My friend was going through Craigslist.org and came across cheap boats for sale. Growing up, his parents were avid sailors, but he liked speedboats. Wanting a boat for many years, but lacking the monetary funds, he found one that was a great buy on the Internet. Searching his mind, he decided to call a few friends to see if they were interested in investing money with him to purchase a boat. He was able to persuade a few friends to invest money with him in exchange for an interest in the boat. I got a call from my friend telling me how great it was to own a boat again. Combining funds to purchase an asset can be called syndication. A tool used by many real estate investors, syndication is one way to gain control of a real estate asset.
The idea of buying a real estate asset with multiple investors is not new. In this lending environment, it can be an attractive way to invest in property. However, the one benefit of syndication is taking funds from multiple sources, increasing purchasing power and breaking through the barrier of entry.
Let me start by saying, syndicating a real estate deal without any real estate experience is not a good idea. When you syndicate, you are using other people’s money to control a property. There are many ways to syndicate a property with the sponsor putting in 0 percent to 99.9 percent of the funds, but to keep it simple I am first going to describe a syndicated deal where the sponsor receives a percentage of equity proportional to their initial investment.
Bob wants to buy a condominium, but realizes prices are high. He has $50,000 for a down payment but does not want to spend more than $300,000 on a purchase. On top of that he wants to stay close to his office and continue to live in Santa Monica. Furthermore, he wants two bedrooms. Watching the marketplace daily, Bob has found nothing in his price range. After talking with friends, he discovers that three friends want to buy, but are also limited in what they can afford.
Running numbers, Bob figures out that him and his three buddies can combine down payments and purchase a four-unit property. With a four-unit property Bob notices the economies of scale. Now he can get more property per square foot. With his three buddies Bob now has the purchase power of $1,000,000 with a 20 percent down payment ($50,000 x 4 = $200,000). Now Bob and his friends can each own and live in a unit like a condo, but unlike a condominium there are no monthly association fees. After a few weeks, Bob runs into an owner who is looking to sell a fully vacant four unit property north of Wilshire. Able to close quickly, Bob negotiates a great price and is able to purchase the four unit building with his friends.
In the example above, everyone in the syndication owned a portion of the property equal to their down payment. However, real estate syndicators or sponsors, which are the individuals/companies that run real estate syndication, often have different ownership structures. As every real estate syndicated deal is different, it is impossible to generalize the structure. However, for the purpose of explanation, I will give an example of a syndication opportunity that was personally presented to me.
The deal was for a 33-unit apartment property. Asking price was $4,575,000, but the syndicator locked up the deal for $4,000,000. The apartments had tremendous upside and the property was in a Westside location in a strong rental sub-market. The sponsor had already raised the cash for the acquisition. Now he was positioning the property for equity investors, who would pay off the loan used for acquisition. The sponsor took 15 percent of the equity with the remaining 85 percent raised by investors. For their equity, investors received a 5 percent return on their investment. However, the sponsor was going to raise rents over time and renovate units as they became vacant. After 5 years, the sponsor projected an 8 percent year-on-year return to investors. At the sale of the property, the sponsor returned the investors initial investment plus 20 percent. Any profits over that amount were split down the middle with the sponsor getting 50 percent and the investors getting 50 percent.
If you are in the marketplace for a property and have financing or real estate experience, but have found it difficult to buy because of a lack of capital or difficulty attaining financing, syndication maybe a viable option. Albeit difficult at first to find investors, raising capital is much easier with the right deal. Remember, as a syndicator you need to provide a profit to the investors. If you are diligent in selecting and executing your first few deals, the returns will speak for themselves. Once you have gained the confidence of your investors, the only limit is your ability to find the deals.
Mike Heayn is a commercial loan consultant specializing in multi-family lending. He can be reached at (310) 428-1342 or maheayn@yahoo.com.
