Investing in private equity commercial real estate partnerships (LLCs, LPs, Etc.) is the best way for investors to participate in commercial real estate deals in my opinion. Here is why:
- Access to More Opportunities – By pooling funds together with other investors, passive investors can get involved in deals that they could not acquire on their own due to capital constraints. Even the wealthiest individuals and institutions in the world cannot buy every asset they want. By investing in partnerships and pooling funds, investors can access deals they couldn’t do on their own.
- Ability to Invest in More Deals – Since you do not need to commit 100% of the equity to a given transaction, you can spread capital out by taking advantage of multiple opportunities. This diversification reduces risk and allows better performing deals to carry ones that don’t perform as well.
- Less Risk – Aside from a pure diversification standpoint, if an asset requires a capital call for a new tenant fit-out or a large capital expenditure item, the partnership takes it on. If an individual owned it outright they would have to stomach the entire bill.
- Leverage Off Of Experienced Sponsors – A competent and savvy sponsor will have more resources, experience, and relationships than most one-off investors. Because of economies of scale, a sponsor will be able to utilize a team to help with leasing, legal, accounting, and development. A one-off investor does not have the economies of scale to profitably support an entire team of professionals for one or two assets. This is probably the single greatest reason to invest in CRE partnerships.
- Passivity – In a limited partnership or non-managing member LLC situation, investors are totally passive. Their total involvement in the deal is committing capital and earning a return. While sponsors earn fees for running a deal, paying these fees is usually an easy pill to swallow when you think about what goes into operating commercial real estate assets.
The keys to a successful commercial real estate partnership are as follows:
- Good Deal – This goes without saying. If your partnership is overpaying or buying the wrong asset, it will be hard to be successful, regardless of who is running the transaction. The asset and merits of the deal trump everything else.
- Straightforward Business Plan – Just like any other business, each real estate asset needs a business plan. More importantly than a good plan is the sponsor’s ability to execute on said plan.
- Experienced Sponsor – You want to invest with companies that have a proven track record of success. Successful sponsors have all of the relationships and key personnel on staff or retainer to ensure an asset is managed properly and reaches its full potential.
- Alignment of Interests –This is very important. You want to make sure that the sponsor derives the majority of their compensation when the investors win first. This is simply an exercise in human nature. When everyone’s goals are aligned, things always tend to work out better.