REAL ESTATE FUNDAMENTALS & SYDICATIONSREAL ESTATE PRIVATE EQUITY

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RISK PROFILE• There are four main types

of investment funds which all target different returns.

• There is no bright line rule that separates these different risk types and people in the industry might argue there are additional risk tolerances in between.

• These transaction level returns are generally gross IRR, not net to the investors.

Core Funds 7% - 10%

Core Plus Funds

11% - 13%

Value Add Funds

14% -17%

Opportunity Funds

18% +

PRIVATE PLACEMENT MEMORANDUM

• Also known as a “PPM” or Offering Memorandum, this is a document that outlines the terms of securities to be offered in a private placement. Resembles a business plan in content and structure. A formal description of an investment opportunity written to comply with various federal securities regulations. A properly prepared PPM is designed to provide specific information to the buyers in order to protect sellers from liabilities related to selling unregistered securities.

• Typically PPMs contain: a complete description of the security offered for sale, the terms of the sales, and fees; capital structure and historical financial statements; a description of the business; summary biographies of the management team; and the numerous risk factors associated with the investment.

SPECIFIED VS. BLIND ASSET POOL

• Specified Asset Pool – An equity fund established to acquire specific, identified assets.

• Blind Pool – An equity fund established to acquire assets that meet certain criteria’s but that have yet to be identified.

PARI PASSU• Latin for “in equal proportion.”

• If you have a 95% / 5% relationship between JV partners, all Venture Costs, Cash Flow, Tax Attributes (i.e. depreciation) will be pari passu, in equal proportion (95/5), until the hurdle rate is satisfied and the GP gets promoted.

Preferred Return / Hurdle RateHurdle Rate - The internal rate of return that a fund must achieve before its general partners or managers may receive an increased interest (the promote) in the proceeds of the fund. Often, if the expected rate of return on an investment is below the hurdle rate, the project is not undertaken.

– This is also called the “Pref” or “Preferred Return.”– The higher the pref, the higher the cost of capital

for the sponsor.

PROMOTEOnce the pref/hurdle rate is fulfilled (and the catch up has been applied, if any), the LP is “promoted” to a higher percentage.

– For example, if you have 95/5 partners and the deal calls for an 8% preferred return (IRR) (the hurdle rate), once the IRR exceeds 8%, the interests will switch to 80/20 and the LP has received a 15% promoted interest.

• There is sometimes what is called a “Super Promote” that will create a second hurdle rate and higher promote (60/40 or 50/50) after this hurdle is reached.

– The “Promote” is also sometimes called the “Carried Interest” which there has been a lot of discussion about changing the method of taxation.

PREF’S AND PROMOTEGP (Fund Sponsor) LP (Investors)

Initial Equity Investment $50,000 $950,000Sales Proceeds ($2,000,000)Preferred Return (8%) $4,000 $76,000Return of Equity $50,000 $950,000Balance of Sale Proceeds ($920,000)If Pari Passu $46,000 $874,000Promote Split (20%/80%) $184,000 $736,000

Total Cash Received (ROE) $238,000 (476%) $1,762,000 (185%)

Assumptions: 95/5 Split$1 Million Investment8% Proffered ReturnProperty Is Held for One Year

80/20 Promote$2 Million upon DispositionCash Flow IgnoredAll Fees Ignored

Catch Up’sOnce the returns exceed the pref and both the GP and LP have received their equity and pref, the LP sometimes receives a preferred payment to the hurdle rate. Once the hurdle rate has been achieved by the GP, the LP “catches up” to the GP at the hurdle rate.

CLAWBACK PROVISIONS• The clawback provision is sometimes called a

"look-back," because it requires a partnership to undergo a final accounting of all of its capital distributions when the fund is wrapped.  

• This task is designed to ensure that the G.P. receives no more than its fair share of the profits.

SQUEEZE DOWN FORMULASIf any partner fails to make a required capital contribution, their interest in the investment vehicle is “squeezed down” to balance out for the additional capital funded by the contributing partner.

– This would also most likely constitute a default under the organization documents.

ROUND TRIPPING THE ASSET(S)

This is the process of acquiring and then disposing of the asset. Round Tripping is usually discussed in the context of track record. If you have not round tripped the asset, then your returns are all projected and hypothetical versus if you have disposed of the asset and have actual returns to report.

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