One of the main objectives a real estate investor has is to mitigate risk in an investment.
Some do this by diversifying their property investment portfolio by asset class and/or geography. Other real estate investors purchase passive investments such as triple net leased property, while others prefer collateralized debt obligations with mortgage-backed securities.
Sponsored property investments, such as Delaware Statutory Trusts (DSTs) or other real estate partnerships, offer investors passive, fractional ownership of investment grade commercial real estate. These structures can also qualify as like-kind 1031 exchange property, allowing investors to acquire shares as replacement property in a tax deferred exchange.
Before investing in sponsored property it’s important to select a credible property investment sponsor, one whose interests are aligned with those of the investor.
Definition of a property investment sponsor
A property investment sponsor can be an individual or a company. The sponsor is responsible for finding, acquiring, managing, and eventually disposing of real estate property on behalf of the partnership. Property investment sponsors also solicit investors for the partnership.
Sponsors of Delaware Statutory Trusts have the added responsibility of acting as the Signatory Trustee for the DST and maintain control over the property and the tenant.
Role and functions of a real estate property investment sponsor
A credible property investment sponsor should provide clear leadership in locating, purchasing, and operating profitable commercial real estate assets for investors. Property sponsors also have a fiduciary duty to investors to identify and share any foreseeable risk in an investment.
A real estate property sponsor fills several roles:
- Locate investment-grade real estate that meets the criteria of the fund
- Solicit investors – or subscriptions – to the sponsored fund with investment offering documents such as proforma statements and private placement memorandums
- As part of achieving full subscription to – or invested in – the sponsor will get the property under contract and open escrow, performing all necessary due diligence and research
- Once the due diligence is completed and approved by the sponsor, the property is purchased
- Management and operations of the fund will be undertaken by the sponsor, or outsourced to a third party under the sponsor’s direct supervision, to ensure the investment objectives of the fund are achieved
- When the property is sold the sponsor is responsible for winding down the investment and making capital distributions to the investors
Previous experience and performance of a credible property sponsor
The roles and functions of the sponsor have a direct effect on the success or failure of the investment. Investors should always conduct their own due diligence to determine the credibility of a property sponsor.
Sponsor experience and track record
Credible property sponsors can provide potential investors with a portfolio of past investments that include detailed operating and financial histories. When reviewing the experience and track record of a sponsor, investors should consider:
- How many years of real estate investing experience does the sponsor have – including team members – and what is the track record for successful investments?
- Has the sponsor been successful in attracting investors for past opportunities?
- What is the combined capitalization of the sponsor’s projects to date?
- Does the sponsor have relevant experience in underwriting, structuring deals, and negotiating with proven legal and financial strategies?
Approach to commercial real estate investing
Once the investor is satisfied with the experience and track record, the sponsor’s approach to investing in commercial real estate should be researched. Important questions to ask include:
- Does the sponsor specialize in a specific asset class, geographic area, or investment real estate strategy?
- Is the sponsor able to locate off market or ‘under the radar’ investment opportunities in addition to those that are publicly listed?
- Has the sponsor demonstrated it can capably analyze potential investments and accurately determine risk factors?
- For turn-around projects, is the sponsor able to develop and execute plans that achieve the property’s full growth potential?
- Does the sponsor have the in-house infrastructure needed to handle all operating, leasing, and property management aspects of commercial real estate, or does the sponsor rely extensively on third-party support?
- What are some specific examples of how the sponsor has applied their professional experience to improve the economic performance of the property and enhance investor ROI?
Sponsor fee structure
Sponsors normally collect management and other fees related to the property they are sponsoring. When reviewing the sponsor fee structure potential investors should ask:
- What are the sponsor fees and how do they compare to the fee structures of other credible property investment sponsors?
- Does the sponsor collect fees related to financing, property acquisition or disposition, and development fees?
- If there is an asset/property management fee, is it based on actual capital contributions or on promised capital not yet received by the sponsor?
- Are there ‘extra’ fees that the sponsor could potentially receive, and if so, what are they and is there a cap on the amount?
Ask for sponsor references
Before ‘hiring’ the sponsor by contributing capital to the project, investors should ask for sponsor references from companies, individuals, or past investors who have been involved with the sponsor:
- Does the sponsor have established relationships with lenders and financial institutions?
- Does the sponsor have a current vendor network including real estate brokers and leasing agents, loan servicers and receivers, accountants and attorneys, and bankruptcy or workout professionals?
- What do these references have to say about their past and present experiences of working with the sponsor?
Selecting a credible property investment sponsor
While investors contribute capital, the success of the property investment rests in many ways with the sponsor. When selecting a credible property investment sponsor, investors should choose sponsors whose projects are aligned with their interests and goals.
A credible property investment sponsor serves as a fiduciary to the investor, providing reliable stewardship of the capital invested and creating long-term relationships for future sponsored commercial real estate investment opportunities.