Cap Rate Evaluation for LP In Real Estate Syndication

Hey Guys,

Thanks in advance for your response. I am in the process of trying to refine/mature my syndication vetting/evaluation as an LP and trying to clarify some of the more tricky terms in the PPM or OM of the deal that can vary from deal to deal. In your opinion what are some of the more subtle variables that really make a syndication deal primarily in the MF asset class but can be applied to others as well a good or bad deal. These are the few I have come across and would be great if someone can help in bringing clarity on how to vet and evaluate some of the more subtle variables. It seems most deals have very similar numbers on returns so this is not a huge differentiating factor (Pref 7-8%, IRR, 15-17%, Equity Multiple 2x, etc). I am really trying to tease out the true differentiating factors that allow deal vetting.

1. Cap Rate Projection - It seems that each PPM openly states initial and Exit Cap but these can vary greatly by deal.  For those LP out there or others how would you evaluate the Cap Rate assumptions and what are the criteria that one should look for.  My inclination is to look for a Cap rate that increases in a reasonable fashion such as a 0.5-1.0% cap rate increase, but not sure if this is correct.  Also, does this criteria change based on hold time of the deal such as 3 Yr, 5Yr, 7 Yr etc?

2. Rent Assumptions Increase: It seems some deals assume a unrealistic rent assumption increase either based on the value add, or the annual increase seems unrealistic.  What are some of the specific criteria, that experienced serial LP investors look at the rent increase assumption both on the value add year 1 as well as annual rent increases?  Obviously, I believe its important to take into consideration the rent comps in the area, and how this relates to the projected rent assumption or if there is a portion of units that have already been value added that show successful implementation of the projected Increase.

3. Performance Evaluation: (IRR, Equity Multiple etc.) Based on my initial learning, it appears the true evaluation lies in two components, cash flow and overall return. Cash flow annual assumptions are pretty easy to evaluate, but overall return parameters seem a bit less clear. We see IRR, which seems to be a bit more nebulous and can be effected or inflated by changing hold time assumptions. Correct me if I am wrong, but it seems that Equity Multiple may be a more accurate parameter to asses overall return when you combine equity multiple with hold time. A reasonable equation would be (Equity Multiple/Hold Time). Thus a Equity Multiple of 2.0/5 yrs = 0.4; whereas an equity multiple of 2.0/3 yrs = 0.66.  Thus the latter is obviously more favorable (0.66 annual multiple vs 0.4).  

4. GP Fees: There does seem to me much fee variability, but what in you opinion is a fair fee structure.  Correct me if i am wrong, but in seeing a number of deals over last 6-12 months it seems the following is average: Acquisition in the 1-2%, Asset Mgmt (1-2% on monthly income but not on Asset Value), [Key question if Asset Mgmt fee is taken out before or after LP Pref].  The more rare/variable Fees include:Disposition (most don't have this fee but some do), Property Management Fee, Development/construction Fee, organization and offering..  Some BS Fees Seem, "Broker Fee" etc.  Not sure your thought on which fees are reasonable and which ranges, its seems most reasonable are 1-2% Acquisition and Asset mgmt (on monthly revenue, and taken AFTER LP Pref)?

I look forward to your thoughts and help as I am trying to better define and quantify when able to some more intricate components of the Vetting the Syndication process.  Obviously, a few of the most important variables cannot be quantified, such as sponsor due diligence, sponsor experience, geography/sub-market, risk etc.  But I am trying to form a sheet/program to quantify and score syndication deals to make some of the evaluation more objective.  Any other important/salient variables that you think are integral in comparing/vetting syndication deals would certainly be appreciated.

Duke