I’m a passive investor. This means that I’ve cultivated a diversified portfolio of investments that provide me with cash flow on a regular basis and leave me at liberty to do the things I really care about every day. It also gives me the opportunity to put my dollars to work in the world in ways that are important to me. For example, my wife and I invested in the Broadway musical Hamilton. I have personally invested in several thousand apartment units across the country. As a result of my experience and diverse investment history, I’ve seen deals from all sides of the equation — leading me to take on the role of sponsor in deals.
* This article was first published in Forbes.
I’ve learned how to make money as a passive and active real estate investor through trial and error. I’ve engaged in good deals and bad — all while learning what was important to me in a deal. I worked to understand what success really meant to me and why. My experience showed me there are three things that you need to look at when you’re vetting a syndication: the sponsor, the market, and the deal.
When considering any deal, you need to look first at who is running it — who are the sponsors? You can have a great deal in a fantastic market, but if the sponsorship team doesn’t know what they’re doing, you’re toast. Vet who you are working with very carefully. Do your research before you invest because if you invest, you’re going to be handing them tens or even hundreds of thousands of your hard-earned dollars. Make sure that they are a good match for you. I personally want a sponsor who shares my communication style, my management philosophy, and my values. To determine what you want, here are some questions to ask yourself about the sponsor, the deal, and the market — along with a simple yes, maybe, and get lost key for how to evaluate your answers.
The Sponsor
How did you meet the sponsor?
Yes: The sponsor is from a personal referral, preferably from someone who has invested with them before.
Maybe: They are someone you’ve found online who has been in the business for some time.
Get Lost: They connected through an unsolicited email or social media message.
What is their track record?
Yes: They have completed multiple full cycle deals with positive results.
Maybe: They have multiple deals performing at, or close to, projections.
Get Lost: This is their first deal, but they just finished a great online program.
Is compensation commensurate with experience?
Yes: They have a strong track record with fees in the 1% to 3% range and retain approximately 30% of the equity in the deal.
Maybe: They have a weaker track record but are taking less equity and lower — or eliminating — certain fees.
Get Lost: They have never done a deal before but are charging large acquisition and other fees.
Do you share the same investment philosophy?
Yes: You have had conversations with the sponsor, and you are aligned.
Maybe: You may have some variances of opinion, but generally you agree.
Get Lost: The sponsor can’t articulate their philosophy.
The Market
Is the chosen market poised for growth?
Yes: The market has above-average population and employment growth.
Maybe: It has slow and steady population and employment growth.
Get Lost: It has a declining population and employment.
What are the employment opportunities?
Yes: Diverse employment across several different industry types.
Maybe: At least three different major employers across three different industry types.
Get Lost: A vast majority of employment is from one company.
Is this a place you would want to visit?
Yes: The property is nice and clean in a city you would like to visit.
Maybe: It’s a good property in a place you wouldn’t mind visiting.
Get Lost: The property is in a place that you would be afraid to visit on your own.
The Deal
What are the specifics of the business plan?
Yes: The focus is forced appreciation through a value-add program while cash is flowing through the ownership period.
Maybe: The strategy is to buy and hold for long-term cash flow.
Get Lost: The goal is a sale or refinancing in a short period of time — based solely on market appreciation.
What type of debt will be used?
Yes: Long-term agency debt, like with Fannie Mae or Freddie Mac.
Maybe: Commercial mortgage-backed securities.
Get Lost: Short-term, bridge loan or hard money loan.
Metrics applied?
Yes: Metrics applied are historical and provided by a third-party property management as well as publications.
Maybe: Metrics are from local market knowledge, verified by a local third party.
Get Lost: Metrics used are based solely on the selling broker’s proforma.
These three pillars require careful evaluation along with paying particular attention to who is leading the deal. If you take care to do your research while honing in on your values as well as your goals, passive investment can be a win-win. It can help you gain financial freedom and even positively impact the quality of life for the communities you invest.