Group Investing

The Climate for Group Investing

Syndications offer a ray of sunshine for transaction brokers.

Today’s stormy real estate weather may be a good time for commercial real estate professionals to consider syndication as a way to expand their business opportunities. In particular, one of the dark clouds hovering over commercial real estate — less traditional debt financing — often encourages the growth of real estate syndication transactions. Syndication is merely the pooling of resources from multiple investors rather than relying on one investor to complete a transaction. Today’s tight lending has created an environment where multiple investors are needed to pool their resources to purchase commercial real estate. This offers a chance to specialize as syndicators or to create a new business line providing group investing. For CCIMs who are willing to face a couple of challenging issues, the syndication business can be quite lucrative.

Selling the Sizzle

The current syndication market appears to be a direct result of the collapse of the commercial mortgage-backed securities financing market in August 2007 and the subsequent absence of traditional sources of debt for the purchase of commercial investment real estate. (See “Syndication History.”) But despite this opening created by tight credit markets and the potential to purchase properties at discounted prices, syndicators still face two main challenges today when talking to potential investors. Investor hesitation . While abundant investment cash appears to be available, syndicators report that before they can present a particular offering to a potential investor they must take three steps. First, they must gauge the investor’s interest in the broad area of commercial and investment real estate. Not every investor is interested in investing in real estate during the current market, but those who are appear to be interested in current cash flow, upside potential through positioning a property, or buying a property at what they believe is a below-market price. They also see stability in the real estate market when compared to the uncertainty in other investments. Once past that barrier, syndicators need to educate potential investors on the benefits of the syndicator’s particular property focus such as apartments, self-storage, or development. Syndicators must identify the economic benefits of their product niche and match them to the economic benefits the investors are looking for. For example, a single-tenant, net-leased property will appeal to security-minded investors, but a raw land speculative development appeals to a different investor group. In addition, the syndicator’s track record, educational background, and individual investment experience will be reviewed before the potential investor decides to invest with the syndicator. Once those issues are resolved, investors are willing to look at a particular offering. But too often syndicators start by trying to sell the offering without first getting confirmation from the investor. Securities regulation . Real estate professionals themselves often are hesitant to get involved with the highly regulated area of securities, which includes group investing. When a syndicator asks an individual to invest money in a common enterprise such as a limited liability company and the investor expects to make a profit, and the profit will happen as a result of the syndicator’s action, it is likely that the investment will be deemed a security — even if the investors are friends or family. Every security offered must be registered with the Securities and Exchange Commission unless it is exempt. The syndicator must employ a securities attorney to guide the offering through state and federal securities laws that cover everything from what an investor must be told, to how the syndication can attract investors without violating the available exemptions, to the expensive and time-consuming process of registration. Even though a security is being offered, the syndicator rarely needs a securities license as there is an issuer exemption similar to the “for sale by owner” position in real estate. Syndicators can sell the securities they issue without a license, but they cannot sell anyone else’s and no one can sell theirs without a license. Every syndication offering has its own structure of investor returns and syndicator compensation. Syndicators should identify the fees and cash distributions they will take during the life of the project and then use a present-value approach to determine the compensation value in today’s dollars and balance the compensation against the perceived risk. Discount rates used by syndicators generally range from 15 percent on a relatively risk-free offering to 30 percent on a development project. Inexperienced syndicators sometimes structure the transaction to maximize yield to the investor and then just take what is left over. This is the wrong approach. The syndicator must first determine the appropriate level of compensation for the risk taken. Then the syndicator should determine if the amount left for the investors is adequate to attract the necessary capital. If it is not, the offering should be abandoned. An inappropriate approach may leave syndicators in a position where they are assuming all of the risks with few rewards.

Syndication Basics

The predominant syndication vehicle today is the limited liability company. The LLC entity offers the manager and the investor limited liability, while allowing the investors to be involved in management, depending on the language of the operating agreement. Most investors choose not to be involved in the day-to-day management, but the LLC format provides the option, as opposed to the more restrictive limited partnership format. The LLC structure provides for three types of offerings. Specific offering . The syndicator identifies one or more specific properties to be acquired in the offering and raises the amount of money needed to acquire the identified properties. This allows the investors to examine each property and make a decision regarding the investment potential of each property before they invest. This is the structure most often used and many syndication sponsors report that it is easiest to raise money with this strategy. Semi-specific offering . The syndicator identifies one or more specific properties to acquire and presents a business plan to the investors to raise funds to purchase additional properties that have not yet been identified. This offering is popular for syndicators who want to provide diversification to their investors and raise larger amounts of money without multiple offerings. Blind pools . The syndicator presents a business plan to the investors explaining how the syndicator will go about acquiring properties but does not identify specific properties. The investors must understand the business plan, see its value, and be convinced that the syndicator can succeed with the plan. Generally the syndicator must have a track record of doing specified or semi-specified offerings to be successful in raising capital for a blind pool. REITs . While not a vehicle every syndicator can tackle because of their complexity and cost, real estate investment trusts are very effective for pooling large amounts of debt or equity. In effect, a REIT is a corporation that issues shares to its investors. However, a REIT may avoid taxation at the corporate level under certain rules that include the requirement of having a minimum of 100 investors. The startup costs are substantial and the syndicator must deal with complex state and federal regulations. While the REIT may not pay taxes, the distributions to the shareholders may be taxable. There are non-traded REITs that are private offerings where the shares are not traded on any stock exchange and provide limited liquidity for investors. Publicly traded REITS listed on the various stock exchanges do provide transferability of the shares. Investor profiles . Individual investors have the most interest in syndications. These investors may not be interested in or capable of acquiring and managing commercial investment real estate by themselves. They are willing to pool their equity with others so that they can be part of an investment in a larger piece of property and take advantage of professional management. Many individual investors like the diversification available to them when they purchase interests in several syndications. Some institutional investors also are actively investing in syndications, placing their clients’ funds into institutional-quality real estate managed by syndicators with professional management skills.

Syndication Financing

Syndicators today face the same issues as any buyer when it comes to the availability of debt financing for commercial real estate. But syndications face additional hurdles in the underwriting process. The lender underwrites the property looking to see if the property can support the proposed loan. Lenders also underwrite the syndication group to determine creditworthiness, net worth, liquidity, and local property management expertise. They often require the group to personally guarantee a portion of or the entire loan. Currently, multifamily appears to have the best financing potential through the government agencies. Regional banks where the syndicator has an established relationship also are a source for financing, and some life companies may finance other property types. Depending on the particular transaction, it is not unusual for the lender to require that the syndicator have a net worth in an amount equal to or larger than the amount of the loan requested. The LLC often is required to have liquid cash equal to six months to 12 months of debt service. The lender also looks to see if there is local property management in place. These requirements often require the syndicator to involve sponsors or credit enhancers in the transaction, which usually increases the cost of the syndication. Lenders also are interested in members of the investor group who are not going to take an active role in management. Generally a lender will want to underwrite any member of the group that has more than 15 percent to 20 percent ownership in the group. Members also may be asked to sign personally. Today’s lack of available debt financing is driving investors to pool their resources to acquire commercial real estate. CCIMs considering the opportunity to provide services to these investors should make sure they understand all the issues involved. Eugene Trowbridge, CCIM, JD, is a recognized expert in commercial real estate syndication, a member of the CCIM faculty, and author of It’s a Whole New Business. Contact him at

Eugene Trowbridge, CCIM, JD

Syndication History 2002–2007 Typically syndications thrive during times of tight credit financing. However, an anomaly occurred during the real estate cycle from approximately 2002 through late 2007. During that period of abundant capital, the syndication market was very active, driven by the tenant-in-common industry. Investors who had purchased small investment properties in the 1990s had seen their equity increase dramatically. Plentiful financing allowed these investors to both sell their properties, realizing large gains, and also to pool their resources to acquire larger, less management-intensive properties than they could individually own. Investors wanted to move their equity through tax-deferred exchanges. One of the requirements of a tax-deferred exchange is that the exchanger relinquishes a deed to real estate and receives a deed to real estate. Since interests in partnerships and limited liability companies are personal property, not real property, the TIC structure became popular. Through a TIC syndication multiple investors were able to receive a fractionalized deed, basically an undivided percentage ownership, allowing them to satisfy the requirements of a tax-deferred exchange. Debt was plentiful and transactions were easy to complete. Almost all of the financing for TIC acquisitions came through the commercial mortgage-backed securities vehicles. It is estimated that in 2005 and 2006, the height of the TIC cycle, $5 billion of equity was moved into TIC syndications. But that syndication boom ended abruptly in August 2007 with the collapse of the CBMS market. Lacking CMBS financing, debt financing became scarce. The number of syndications employing the TIC structure diminished. A traditional syndication cycle, not utilizing the TIC structure, commenced and continues today, driven not by tax-deferred exchanges, but by the recognition that there are attractive buying opportunities present for entities that are able to pool large amounts of equity. Four Characteristics of a Security An investment of money In a common enterprise With the expectation of a profit Solely through the results of the syndicator


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