To Syndicate or Not – This is The Question (What Would You Do?)

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Indeed – this is the question I need answered.  As you can imagine, I am leaning in one direction in this matter, but I need you to check my thorough process and offer an opinion.

My answer – an emphatic YES.The next deal that I do is going to be a syndicate.  My feeling on this stems from the success I’ve had creating equity and cash flow with small multiplex, and now I am ready to add a “0” or two to every number in the deal.

To clearly define the moving parts, allow me to update you as to the status of the Symphony 10-Unit.  I wrote about it in an article entitled How I Bought a 10-plex With 1.5% Down – Case Study.

Acquisition Numbers

Purchase Price:                                                            $373,500

1st Mortgage (commercial portfolio note):                  70%

2nd Mortgage (private note):                                        25%

Required Down-payment:                                          5% *

Monthly Gross Income:                                              $5,800

Monthly Operating Costs:                                          $2,400

Monthly NOI:                                                             $3,400

Cost of Money:                                                           $2,400

CASH FLOW:                                                          $1,000

CAPITALIZED VALUE                                         $408,000 **

EQUITY POSITION                                               $54,000 ***

Several points here:

  1. While the down-payment requirement was 5% ($18,675), after prorations and credits I ended up closing with about $5,300 out of pocket, and this was the first ever deal that I brought money to – bummer…I couldn’t sleep over it for days!
  2. A building such as what this is in the location it is in commands a 10 CAP.  Therefore, annual NOI of $40,800 ($3,400 x 12) justified a value for this building of $408,000 at 10 CAP.  Having paid $373,500 I received a bit of a discount against the capitalized value.
  3. The total outstanding debt on this building was, and still basically is about $354,000.  Juxtaposed against capitalized value of $408,000, my equity position at the outset was about $54,000.

Improved Numbers

I evicted bums, hiked rents, and lowered expenses.  Due to my efforts, the current monthly NOI is about $3,870.  My current Cash Flow on this building is roughly $1,500/month, and the annual NOI $46,500 justifies a value of a bit under $465,000 at the same 10 CAP.

Thus – I’ve managed to drive the Cash Flow up by 50%, and my current equity position is $111,000:

Equity Position = Capitalized Valuation – Outstanding Debt

Equity Position = $465,000 – $354,000 = $111,000

A Bit Of Perspective On Syndication

My desire and pretty much decision at this point, to syndicate comes from a simple mental exercise of adding a “0” to every number in this transaction.  Of course, in this case I’d be talking about buying 100-unit apartment community for $3,735,000 with initial Cash Flow of $10,000/month and improving that to $15,000/month, and in the process putting a million bucks on my balance sheet.

I am aware that the process, though more involved and expensive, is basically the same.  So, in lieu of playing with tens of thousands as we do in SFR, or hundreds of thousands as we do in small multi, I would much rather syndicate and play with millions – the game is the same…

What am I missing? Thoughts?
Photo Credit: Racineur

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About Author

Ben Leybovich has been investing in multifamily residential real estate since 2006. His area of expertise is creative finance. Ben works extensively with private as well as institutional financing. Ben is a licensed Realtor with YOCUM Realty in Lima, Ohio. He is also the author of Cash Flow Freedom University and creator of a cash flow analysis software CFFU Cash Flow Analyzer.

44 Comments

  1. I think this is a great article and very true.

    One challenge is there is a new type of investors that is willing to buy a 100 unit apartment that is willing to take a lower return. A 10-unit apartment can be viewed as too management intensive for the amount of capital deployed, but at 50+ units they feel they get more economies of scale (onsite management, easier financing, etc.).

    If you keep your criteria tight and continue to look hard you will never look back.

  2. Ben, for years that’s what I wanted to do. Sell the bulk of my SFR and buy a large well located multiplex, at least a 50 unit. My problem- partners, never had any luck with them.

    We know the first one is the hardest to get, after that it supposedly will get easier. If you buy right, which we know you will, the sky will be the limit. Best of luck in getting your plan into action.

    • James – I agree; the first one is the hardest. But, for the most part, raising a million dollars is only marginally different than raising 100k. Of course the jury is still out on me – what do I know. But – I have a hunch…

      Thanks so much for your comment!

  3. In multi family the best way to scale, especially quickly, is via syndication. I think it’s a no brainer for you. Clearly you have the ability to find deals that will be attractive to investors. You have all the credibility and experience any investor would want to see before investing in a syndicate deal, and I assume you have a network of people to present it to. I’m sure you are planning on doing this in your market, but even so, I can’t imagine you managing it yourself, so hopefully you’ve been interviewing PM companies, cause lord knows they are what will make the investment successful in the long run. And lastly, I’m sure you and your attorney will be following all the SEC rules and regs.

    I think you should go for it. Can’t wait to live vicariously through you! Good luck, Ben.

    • Sharon – thank you for the compliment indeed. You cover the bases better than anyone I know LOL. Let’s see if I can do your comment justice:

      1.I have a few contacts, but, and this is important for everyone to understand, my network is BiggerPockets :) BP is good for learning, but it’s great for networking – thank you Josh Dorkin!
      2.Management-wise – depends on the magnitude. A management company is not needed for 25 units. But, 100 – likely yes. I am a realtor and my broker has an in-house management company if I need it locally – we’ll see.
      3.The first deal – I was planning on being within about 75 miles of my home base, primarily because my commercial banker will play ball to a tune of $3-4 million, so long as I am the management partner and the deal is within 100 miles. But, I am actually conducting a feasibility study on 100 units right next door :)
      4. Yes – this will be a PPM Reg 506D.

      I think I covered everything in your comment. Stay in touch!

      Ben

      • Yes, I was mentioning PM in reference to 100 units. However, if you get one next door, who knows – that could be convenient (as long as the tenants don’t start knocking on your door in the middle of the night lol)!!

        I kind of figured the BP nation would be your network, as it should be. Again, good luck. Can’t wait to hear how things progress.

  4. Dennis Tierney on

    I agree that syndication would be a good step for you. I now have my seconf syndication in process (48 unit) and the funds raised. If you listen to Ken McElroy’s podcast interview he’ll reiterate one of the most important aspects is Network, Network, Network to get your investors lined up before you get a property under contract. It took him a lot of years to get his 500 investors and you’ll sleep a lot better at night if you have them lined up before you ever make an offer. Good luck!

  5. Ben,

    Sounds like you’re on a good path that makes sense. I can’t share much perspective as an Operator/Syndicator, as I am full-time passive investor in syndicated/managed opportunities, but I would suggest that you’re cautious in your purchase price. I’m saying this because Multifamily is getting very mature in the typical pricing cycle, which means that Cap Rates are quite low. With the potential for interest rates to increase in the future, combined with the fact that people are paying high multiples for Multifamily right now, be sure that you’re buying at a favorable Cap Rate to help provide you with some “cushion” in the event that Cap Rates go up in the future (which seems inevitable). Given that building a track record and building positive relationships will be key to your ability to grow and acquire more properties via syndication in the future, one of the most critical things will be the price you pay for your property, given everything I mentioned above.

    Please understand that I am not at all discouraging you to move forward with your plan right now (in fact I invested in a 267 unit Multifamily opportunity in Dallas that closed in Aug 2013) but just suggesting that you consider being very cautious in the Cap Rate that you pay, given the current Cap Rates in the market compared to just 2-3 years ago. As a very diversified investor across many passive opportunities (50+), I stopped looking at most Multifamily opportunities 1-2 years ago because that’s when the Cap Rates came down. So I shifted focused to others areas that had better valuations. There are ALWAYS deals out there, such as the opportunity I invested in just a few months ago, but with Multifamily you now have to look that much harder to find them because of the lower Cap Rates. So be sure to be careful with the price you pay!

    I hope this is helpful.

    Good luck with everything,
    Jeremy

    • Jeremy,

      Thank you and your comments are indeed right on! What predicates my decision to a substantive degree is that having followed me for a while, folks approaching me with capital. My investment perspective is different from most. I don’t tend to think of investing as a high-flying exciting game – I think it’s boring and hard work. Managing assets to peak performance is not fun, but backing onto wealth is fun indeed…

      I intend to invest in the mid-west Ohio, Indiana, Kentucky, Michigan. These are boring places in general, but people have to live even in boring places. My perspective is founded on picking up assets in distress and forcing appreciation – I don’t like to depend on organic appreciation. Fortunately, I can still find opportunities of 8.5-9 CAP at the front door with expandability to 10.5-11 CAP in Mid-West. These are what I am looking at. I know that things are getting much tighter in “sweet heart” markets such as Austin – I am going to stay off the beaten path – it’s what I’ve always done.

      Am I making sense? Am I missing anything? What are your thoughts Jeremy?

  6. I think the big difference between your current method and a syndication will be splitting the resulting pie – both in establishing a partnership structure and realizing that deals that would have met your criteria (percentage-wise) may no longer do so as they are split more ways. I.E., a property yielding 15% isn’t going to be paying investors 15%.

    Still, as goes the saying, I’d rather have 50% of something than 100% of nothing. It’s still quite doable.

  7. Hi Ben,

    Could you please explain how syndication works?

    My understanding (based on your example in the article) is that you would buy a $3.5M property with $53K out of pocket (10x of 10-plex) but you need to raise $53K.
    Say, you get $10K each from 5 people and add $3K of your own. Each passive participant would own 16% of the venture and you would own 20% since you’re a management partner.
    Then monthly cash-flow would get distributed to each partner in proportion to their ownership.
    Is this a correct model?

    Thanks
    Nick

    • Hey Nick –

      Syndication cost a lot of money in terms of attorney fees, CPA fees, etc. So, for a small deal it is not cost-effective. The percentage of ownership is negotiable, and with it how cash flows and equity are distributed. The syndicator typically gets a piece of the pie for putting the deal together, and investors get the majority of both CF and equity.

      If all I needed was $53k I would not syndicate the deal – I’d do it differently. For what I am thinking, I’ll be raising 1 mil. – 1.5 mil. Hope this helps :)

      • I just scaled your cash out of pocket in the 10-plex ($5,300) by the factor of 10 assuming that that rest would be financed through debt.
        If you want to raise $1M, does it mean that your mortgage would be lower ($2.5M on a $3.5M property)? So, effectively you would be forming a company and sell stock in that company for $1M to raise money necessary for down payment, correct?

        • You are confusing DP and out of pocket Nick. In the Symphony example, my DP requirement was 30%, but I managed to monetize it with a loan for 25% + 5% of my own, which turned into $5,300.

          In the case of a syndicate, instead of raising the down-payment via debt, which did not require me to share ownership (this is called debt financing), I’ll be doing it with private equity and giving up part ownership in exchange.

          The structure will be that my company (the syndicator) will own a stake in the funding company along with the investors – that company will have the title to the asset. Makes sense?

        • Sure, it makes sense. Now, if the CAP rate is 10%, what would be a reasonable dividend rate for this private stock? Also, since stock is not listed, does it put any constraints on the investors – do they have to be “accredited”? What is the exit strategy for the shareholders in the private company if they want to sell their shares?

        • Nick,

          The legal vehicle is PPM under Reg 506 D – will be registered with SEC. This process is what makes syndication expensive… Investors do not necessarily have to be accredited but they do have to be sophisticated.

          All of the terms are negotiated with specific transaction in mind. A typical split is 70/30 or 75/25 with investors getting the beg pot and the syndicator the rest. Makes sense?

        • What is 70/30 split? 70% of stock is sold to investors and 30% is retained by syndication?
          I understand that everything is negotiable but the dividend rate is same for all investors, isn’t it? So, what kind of rate can they anticipate? Would it be any higher than a typical REIT would pay?

        • The building is usually held in an LP or an LLC. Under certain circumstances a C-corp is appropriate but that’s rare.

          My company (the syndicator) and all of the investors will have % ownership in the holding company. The CF and Cap Gains at the time of liquidation or refinance are distributed according to the percentage ownership. Often, the investors are first to get distributions of CF until they receive a predetermined IRR, say 7%. After investors receive the preferred minimum, then the CF is split according to % ownership or however negotiated. The preferred amount, in this example 7%, is negotiated. This is not guaranteed minimum; it’s just the syndicator saying to investors – you will be the first to get paid; I will get paid only if I can generated a minimum return for you.

          A REIT will pay 4.5- 5% with no possibility to do better. Syndication is much more lucrative in general because of possibility of active management and forcing of appreciation. It’s conceivable that we could build enough equity to refinance all or most of the original capital out within a few years and roll into the next investment. The principal of compounding takes over at that point. And in fact, most of the people approaching me to do a syndicate have that very idea in mind – invest – create value – get it out – roll it – repeat the process – create generational wealth. Taking the equity out can be done via 1031 exchange, which defers tax, or a refinance, which is not a taxable event. And on she goes… I could continue buying multiplex, but a small piece of a big pie appeal to me more…

    • Hello Kevork!

      Thanks for the vote of confidence. Hey, upload a picture will you please – you are so darn good-looking; at least you were in college lol Those of you reading, Kevo is an old friend and one of the smartest guys I know – welcome to BP Nation finally Kevork. Make yourself at home and don’t be a stranger!

  8. Ben,

    I totally agree with your strategy, especially if you already know how to form a syndication. I think it’s the great way to increase your wealth.

    Regards,

    Tim

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