ADAM HOROWITZ, PRINCIPAL, LEVER CAPITAL PARTNERS
In seeking a joint venture partner for your project you’ll come across many equity investment sources today including high net worth individuals, family offices and broker dealers. This article will focus purely on Institutional Investors, which are organizations that pool large sums of money and invest those sums in real property. There are as many investment requirements as there are Institutional Investors but we’ll summarize many of the common characteristics of a deal worthy of their investment.
Real estate capital / equity is available in many formats so regardless of whether you’re trying to find a Limited Partner or Co-General Partner, each investment from an institutional party will be evaluated for the following; Sponsor Strength, Economic Viability, and Alignment of Interest.
Sponsor Strength –
Investors are looking for a sponsor with experience in similar deals, property types, and geographic market of the asset. They want a strong personal balance sheet and a focused team that spans the necessary requirements. When creating a joint venture most transactions will have a first mortgage as part of the deal and Limited Partners will not sign on any recourse or carve-outs as part of the JV. The same partner will be looking to their GP partner for relative expertise on the day-to-day operations of the real estate deal and they therefore must have complete confidence in their ability to not only manage the project during the good times, but also have the understanding of what to do when things don’t turn out as projected.
Economic Viability –
- Average total return targets (lower for strongest markets):
- Value-Add: 15-17% IRR/Equity Multiple Focused
- Opportunistic: 18%+ IRR/Equity Multiple Focused
- Capital structuring creativity utilized to solve risk and return requirements of investor & sponsor
- 10-15% sponsor co-investment capital required/meaningful dollar amount to sponsor in aligning partnership’s interests & goals
- Promote structures sized on a deal-by-deal basis/becoming more favorable to sponsors (particularly through competition)
- Cash-on-Cash Yield more important component of total return
Alignment of Interest –
Conceptually, the LP is a passive partner in the management of a fund. Investment and risk management considerations, for example, are entirely delegated to the GP. In most jurisdictions—and this is a major obstacle in enhancing the governance role of the LP—the LP will lose the limitation of liability if it interferes in management. As a consequence, LPs have limited rights to participate in day-to-day operations, challenge decisions of fund managers, or approve major transactions as board members in a publicly listed company would do.
The success of the partnership model relies on the interests of both parties being adequately taken into account. One way to address still existing shortcomings in the alignment of interests could be what we will call here an ‘Enhanced Alignment Model’. The goal of such a model is ‘defensive’—to ensure that the GP and its fund manager deliver on the agreed investment objectives, undiluted by other interests.
About Lever Capital Partners –
Lever Capital Partners represents private equity funds, developers and other market players in structuring and negotiating joint ventures, mezzanine loans, credit facilities, preferred equity, company acquisitions and other transactions related to real estate projects around the world. Drawing upon the firm’s traditionally strong real estate practice, we have experience with virtually every asset class, including hotels, resorts, gaming facilities, office buildings, retail centers, industrial facilities and residential and mixed-use projects.