Let me ask you a question. What first interested you in real estate syndications? Most likely, it was the potential to put your hard-earned money to work for you to create a good return and thus grow your wealth over time.
And in fact, that’s the number one question that most of our investors ask when they first consider investing in a real estate syndication with us. They want to know, if they were to invest $100,000 or more, how much money they could stand to make and when.
And believe me, I love good returns, and those returns are a big part of why I do what I do. However, while returns are certainly important, there’s an even more important aspect that I focus on when evaluating potential deals.
I’ll give you a hint. It’s not nearly as exciting as passive income and double-digit returns. In fact, it’s more boring than taxes and K-1’s.
The most important thing I focus on in each real estate syndication is capital preservation. In other words, I focus on making sure that every deal has multiple plans in place to protect from losing investor capital. Every deal is different and we leverage multiple ways to protect capital that is catered to the asset type.
That’s my number one priority, as boring as that might sound.
Sure, capital preservation isn’t the most exciting part of investing in real estate syndications, but it is one of the most critical pieces.
It’s easy to just focus on cash flow returns, potential earnings, and brightly colored marketing packages, but when an unexpected situation arises, you’ll be thankful (for this article and) for a sponsor team that gives capital preservation the attention it deserves. There
is not one formula for capital preservation but there are key factors that investors can consider when evaluating an investment opportunity.
Capital preservation is all about mitigating risk, and as Warren Buffett puts it, there are two rules to investing:
Rule #1: Never lose money
Rule #2: Never forget Rule #1
No matter what you invest in or who you invest with, you should know what to ask and what to look for so you can invest confidently with a team that holds your best interest.
At the core of every investment in which we participate, capital preservation is our number one priority. While there are so many factors we consider to preserve your capital, here are some of the top things we look at:
Possibly the most critical pillar of all is to have a team that values capital preservation. This includes both the sponsor and operator team(s) and the property management team. All of these people should be passionate about their role and display a strong track record of success.
The more experience they have in successfully navigating tough situations, the better and more likely they will be able to protect investor capital.
At Rooster Equity Partners, we leverage an extensive network of relationships that gives us access to experienced teams, deals, and partners with each deal. Combined with open communication and transparency with each deal, we keep you informed throughout the entire journey.
One great option to preserve capital is to purchase properties that produce cash flow from high quality tenants. When you have stable tenants with favorable leases, your cash flow as an investor can be more predictable and stable.
Additionally, if a business plan isn’t being executed as planned or there is a shift in the market, the in-place tenants will still be able to provide positive cash flow for investors.
Performing a sensitivity analysis on the business plan prior to investing allows us to see if the investment can weather the worst conditions. What if vacancy rose to 15% and what would happen if the exit cap rate was higher than expected? What if the foot traffic of a certain location decreased or a competing business were to enter the area?
By integrating new AI technologies, we’re also able to perform a more robust analysis of metrics previously unable to be evaluated during underwriting, such as foot traffic and even demand for a property.
Properties look wonderful when they’re featured in fancy marketing brochures with attractive proformas (i.e., projected budgets), but stress testing those numbers helps us take a look at how the performance of the investment may adjust based on potential variability in variables.
We’ve all experienced the turmoil that can happen when the market shifts.
When the COVID 19 shutdown happened, there were many businesses who were unable to pay their rent. Wise investors who had reserves set aside to help with that period of uncertainty, as well as create payment plans to account for the past due rent, were able to secure their properties and tenants, creating a win-win situation for everyone involved.
Properties without reserves can be put in a situation where they might be forced to sell a property at a loss if they do not have enough capital allocated for fluctuations in the market.
For each deal, we ensure to keep plenty of operating reserves to cover any unexpected expenses, maintenance, and tenant improvements throughout the life of the holding period.
In addition to sustaining market fluctuations, you want to have several strategies in place to exit and hold onto a property. In case of a fire, you want a door and window to escape. The same goes for commercial real estate investments.
Even if the plan is to hold the property for 5 years, no one really knows what the market conditions will be at that 5-year mark. So, it’s important to account for contingency plans, in case you need to hold the property longer, and the possibility of preparing the property for different types of end buyers (private investors, institutional buyers, etc.).
When performing due diligence we look at the unit economics of the deal that include the basic lease terms, the credit worthiness of the tenants and how long the tenants have been at the property.
Furthermore, when looking at NNN investments, you can analyze the sales and revenue metrics of each tenant to understand their ability to cover their rent, expenses, taxes, and insurance. Identifying tenants with favorable unit-economics can preserve your capital at the properties we invest in.
While capital preservation may not be very exciting, it certainly is one of the most critical building blocks of a solid deal. Every decision and initiative by the sponsor/operator team should be rooted in preserving investor capital.
Some of our favorite capital preservation strategies when investing in real estate include::
Using these strategies, we mitigate risk as much as possible and ensure that every decision we make around the property stems from making sure that we are protecting your money, first and foremost.
Here at Rooster Equity, we provide multiple ways to leverage the power of real estate syndications in your investment portfolio so you can take advantage of real estate’s cash flow, equity, appreciation, and tax benefits.
If you’re accredited and looking to deploy capital, we invite you to sign up for our Investor Club to get access to our current or upcoming opportunities.