Real estate syndication is when a group of investors put their monies together to buy income-producing properties. By coming together, less is required from each investor to acquire a property. It enables numerous persons to take a small share in a project thereby spreading the risk such that the outcome; positive or negative, is distributed among the group. The concept of real estate syndication began with friends who know themselves but today, technology has revolutionized syndication into many forms and many thousand individuals can remotely be involved.
Syndicates have two major parties:
the Promoter or Sponsor and the Investor. The Promoter identifies and secures a property; bearing all the initial acquisition costs. The promoter then issues out units in the property and reaches out to investors who join the deal through subscription agreements. The Promoter must attract enough funding from investors to meet the required payment for the property. When enough funds are not secured, the funds are returned to the investors or the parties agree to transfer the funds into another deal
The acquired asset is managed by the promoter or an appointed manager.
The day-to-day management of the property and the eventual investment rewards are thus dependent on the abilities of the manager. Syndicate investors are passive partners who through the structure of the investment entrust their assets in the care of the promoter who must ensure the investment meets its expectations.
What attracts real estate syndicate investors?
The capital growth potential of real estate entices many investors. Deals must therefore have appealing returns as investors want to explore the enduring nature of properties including appreciation and the effect of inflation on prices. Equity gains when the asset pays off its debts and of course; cash flow. The desire for real estate ownership also influences investors to join syndicates. The benefits of syndicate investing also include access to bigger deals with lower capital requirements and professionals at lower fees.
Dangers of Real Estate Syndication
The risks in syndicate investing include the dangers of real estate investment in general.
Limited investor control
The passive involvement of investors in property management decisions leaves the performance of the asset with the promoter or the manager. The management of the asset, financial decisions, legal actions, and investor management becomes reliant on the judgment of the manager. Even though this elimination of direct management responsibility is welcome by many, it also increases the risk to the investor.
Liquidity is the ease with which an investor can convert his interest in an investment into cash or another acceptable medium without shrinkage in value. Even though liquidity challenges are general with real properties, it is particularly significant with syndicates because the partnership is closed-end. It is therefore difficult for an investor to trade interest in the asset as quickly as possible due to the absence of a formal secondary market. Even though syndicate managers may have informal markets to do this there are no guarantees. The ease with which rights in a property can be transferred also affects liquidity. The processes involved in rights transfer may take so long that payment timelines can become unfavorable to the existing partner.
Due diligence by syndicate investors
The general protection of the investor’s interest is entrusted to statutory regulators such as the Securities and Exchange Commission (SEC) but the individual investor should conduct his independent due diligence on the viability of a deal; whiles regulation may enforce compliance and protect rights, it does not guarantee profitability.
An investor should interrogate the financing structure of the investment to know the debt involved, lenders, maturities, repayments, fees, and charges incident on the property as these are the major demands on cash flow. Profitability from the venture is largely dependent on the abilities of the promoter and or manager. The latter must demonstrate capacity and commitment to investors’ funds. Investors should carefully examine the ownership structure and exit strategy of the syndicate and how individual partners can exit the investment.
Real estate syndications have improved from a clique of only a few individual partners into global platforms with large institutional promoters offering deals that thousands of investors can access remotely. The principles however have not changed. Investors can take advantage of this strategy to invest and own interest in real estate.