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Tag: private equity investing

  • Is the US Real Estate Market Finally Starting to Cool Off?

    According to recent trends witnessed primarily in California, but largely nationwide, the supply in the housing market appears to be growing, while the demand is shrinking. This is what experts are counting on leading to a “cool off” period in real estate prices. “Today, week after week, we see more and more inventory come on the market and demand is down,” said broker Justin Itzen. He added, “Buyers have more to choose from, they can be more selective” (Moscufo, ABC News). Taylor Marr, chief economist of Redfin, echoed a very similar narrative. Marr made a distinguishment between expensive coastal markets and cheaper, rural housing markets. As Itzen’s remarks indicated, Marr concurs coastal cities located in California, New York, etc. will witness most of the impact.

    But that still leaves the larger question unanswered; are we looking at a nationwide real estate cooling period? According to an investors report Redfin released at the very start of August 2022, the share of home listings that have been on the market for more than 30 days has increased more than 12% from 2021. Due to inflationary effects, interest rates for average mortgages were between 5-6% in July 2022, compared to 2-3% July 2021. Inflation and rising prices (or rates) go hand-in-hand, but this increase is steep enough to leave tangible impressions. With more listings, dropping prices, and definite near future housing market uncertainty, we’re hopefully finally entering a buyer’s market.

    Importantly, Iesha McTier-Whyte, a broker selling middle to high-end homes in Newark, NJ advised she’s seen the same pattern. However, she doesn’t view it as a bad thing. “It’s nice to see [the market] cool down and kind of go back to the basics,” McTier-Whyte said. “What we experienced last year was like no other”. Itzen’s partner, Gio Helou, remarked “buyers are [now] able to actually go through the natural home buying process”. Assumingely, Helou meant that buyer’s now have the luxury of options. They no longer have to make the same kind of extraordinary sacrifices to simply purchase a family home.

    At one point, “homes were going within days for way over the asking price,” said Tim Sherman, a prospective homebuyer. When he and his wife found a home in Huntington Beach, CA, they began considering liquidating investments to purchase it. Not only “15% over the asking price,” commented Sherman, “but it was now over the market estimates of what the property was worth” (Moscufo, ABC News).

    The end to Sherman’s story really ties into the underlying assertion of this article. That first house fell through, but he and his wife did wind up purchasing a home. As soon as they saw the photos their broker sent them, they put in an immediate offer. Their former home in Dallas then sold in just one day (Moscufo, ABC News). If that’s any indication of the market dynamics moving forward, expect lower prices, more supply, and increased quality listings. A true win-win, both for individual homeowners and for real estate investors. As for the critics who continue to say there’s somewhat of a 2008-like “housing bubble” getting ready to pop, there’s little quantitative evidence to support the theory. Yet even the critics concede:

    “There is now a huge supply of new houses for sale, in all stages of construction, over 9 months’ supply in total, according to the Census Bureau. In terms of the number of houses, by June [2022], there were 463,000 new single-family houses at all stages of construction for sale, the highest since May 2008, and up by over 30%, from a year ago.”

    -Wolf Richter, The Wolf Street Report

    Their perspective is investors need to remain patient, as market conditions are continuing to return to their equilibrium. After what we’ve witnessed with the COVID-19 global pandemic, anything is possible, but conceptually, our economy isn’t close to the same state it was in heading into the 2008 financial collapse. We have far more restrictions on speculative investments, strict leverage ratios, mandatory reporting requirements, etc. The lessons of 2008 essentially taught us how to avoid widespread economic fragility when a significant market starts looking vulnerable. Additionally, the credit worthiness, financial disclosures, and ability to repay have all tightened considerably for buyers. Time will only tell whether we are in the midst of a “cooling off” period, or if we’re about to witness about bubble bursting. From our research and observations, we see it as more of a buyer’s market than a ‘fragile’ housing market.  

  • What is a Private Equity Real Estate Fund?

    In the simplest terms, a real estate private equity fund is a partnership established to raise equity for ongoing real estate investments (Bond, NAIOP). A general partner (GP), most frequently referred to as the “sponsor”, creates the fund. The sponsor asks investors, known as limited partners (LPs), to invest equity in the fund or partnership. Those funds, along with money borrowed from commercial banks, investment banks, public institutions, asset managers, and other lenders, are supposed to be invested in a variety of real estate development or acquisition opportunities.

    Typically, the LPs provide the bulk of the equity capital and are passive investors, who have actively chosen to invest in an offering, which was presented by the sponsor. LPs earn an early return of capital and a preferred return on capital invested (Bond, NAIOP). Sponsors are in charge of providing the equity capital, securing investment opportunities, managing the real estate and the fund, and earning fees (that typically are based on performance).

    A real estate private equity fund differs from capital that comes from friends and family and joint ventures. A differentiating example of a joint venture could be among a landowner, a developer, and a money partner. None could complete the investment without the others, and the joint venture is specific to just one investment. Real estate private equity funds, on the other hand, are created to invest in a series of deals with a standardized risk and reward structure created for the overall fund in which the sponsor and LP participate unequally (Bond, NAIOP).

    What are the Sponsor’s Motivations?

    While there are arguments for a laundry list of motivations, we’ll highlight the general motivating factors for sponsors.

    • Diversify and expand funding sources, as well as holdings

    A sponsor with a pipeline of potential investments can use a fund to take advantage of a portfolio consisting of a variety of deals that would not otherwise be available. The capital-raising strategy should, however, focus on the sponsor’s history, the experience of the team, the potential for returns, alignment of interests and clearly identified opportunities. The most reputable developers with the best track records are able to find investment opportunities in their home markets that are outside their traditional property type focus, opportunities outside their historical geographic focus, or some combination of both (Bond, NAIOPI). A private equity fund has the potential to provide the scale that will allow the sponsor to fully take advantage of these opportunities, thereby generating returns over a much larger capital base and likely even lowering the risk of the firm.

    • Invest in larger and higher quality projects

    A sponsor that has capital constraints can use funds to invest in larger and more complex projects. Conversely, more partners also enable the developer to share the risks with their investors to create a better risk-return balance on large, complex projects that the sponsor would not be able to take on alone.

    • Obtain better terms from banks and other lenders.
    • Provide an alternative to mezzanine capital.
    • Develop projects using fund-level financing in lieu of project-by-project financing.
    • Earn fees from the fund, including a promoted interest. 

    The “Three Key” Considerations to a Private Equity Real Estate Fund

    While an argument could be made for a myriad of factors that are critical to take into account when setting up a private equity fund, three key considerations standout. These are pillars to success in establishing the fund and efficiently raising capital from the limited partners.

    1) Amount of Equity Capital to Raise

    The first consideration is the amount of equity capital that ought to be raised. This should include organizational fees. The minimum private equity fund size is generally considered to be $20 million. While organizational costs are generally proportional to fund size, the floor for organizational fees is about $400,000. While the sponsor recoups these fees from the fund once the capital is raised, the sponsor must carry these costs during the fund’s formation period. Examples of these costs include: formation costs for the legal entity or entities, filing fees, accounting fees, regulatory brokerage costs, clearing costs and the cost of producing marketing documents (Bond, NAIOP).

    While the fund’s equity capital is typically combined with debt capital to create a total pool for investing, a successful fund needs to balance potential deal flow with the fund’s size to ensure that the fund can produce sustainable returns for the LPs, and that it doesn’t become too small, such that a follow-on fund might need to be launched. The timing of flows to and from the fund should also be considered. In general, LPs begin earning a preferred return on their capital as soon as the funds are invested. Therefore, in addition to obtaining a commitment from each LP for the total investment amount, astute sponsors stage the pay-in to match the fund’s anticipated timing of investments.

    2) Realistic Amount of Time, Energy, and Seed Funding Required

    Sponsors must be clear-eyed about the time, energy and seed funding required to launch a fund (Bond, NAIOP). The sponsor is responsible for all aspects of the fund: organizing the fund, which includes generating a partnership agreement, offering and subscription documents; securing investment opportunities; securing loans and other financing; managing the fund; operating the properties; preparing partners’ tax returns; and responding to accounting and audit matters, and this is to name only a few of the highlights. These responsibilities put the sponsor is under a constant, daunting amount of pressure. You may have the financial acumen, but you may not have other traits essential to being a successful sponsor.

    3) Clear Investment Fund Strategy

    It’s imperative for sponsors to have a clear and easily understood investment fund strategy. This differs from the market fundamentals, property type, and location strategies that dominate traditional real estate investing assessments. Though experienced sponsors and the largest funds may be able to raise funds for a “blind pool” – a fund for which no individual investments are identified – first-time sponsors typically must identify specific investments that are included in the fund’s offering memorandum.

    Concisely, there’s a lot of complexity to operating or owning a private equity fund that we didn’t get to. However, our goal was to cover the core basics. What is a private equity fund, how is it set up, and what are the key takeaways? We hope this piece was helpful and educational for those interested in private equity.

  • What is a Private Equity Real Estate Fund?

    In the simplest terms, a real estate private equity fund is a partnership established to raise equity for ongoing real estate investments (Bond, NAIOP). A general partner (GP), most frequently referred to as the “sponsor”, creates the fund. The sponsor asks investors, known as limited partners (LPs), to invest equity in the fund or partnership. Those funds, along with money borrowed from commercial banks, investment banks, public institutions, asset managers, and other lenders, are supposed to be invested in a variety of real estate development or acquisition opportunities.

    Typically, the LPs provide the bulk of the equity capital and are passive investors, who have actively chosen to invest in an offering, which was presented by the sponsor. LPs earn an early return of capital and a preferred return on capital invested (Bond, NAIOP). Sponsors are in charge of providing the equity capital, securing investment opportunities, managing the real estate and the fund, and earning fees (that typically are based on performance).

    A real estate private equity fund differs from capital that comes from friends and family and joint ventures. A differentiating example of a joint venture could be among a landowner, a developer, and a money partner. None could complete the investment without the others, and the joint venture is specific to just one investment. Real estate private equity funds, on the other hand, are created to invest in a series of deals with a standardized risk and reward structure created for the overall fund in which the sponsor and LP participate unequally (Bond, NAIOP).

    What are the Sponsor’s Motivations?

    While there are arguments for a laundry list of motivations, we’ll highlight the general motivating factors for sponsors.

    • Diversify and expand funding sources, as well as holdings

    A sponsor with a pipeline of potential investments can use a fund to take advantage of a portfolio consisting of a variety of deals that would not otherwise be available. The capital-raising strategy should, however, focus on the sponsor’s history, the experience of the team, the potential for returns, alignment of interests and clearly identified opportunities. The most reputable developers with the best track records are able to find investment opportunities in their home markets that are outside their traditional property type focus, opportunities outside their historical geographic focus, or some combination of both (Bond, NAIOPI). A private equity fund has the potential to provide the scale that will allow the sponsor to fully take advantage of these opportunities, thereby generating returns over a much larger capital base and likely even lowering the risk of the firm.

    • Invest in larger and higher quality projects

    A sponsor that has capital constraints can use funds to invest in larger and more complex projects. Conversely, more partners also enable the developer to share the risks with their investors to create a better risk-return balance on large, complex projects that the sponsor would not be able to take on alone.

    • Obtain better terms from banks and other lenders.
    • Provide an alternative to mezzanine capital.
    • Develop projects using fund-level financing in lieu of project-by-project financing.
    • Earn fees from the fund, including a promoted interest. 

    The “Three Key” Considerations to a Private Equity Real Estate Fund

    While an argument could be made for a myriad of factors that are critical to take into account when setting up a private equity fund, three key considerations standout. These are pillars to success in establishing the fund and efficiently raising capital from the limited partners.

    1) Amount of Equity Capital to Raise

    The first consideration is the amount of equity capital that ought to be raised. This should include organizational fees. The minimum private equity fund size is generally considered to be $20 million. While organizational costs are generally proportional to fund size, the floor for organizational fees is about $400,000. While the sponsor recoups these fees from the fund once the capital is raised, the sponsor must carry these costs during the fund’s formation period. Examples of these costs include: formation costs for the legal entity or entities, filing fees, accounting fees, regulatory brokerage costs, clearing costs and the cost of producing marketing documents (Bond, NAIOP).

    While the fund’s equity capital is typically combined with debt capital to create a total pool for investing, a successful fund needs to balance potential deal flow with the fund’s size to ensure that the fund can produce sustainable returns for the LPs, and that it doesn’t become too small, such that a follow-on fund might need to be launched. The timing of flows to and from the fund should also be considered. In general, LPs begin earning a preferred return on their capital as soon as the funds are invested. Therefore, in addition to obtaining a commitment from each LP for the total investment amount, astute sponsors stage the pay-in to match the fund’s anticipated timing of investments.

    2) Realistic Amount of Time, Energy, and Seed Funding Required

    Sponsors must be clear-eyed about the time, energy and seed funding required to launch a fund (Bond, NAIOP). The sponsor is responsible for all aspects of the fund: organizing the fund, which includes generating a partnership agreement, offering and subscription documents; securing investment opportunities; securing loans and other financing; managing the fund; operating the properties; preparing partners’ tax returns; and responding to accounting and audit matters, and this is to name only a few of the highlights. These responsibilities put the sponsor is under a constant, daunting amount of pressure. You may have the financial acumen, but you may not have other traits essential to being a successful sponsor.

    3) Clear Investment Fund Strategy

    It’s imperative for sponsors to have a clear and easily understood investment fund strategy. This differs from the market fundamentals, property type, and location strategies that dominate traditional real estate investing assessments. Though experienced sponsors and the largest funds may be able to raise funds for a “blind pool” – a fund for which no individual investments are identified – first-time sponsors typically must identify specific investments that are included in the fund’s offering memorandum.

    Concisely, there’s a lot of complexity to operating or owning a private equity fund that we didn’t get to. However, our goal was to cover the core basics. What is a private equity fund, how is it set up, and what are the key takeaways? We hope this piece was helpful and educational for those interested in private equity.