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Analyzing a Real Estate Syndication like a Professional Underwriter

by | Nov 14, 2022 | 0 comments

Real estate syndication funding starts with limited, passive investments that cover, at minimum, the down payment on the purchase of a commercial real estate asset, such as a multifamily investment property.

Before committing to a deal, passive investors must conduct their own investigations and find a lucrative deal in which to invest their money. 

Soon-to-be investors perform due diligence by looking into the business plan’s details and investigating the general partners’ performance history. For example, as you consider your next syndication deal, find out if the sponsor generally has profitable or negatively cash-flowing deals in their past. 

Do they have a plan if the market goes south? 

What are the potential returns compared to the risk?

As a limited partner evaluating deals at your own risk, you’ve got to know how to assess real estate syndication investment possibilities. What does “conservative underwriting” from the fund’s sponsor imply? What are some ways to become an expert deal analyzer?

The best way to evaluate real estate investment like a professional is by doing the same steps as an expert underwriter. This means understanding how an underwriter deciphers if a real estate syndication has the potential to be profitable. In this article, you’ll learn how to evaluate their business plan, the real estate market, and operating agreement.

Keep reading to discover three expert underwriters’ tips for looking at a real estate syndication arrangement from a conservative viewpoint. Then, after you’ve finished reading, you’ll feel more confident performing due diligence on the next potential real estate syndication that comes along.

Take Your Time Reading the Investments’ Business Plan

A well-formed business plan is crucial before dealing with property owners. Acquisition fees, the management team, renovation expenses, asset management costs, and who can invest in the company should all be included in the business plan. The following sections will walk you through net operating income, annual income, and expense projections.


The Occupancy and Cash Flow Relationship


The first thing to explore when examining a commercial real estate property’s financials is the cash flow. Is this property in the red or in the black? Then, after you’ve figured out how the change will benefit limited partners, you can develop a strategic business plan for renovations, updates, or greener-living choices.

Occupancy is the number one indicator of how much cash flow a property generates. Therefore, cash flow should be high if a property has high occupancy. So the question you should ask is: why does this property have such high occupancy? 

Usually, properties with high occupancy are well-kept. This means that the landscaping is attractive, there aren’t mounds of trash anywhere on the premises, and the pool and amenities are in working order. These details lead prospective renters to look favorably upon the property, which keeps current tenants wanting to stay put.

In contrast, let’s explore what contributes to low occupancy rates. One possibility is the property’s physical appearance; if it appears run-down or needs TLC, that could be a turn-off for potential tenants. Another possibility is that the property is new; sometimes, these places just haven’t had enough time to reach maximum occupancy. 

In either case, a strong business plan will detail how the management team plans to market the property to reach desired occupancy levels.


Operating Expenses of the Investment


What will it cost to keep this property running and in good working order? To estimate operating expenditures, consider the property’s condition, maintenance and upkeep, personnel costs, taxes, assessments, and other charges that can differ depending on the property type or location.

The first step is inspecting the investment property. If it has been well-maintained or a new build, you will have low renovation expenses, increasing projected returns. However, if the property needs some renovations (value-add), part of the capital raised upfront should be used to cover these costs. This will attract more tenants and allow for higher rental rates.

Next, it’s time to explore other operating expenses. Again, we recommend you hire a local property manager to assist you in establishing a budget for running expenditures throughout a real estate syndication deal from start to conclusion.

A competent property manager can assess an investment’s potential based on their expertise and insight into how much advertising, marketing, landscaping, repairs, maintenance, and utilities would cost on comparable properties in the area.

A real estate syndication’s operating expenses should also consider tax implications from the property’s purchase price, interest costs, and–very importantly–the property management team’s costs and asset management fees.

Research Other Properties in the Area

Once you’ve determined occupancy and operating costs, as well as a general understanding of the company’s real estate investment plan for this piece of real estate property, you’ll consider the rental rates. Forming your impression of comparable houses’ condition and rental rates is part of your due diligence procedure. In other words, look at how much rent per square foot is the “market norm” for comparable properties in the area.

It’s common practice, particularly on new builds, for the developer to provide below-market rents and perks such as “first month free” to attract renters. However, when searching for yield-play or value-add investment opportunities, the current property manager may be offering low rent rates with the understanding that comparable assets elsewhere provide superior amenities, more up-to-date interiors, or are in a better location.

As the real estate syndicator, it’s our task to develop a strategy for any potential transaction that incorporates gradual and constant rental rises over the next few years until we reach market value rent rates. Rental increases are usually related to new facilities, greater efficiency, and a better property management firm being put in place at acquisition. In addition, if operating costs are kept low, investors should see their return on investment rise as rents climb.

The two primary duties of general partners that will have the most impact on net operating income (and, as a result, ROI for all investors) are raising rents to market rates and keeping operating expenses low.

We rely on the opinions and projections of reliable, experienced professionals in the tax, legal, and property management field when determining whether or not to invest in a syndication real estate deal. Honestly, we reject over 95% of the deals that come across our desks. 

The numbers we gather through our own due diligence help us estimate the cost of owning and managing the property throughout the investment period. Then, comparing these estimated costs to the income generated allows us to make informed decisions about how much rent to charge.

Is the Risk Worth the Projected Returns

You got into real estate to make your money work for you and generate dependable, prolonged returns. However, as a passive investor, the number one thing you are responsible for is researching each real estate deal thoroughly before using your savings as investment capital. This process may appear to be more complicated if you’re new to real estate syndications and trying to make your first investment.

To determine if the real estate syndication deal aligns with your objectives, each investor must thoroughly study the business plan and private placement memorandum.

While there’s no such thing as a risk-free investment, you can evaluate a real estate syndication’s strategy to see how it minimizes risk and offers cash distributions to passive investors on a dependable schedule.

Consider the tax benefits of depreciation in conjunction with the expected cash flow returns, as well as any profit shares you may receive upon the sale of the property. Finally, compare all of these to your surveys of rental rates, tenants’ demands, and the property’s track record for management and sponsor team.

Questions you should consider before investing:

Do you think the projections given are correct?

What could make the deal fall apart, and how might your investment be saved within the deal?

Is the company’s financial data reasonable, and are there more potential upsides or downsides than what’s being stated?

Based on the sponsor team’s past performance, can you trust this real estate syndication opportunity?

A competent real estate syndicator understands that all (sophisticated or accredited) investors feel safer and more confident when risks are reduced and will work to provide you with evidence of successful markets.

Time Is Money! Successful Investing Requires Thorough Research Beforehand

It is crucial to attain adequate knowledge about real estate investing before impulsively jumping into it. Investing in a real estate syndication is not the same as investing in the stock market or purchasing a rental property.

Now that you’ve heard it from a conservative underwriter’s perspective, you know how to do your homework and assess offers before putting your signature on a private placement memorandum (PPM).

Although it may appear complex, analyzing real estate syndication deals is crucial to mitigating the risks of investing in a property. While you can’t change economic conditions or know how much your assets will be worth, you can take charge of risk management by scrutinizing the real estate syndication deal.

If you learn to think like a conservative underwriter, you’ll see the markets differently and assess risks better. In addition, this skill set will help you use real estate to finance your long-term goals and grow your wealth.

To learn more about real estate investing and syndications, reach out to us at https://investwithspark.com/contact/ today!


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