Profit Split question

2 Replies

Hey everyone! I'd love your business insights on a partnership I'm considering. 

I'm thinking about going into business with a friend who is a custom builder and curious to know what the industry standard is for the business arrangement given our potential situation. To make a long story short, I would be in charge of raising all capital and handling the money. I have a full time job as a CPA so I wouldn't be able to be boots on the ground as much as I'd like in the actual construction. He would be in charge of building the home and acting in a builder/GC capacity. I like the idea of a partnership where he builds these higher end custom homes for his cost. My wife is also a realtor and would be buying the lots and selling the homes taking little to no commission.  The goal here is to align everyone's interests in getting the projects done quickly and efficiently keeping costs as low as possible. The outcome would be a sizable profit margin to split up between myself and the builder. Is this something anyone has heard of before. Does it make sense to have that 50/50 split, or am I way off base? I would really appreciate the community's thoughts on this one. Thanks everyone! 

If the builder is simply bringing contracting skills, why not just hire him instead of giving him equity.  By giving him equity, you make it nearly impossible to fire him should things go south -- i.e., he doesn't do a good job, he's slow, the market turns and he goes out of business, he moves out of town, he gets hit by a bus, etc.  In that unfortunately (but potential) situation, you end up having to bring in another contractor (who will get paid), and then still have an equity obligation to your friend.

In my experience, partnering with a contractor who brings nothing to the table other than their contracting skills is a situation where the investor has a whole lot to lose and not a lot to gain.

Devin,

There is no really a right or wrong answer here. At the end of the day is about structuring the deal so that everyone wins and no one ends up feeling that they are being taken advantage off. And yes I know, this may sound obvious but again there is no right or wrong.

If all you are bringing is the capital and it is all from investors (not your own) then maybe 50% is on the higher side. The value that your wife is bringing to the table is actually easier to convert into a percentage of ownership in the deal because you should have a pro-forma and financial projections for the deal and the commissions that she will not charge actually have a dollar amount that is easily calculated based on the numbers you are projecting.

Our business model is based on syndications for large multifamily properties where we bring equity from our investors as limited partners and we participate on the general partnership side of the deal alongside our operating partners (which in your case would be the builder). The general partnership structure may vary from one deal to another but what we regularly see is 30-35% of the GP allocated towards the capital raise (which is what you'd be doing). So definitely not the same scenario but it should give you an idea.

Another important thing to consider is the experience of the builder. Is this a well stablished developer that has been doing this for years or is he starting out and willing to accept less of a percentage just to get some deals going? What about you? 

As you can see, it all ends up circling back to specifics that only you and your potential partner can figure out and negotiate. At the end just remember, everyone should win.

Good luck!