Profit sharing for passive investors
I am joining forces with several investors for the purchase of an apartment building. What is the typical arrangement for distribution of cash flow, profit sharing, and sales proceeds? My template is: 8% quarterly return on equity contribution, then share profits 45% to equity partners and 55% to managing partners, and distribute the proceeds of the sale along the same schedule (45%/55%).
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@Lane Beene welcome to BP and congratulations on your deal! Your question is somewhat difficult to answer because there is no "typical arrangement". I've seen so many different deal structures that it drives me crazy, why can't they just be all the same? On the other hand, I don't think that any two of my own are exactly alike, so I've got no room to judge!
The question isn't what is typical, however, the question is rather one of what is marketable, and what is marketable for someone else might not be marketable for you. For example, large private equity firms can get away with 5 to 6% preferred returns, but a first-time syndicator most likely wouldn't.
I think your 8% preferred return is marketable, but you might be challenged with the 45% profit split. If you already have your investors committed, then go for it, but if you have to go find investors, you are trying to swim upstream with a 45% split. Want to guess how I know this?? :)
I've put deals together with investor splits ranging from 30% to 70% going to the investor, and no matter where it falls in that range there have been those who say the split is too low. Offer a 70% split and you'll hear "I want 80%".
If you have a good track record and a great deal that is conservatively underwritten, you can command a premium for your services. Otherwise, the split tilts away from your favor. My suggestion is that you test the market. Go talk to your investors and present a financial model with the split you propose and show the expected performance. Observe the reaction. If it seems that you would have trouble due to your structure, change your structure. You'll figure out where the market is pretty quickly. Good luck!