Real Estate Glitter or Gold? A Guide to Avoiding Sh*tty Multifamily Syndications
This article is about doing DD on the GP. For a limited partner (LP) to “Know, like, and trust” their general partners (GPs) is good, but you need to do more due diligence (DD) in a syndicated multifamily investment than this. You need to do DD not only on the investment itself but also on the people behind the deal. You are investing in the GPs every bit as much as the asset. They are one in the same. Here are a few things to consider before participating as a limited partner in a multifamily syndication.
Book/Podcasts/Social Media
All this is great but mostly crap. Anyone can write a book or be on or have a podcast. These things do not equate to operational experience in the multifamily business. Experience equals experience. Nothing else.
I am not saying that books or social media is bad in any way (I have two books), I am only making the statement to YOU the LP that this is not nearly enough DD on your GP. It’s a start.
It has been my experience of 20 years in this business, that people who raise money for multifamily deals directly on the internet don’t have real relationships with real investors. If they did, they would avoid doing this in the first place. A great example of this has been the extraordinary rise and fall of crowdfunding for multifamily investments (too soon?).
Advertising your brand/company and creating value to others online is totally different and not what I mean here. I am speaking strictly about deals that are offered to investors on the internet. This is an entire 4th of July of red flags! Branding and product awareness is great but generally soliciting LPs on the web speaks to a lack of long-term relationships with investors in the multifamily space. This may be a good indication that the GP is very new to the business.
Numbers Don’t Lie
This statement may be true, but I have found that most general partners don’t have to lie or even “fudge” the numbers when presenting a multifamily investment to limited partners.
Why?
When it comes to multifamily underwriting, the LPs couldn’t analyze their way out of a wet paper bag. Most LPs don’t read past the first or second page of any investment prospectus because they really don’t understand what all that stuff is anyway. The front page had big returns in big bold print… so send them a check!
When I teach my students about multifamily underwriting, I always make the statement that “when analyzing a multifamily investment, you are not trying to arrive at the right answers, but the right questions to ask”.
If you don’t ask the right questions, you will never get the right answers. In the case of a limited partner investing in a multifamily syndication, the right questions to ask would be “how are the returns being projected?” and “what is creating those returns?”.
Is the deal making money right now or is it “projected” to make money someday. Big difference. If a deal is not creating the advertised returns the day the property is purchased, it is called a Value-Add investment. In short this means that the property will need to be renovated or improved in some manner, over a period to get the property to cash flow (or appreciate) enough to produce the profits the GP advertised.
If a property is producing enough cash flow to pay the advertised returns at the time of purchase (and your investment) then this is called a “momentum play”. If the asset needs to be improved to get it to make money, it would be a value-add investment.
If the property is a value-add and not going to cash flow for a while…, are you paying the GPs upfront before they get the property to make money?
Need a more in-depth discussion on multifamily underwriting in today’s world? Go HERE.
Acquisition Fee
An acquisition fee in a multifamily syndication is a one-time payment to the GPs, typically a percentage of the property’s purchase price (1-5% is normal). It compensates the sponsor for their efforts in finding, acquiring, and closing the deal. This includes tasks like market research, identifying the property, negotiating the purchase price, performing due diligence, and closing the transaction.
While I have no issue with an acquisition fee, if this fee is paid to the GPs at closing on a deal that is not actually making money yet, I have to wonder if the GP/LP interests are aligned here. The LPs are essentially paying the GP for a “good job” they have yet to do. Perhaps the GPs should be paid the acquisition fee once the deal is producing net positive cash flow? Just a thought.
DD on the GP
When it comes to the topic of doing due diligence on a general partner(s) I break it down into two subtopics. The GP personally and the GPs Portfolio (experience). The reason for the importance of this topic is that the GPs have total control of the investment in general. The property management company works for and is guided by the GP team (asset managers). There is no such thing as a bad management company, only bad owners.
The GP
- What is there general multifamily experience?
- Have they gone “full cycle” on any investments?
- What was the result?
- Can you speak with any of those investors?
- Where were they in 2008?
- This was the last “down” cycle in real estate
- Will they allow you to do a background and credit check on them?
- This may seem a bit forward, but I assure you that if they are good GPs they wont have any problem with it.
- Have they ever been in bankruptcy or foreclosure?
- If yes- when and why?
- If the GP has been in bankruptcy/foreclosure this is not necessarily a bad thing. I may mean that they have been tested and know what mistakes they made.
- I would be concerned if the GP wouldn’t discuss it.
The GP(s) Portfolio
If you are being presented with a multifamily investment opportunity, you need to not only consider the deal in front of you but also any other properties the GP team may have. The reason for this goes back to my comment about investing in the people behind the deal as much as the deal itself. If a syndicator has a portfolio that is not performing well, you may want to know this.
My suggestion is that you ask a few questions about the general partner’s other assets. Again, this may seem forward, but I assure you that what you might find could save you your investment.
- Does the GP own any other multifamily properties?
- Will they show you the financial data on those properties?
- Do they have any loans that are maturing in the next 12 months.
- If yes, this could indicate the GP is raising money for a new deal to “bailout” the last one.
- Are the loan payments current on all properties?
- Have they ever had to ask for more money from investors (capital call)?
Even though you may only be investing in the specific deal being offered to you now, the GP is being affected by their entire portfolio every day. If they are struggling with some of their assets, they may not be fully focused on yours.
Don’t be afraid to ask for this information. If someone wants you to invest your hard-earned money, they should be willing to answer any question put here. Do your homework on the deal and on the people.
Want to take a deeper dive into underwriting multifamily deals for LPs?
Join me for a FREE LIVE webinar where I will break down the multifamily math step-by-step. You’ll learn how to analyze value-add deals like a pro and make data-driven decisions to maximize profits and minimize risk when investing as an LP.
Here’s what you’ll get on the webinar:
- How to quickly and efficiently underwritea multifamily investment.
- Real-world case studiesto see how the concepts are applied in practice.
- A FREE Excel-based multifamily underwriting templateto streamline your analysis (for webinar registrants only).
Reserve your spot for the FREE webinar today! [Space is limited, so don’t miss out!]
Register HERE!
P.S. Even if you’re a complete beginner, this webinar will equip you with the knowledge and tools you need to get started finding value-add deals today.
Best of Luck!
Bill Ham
