THE BIG PICTURE
INVESTING STRATEGIES
Within Reach, at Last AN UNDERSTANDING OF PRIVATE EQUITY FUNDS WILL HELP SMALLER INVESTORS MOVE BEYOND SINGLE- FAMILY INTO COMMERCIAL REAL ESTATE.
by Zach Fuller
ommercial real estate investments bring immense benefits that an investor is hard-pressed to achieve with a portfolio that is limited to single-family homes. However, individual investors tra- ditionally have shied away from this asset class, thinking, “Commercial real estate investing is out of my reach because I don’t have the capital or the expertise.” While this misperception held merit for many years, the tides are shifting quickly in favor of the individual real estate investor looking for something more in his or her portfolio. Commercial real estate allows investors to diversify across assets that move in different market cycles. It can pass through outstanding tax benefits. It pro- vides economies of scale and opportunity to add value far beyond what is typically seen with single-family homes. The significant event that is changing the way people look at real estate investing was the enactment on Sept. 23, 2013, of Title II of the JOBS Act, allowing public solici- tation of private equity funds. To explain why this was so momentous, it is import- ant to first understand private equity funds as an investment vehicle. Private equity funds have been used for decades, primarily by institutional and ultra-high-net-worth investors. The structure is simple: Multiple investors invest significant amounts (often millions C
of dollars each) into an entity, usually an LLC. The entity is managed by a trusted group of people with expertise in the type of property the fund is set up to purchase. This allows the investors to be purely passive, while the managers handle the day-to-day operations and asset decisions. The fund managers have access to proper- ties, area expertise, industry connections and resources that the investors do not. Essentially, each investor is putting the fund manager to work for him or her when making the investment. HIGHLY STRUCTUREDAND REGULATED While this might sound similar to a partnership or a REIT (real estate invest- ment trust), it is vastly different. Unlike a traditional partnership, a private equity fund is a highly structured and regulat- ed investment vehicle. These funds are regulated by the Securities and Exchange Commission and the Corporation Com- mission. Many funds are also audited on an annual basis by a third-party account- ing firm. Asset values are often determined by third-party appraisals every year. In other words, more thought, consideration and legal structuring go into a private equity fund than into a partnership or joint venture. Also, a private equity fund
investment is a direct investment into real property, rather than a derivative of real estate, or stock based on real estate, as is the case with a REIT. Return on investment will vary based on the types of properties the fund acquires. Annual returns of 20 percent or higher are not uncommon in commercial real estate. Extremely conservative funds that purchase already-performing property may only produce single-digit cash flow. Value-add and opportunistic funds often reach double-digit returns from cash flow distributed on a quarterly basis. Thanks to Title II of the JOBS Act, these types of real estate private equity funds are now more accessible than ever before. You don’t have to belong to an “insider” group of ultra-wealthy people. While private eq- uity investments are still not widely known to the public, they are now an option avail-
32 | think realty magazine | may :: june 2016
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