Given the role of a sponsor in a real estate development project, it’s imperative that the sponsor be highly experienced, and qualified. The sponsor generally brings significant expertise to an investment – whether about the track record of past work, the local market and/or the asset class. Investors should feel confident that the sponsor has a solid reputation, strong track record, liquidity, all other essential skills and expertise needed to manage the project through its entire lifecycle.
Not all sponsors are created equally, and some are much more qualified than others. In reviewing potential investments, all real estate deals start with a promise of high returns. At the end of the project, some deals will exceed projections while others will fall short, and many will lose some or all of your money. The challenge for individual real estate investors is trying to figure out which opportunities will meet or exceed expectations, and which ones will become a tax deduction, and something to learn from.
It’s the sponsor who makes all the decisions. Investors are generally passive, so the sponsor decides what price to pay for a property, establishes a strategy, decides how to execute the value-add plan, and how to navigate the process when things eventually go wrong. A good manager will be realistic and reasonable about projections and estimates.
So, how can you tell who you are working with? Here are some things to think about, or questions to ask when evaluating the capability of a sponsor:
Does the sponsor have their own money in the deal?
This is an important question, and one of the first that comes up in our calls with potential investors. The sponsor should be investing a significant amount of his or her own capital along with the investors. A partner having ‘Skin in the game” ensures that all parties are aligned to have the same successful outcome on a project.
Have any of the sponsor’s prior projects failed to meet expectations?
Any experienced Sponsor is going to have deals that went well and some that didn’t. This isn’t always a red flag. A sponsor that has been in business through multiple real estate cycles will likely have some blemishes on their record—it’s just important to understand what happened and how they adjusted during the project. In addition, we would suggest you ask that if they did have a deal that did not go as planned, ask what did they learn, and how does that carry over into their current deals. You’ll want to know that even when a project hits a snag, the sponsor is committed to keeping investors updated, and working through the tough times.
What is your strategy? How do you achieve it?
Our strategy is to maximize the bottom line and investor return by acquiring and enhancing projects through the application of proven experience in real estate investment, management, development, and sales. We focus on projects below the institutional size, in established or up-and-coming areas where we can create value. We look at projects that have multiple exit strategies, where we can maximize investor returns in different parts of the market cycle.
How does the Sponsor communicate with Investors?
Communication is often overlooked, but it is essential to a successful sponsor / investor relationship. Its important at all phases of a project, but especially when the market hits a downturn. Good managers should provide timely and accurate reporting because there is nothing worse than being in the dark and not knowing where your investment is, or how it’s doing. Investors should ask for sample reports from sponsors latest deals and make sure they are delivered quarterly. Take note of what the reports cover and if the manager updates investors about both good and bad news.
Another aspect is how is the information available, or where is it kept? Does the manager have an investor portal, that is secure, where investors can have access to all their documents when they need them.What systems does the sponsor have to ensure proper management of the project?
Evaluate their processes end-to-end, from underwriting, design and construction – all the way through leasing and stabilization. You’ll want to be sure the sponsor is very deliberate in how it manages the project and the schedule he keeps in doing so.
Ask for References
Like with any other important decision – like a job interview or vetting a company, getting references is one of the essential steps when choosing a sponsor.
If the sponsor had previous deals, you may be able to ask for references of investors who had previously invested with them. One of the best questions to ask is if they would invest with this company again, how communication with investors was, and did they meet tax returns and financial reporting deadlines.
What fees does a Sponsor charge?
Fees are a part of evaluating a sponsor and it is important to understand the fees charged in a deal. Real estate investing requires a dedicated team of people to be successful and transaction fees help pay for that team, so fees are essential – but they should be understood by all investors.
In real estate investment management, there are usually two types of fees: transaction fees, which are secured and used to operate the investment over the life or term of the asset, and performance-based fees, which are paid at the end of the project cycle, based on success of how well the investment does.
Performance-based fees tend to be similar across most investments or sponsorship structures, but transactional fees can vary and be very different from deal to deal. Most investors would prefer to have all fees back ended and based on performance, and sponsors would love to have all the fees guaranteed, but that misaligns interests on both ends. The right balance is a combination of both, so the sponsor can keep the office running, build and keep a great team, and be incentivized to do well.
That said, one should understand what services are being provided, and are the fees charged for those services market rate. Sponsors can deliver a variety of services, so its good to understand how it works.
May I withdraw or cancel my subscription request?
This question is one not asked often, but it comes up on occasion and it can be important to new investors. If an investor commits to the project, and given the illiquidity of real estate investments, when does and investor get locked into deal.
Different sponsors have several processes for this this question, but for example at Mortar, if Interested investors sign up for a project, they are not committed, and an offer may be cancelled at any time before documents have been accepted and executed by the Managing Member. Once subscriptions have been accepted. Investors also have a 30-day no risk period, in which any investment commitment may be canceled for any reason within 30 days of funding