There’s a term that’s used quite often in commercial real estate, and unless you’re in the space full time, it may be confusing. So, we’re going to break it down and explain exactly what a real syndication is.
First, we’ll define it, as defined by Oxford, ‘the transfer of something for control or management by a group of individuals or organizations.’ In this case, it’s the transfer or pooling of money together in order to purchase an asset (apartment complex for example) that could otherwise not be bought by an individual or single entity.
In simple terms, it’s a group of people who pool their money together to buy an apartment complex, or self-storage facility, etc.
The group is broken up into two main parts, the General Partners (GP) and the Limited Partners (LP). The role of the GP is to find the asset in their target market (or city), put an offer on the asset, and determine a business plan for the asset. Once the offer is accepted, the GP will go and raise capital from investors in order to purchase the asset. Once the purchase is complete, it’s the GP’s job to manage and execute the business plan in order to produce cash flow.
That brings us to the limited partners, or LPs. The LPs are the investors that gave their capital to the GP to purchase the asset. The LPs take a passive role, meaning they have no say over operations; however, it is the GPs job to execute the business plan in order to produce cash flow and pay the LPs from that cashflow, hence ‘passive income.’
The basic structure of a deal as LPs for an apartment complex is broken down into a few key terms:
- Initial or minimum investment- Amount of capital needed to become a partner, at CCG it’s $50k.
- Hold Period- How long your capital will be in the deal, determined by the GP and their projections for how long their plan will take to execute.
- Preferred Return- Typically called the ‘pref.’ This is shown as a percentage and tells the LP the amount they’ll make annually on their investment. Anywhere from 6-8% typically. (Example: If you invest $100k into a deal with an 8% pref, you will make $8k a year annually over the life of the deal.)
- Total Return or Multiplier- Expressed as a percentage, or as a multiplier i.e. 2x multiple. (For example: If you invest $100k into a deal that has a 2x multiple, then you will receive $200k at the end of the deal, your initial $100k plus an additional $100k when the asset is sold).
- Profit Split- This is expressed as a percentage and tells the investors how profits will be split. This refers to any profit leftover once the 8% preferred return has been paid. A typical split is 70/30, 70% to the LPs and 30% to the GPs.
You may be wondering how the GPs make money. As stated above, their role is to find, acquire, manage the asset. In order to do so, they will take a small fee once the deal closes, typically 1-2% of the total purchase price. You may have been able to gather that they are incentivized to create as much cashflow as possible, while reducing expenses. If done correctly, there is plenty of profit left over once investors are paid (30% goes to GP). And once the asset is sold, most of those profits will typically go to the GP.
This is a very basic breakdown of how a syndication works. As you can see, for busy professionals that have full time jobs, there is a huge advantage to being a LP. Your money is working for you, while someone else does the work, and you receive passive income. This is how wealth is truly created. As you invest in more deals, you create more passive income, which leads to more capital to invest into more deals, and the cycle continues.
If you have additional questions, or are interested in being a limited partner, please do not hesitate to reach out! We are here to serve you and would be happy to answer any and all questions.
Cheers!
Jonathan Cattani
Managing Partner, Cattani Capital Group