPs (or worse yet, a partner in the GP). I guess you can structure your deal with him to protect against this, but at that point why bother? Just go out and actually hire someone you have a true arm's length relationship with and who you can treat as a contractor instead of a partner.
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