Crowdsourcing knowledge is a good idea if you want to invest in commercial real estate. Commercial real estate is one of my favorite asset classes to build wealth post the pandemic.
I’ve got an idea that could be great for an ongoing series. Given Financial Samurai is an established site with a large community of investment savvy readers from all over the U.S. and the world, why not crowdsource our knowledge to see if we can make better investment decisions!
Real estate is my favorite asset class to build wealth long term because it is simple to understand, tangible, and rides the inflation wave. But buying physical real estate requires a large downpayment, ongoing property taxes, maintenance, tenant headaches, and often takes up a dangerously large percentage of one’s overall net worth.
Given I already have four physical properties, I’d like to diversify and reduce risk by surgically investing smaller amounts of capital in properties with higher rental yields from different parts of the country.
San Francisco cap rates (net rental yields), for example, are only in the 2% – 4% range. This is where real estate crowdsourcing platforms come in. You can easily invest smaller amounts in different areas of the country with potentially much higher returns without betting the farm.
I have several hundred thousand dollars coming due from an expiring CD. Before then, I want to get comfortable with real estate crowdfunding in commercial real estate.
My goals are: 1) geographic diversification, 2) beating a 4% yield in a low risk way, and 3) investing in commercial real estate given all my properties are residential. Let’s see what crowdsourcing knowledge can do.
Crowdsourcing Knowledge: Suburban Philadelphia Class-A Office Conshohocken, PA
Here’s a current offering RealtyShares e-mailed to me. It’s a Class-A office building with 30,000+ square feet about 14 miles away from Philadelphia. With a target 18% internal rate of return (annual return over 5-year life of investment), I’m salivating like Pavlov’s Dog wanting to invest in this commercial real estate project. But I know nothing about Conshohocken, PA real estate and need help from those of you living in the region and from those who’ve invested in commercial real estate before.
Pros
* Commercial property built in 2000 with a ~30% vacant rate for upside rental income potential.
* $172/square foot potential purchase price.
* Stronger than average demographics (see below).
* RealtyShares investors are entitled to a 10.0% IRR (including return of capital) before the Sponsor (real estate developer) receives adjusted economics. Furthermore, the Sponsor’s position is to be at 16.4% of the required equity for this project, which includes the conversion of its 2% acquisition fee into part of its equity interest. Proceeds above a 10% internal rate of return are to be split 75% to deal-level investors and 25% to the Sponsor, until such investors have earned a 16% annualized internal rate of return. Proceeds above a 16% internal rate of return are to be split 60% to deal-level investors and 40% to the Sponsor. In other words, there’s incentive for the Sponsor to maximize returns.
* Quarterly dividend payment.
* Haverford Properties, the sponsor, has participated in several billion dollars in transactions and currently own five projects that collectively represent more than $300 million in assets under management since 2012.
Cons
* 5 year term. Might be difficult for some people to lock up cash for so long. I’m coming from a position where I locked up cash in a 7-year CD, so 5 years is in the ballpark.
* $10,000 minimum versus $5,000 minimum for other deals. I’d ideally like to invest in two $5,000 deals to test things out, although one good $10,000 deal would make things easier to track and write about.
* Nothing is a guarantee. The 18% IRR is just a target. The sponsor might not be able to fill the vacancies with high quality tenants. We could enter a recession post election. The sponsor might not be able to sell as planned in five years etc. I generally like to cut target IRRs in half, and treat anything higher as gravy. People tend to overpromise, underdeliver all the time when it comes to raising capital.
* Was targeting Midwest and Southern properties, but Conshohocken seems similarly cheap.
* Haverford Properties has only been investing since 2012, although the LinkedIn bio of the co-founder, Charles Houder says he’s been at Haverford Properties since 2010. Perhaps there was no activity the first two years when he first started. At least Charles has been in the real estate investment arena since 2001, working for other firms.
Here is the official overview posted on RealtyShares that comes from Haverford Properties.
| Property Summary |
|---|
| 375 East Elm Street, (the “Property”) is a multi-tenanted Class-A office building on 2.7-acres in the Conshohocken submarket of Philadelphia, PA. The property was developed in 2000 and currently configured with six separate suites, five of which are expected be occupied at close. Of the approximately 9,000 square feet that will be vacant, it can be broken up into smaller suites or leased as a whole depending on tenant requirements. The tenants are generally characterized as professional type office users and include attorney’s and medical offices among others. Blended average in-place lease term and blended average in-place lease rate are 2.9 years and $23.80 PSF, respectively.
The physical condition of the building is reported to be good and the suites are in leasable condition per the third-party property inspection and the Sponsor’s feedback. The $25 PSF in tenant improvements budgeted for two new leases (6,042 sf assumed after 6 months and 3,021 sf after 15 months) is to most likely go to customizing the spaces and cosmetic upgrades. The $5 PSF budgeted for renewals (70% probability) is to either serve as incentive capital or for moderate upgrades. Please refer to the Photos tab for pictures of the crowdsourcing Property. |
| Property Details | |
|---|---|
| Year Built | 2000 |
| Building Square Footage | 30,266 Square Feet |
| Buildings/Floors | 1 Building/2 Stories |
| Parking | 128 Open Asphalt Spaces |
| Parking Ratio | 4.2 spaces per 1,000 square feet |
Investment Summary
RealtyShares invites its investors to participate in a common equity investment relating to the acquisition of a 30,266 square foot Class-A office building (the “Property”) located at 375 East Elm Street in downtown Conshohocken, a suburb in the Philadelphia-Camden-Wilmington Metropolitan Statistical Area (“MSA”). Developed in 2000, the Property is located approximately 14-miles northwest of Philadelphia’s Central Business District (“CBD”). Conshohocken is one of Philadephia’s most vibrant and successful sub-markets for suburban office properties, and is supported by excellent residential demographics and strong demand for office inventory (see Investment Highlights below). The 2-story multi-tenanted building is expected to be approximately 30% vacant upon acquisition, presenting the Sponsor with the opportunity to substantially grow revenue by leasing space at market rates and to negotiate market rental rates with existing tenants as their leases come up for renewal; most these tenants are currently paying below market rates.
Haverford Properties (“Haverford” or the “Sponsor”) is acquiring the Property directly from seller at a potentially attractive basis of $172 per square foot. The Property was identified by the Sponsor on an off-market basis and is to relieve the Seller of a negative cash flow situation caused by the recent vacancy of a tenant. The expected new loan facility is to provide for 18-months of interest-only payments (no amortization), which is designed to reduce the initial debt service burden on the Sponsor so that it has sufficient time needed to stabilize the Property.
The Sponsor is a diversified real estate investment and development firm based outside of Philadelphia, Pennsylvania. The Sponsor is involved in all aspects of real estate development and investment, including, but not limited to, acquisition, entitlement and project construction, management, asset management, property management, accounting, and underwriting. As reported by the Sponsor, it has participated in several billion dollars in transactions and currently own five projects that collectively represent more than $300 million in assets under management.
Please note that this investment is scheduled to close in September and is to most likely be debited late August/ early September.
| Investment Highlights and Risk Mitigants |
|---|
|
| The following table compares the demographics in the area with state and country demographics: | ||||
| 3-Mile Radius | Pennsylvania | USA | ||
|---|---|---|---|---|
| 2016 Median Household Income (1) | $92,400 | $53,805 | $54,149 | |
| 2016 Education: Bachelor’s Degree (1) | 31.7% | 17.9% | 18.8% | |
| 2016 Education: Graduate/Professional Degree (1) | 26.9% | 11.7% | 11.6% | |
| 2016 Unemployment Rate (1) | 4.5% | 5.9% | 5.9% | |
| White Collar Workforce (1) | 78.0% | 60.4% | 60.5% | |
(1) ESRI
|
Management Biographies
* Don’t see world class institutions like The College of William & Mary and UC Berkeley, but at least both have graduate degrees and a decent amount of real estate investing experience. William & Mary and Cal are my alma maters, so I’m just having a little fun.
Investment Deal / Use Of Proceeds
* Nice to see $356,633 in reserves and $45,000 in working capital. It’s interesting to see that despite a purchase price of $5,200,000, $700,000 more is set aside (13.5%) for various reasons.
Sources Of Funding For The Office Building
* It’s always good to see a Sponsor have skin in the game. However, $267,433 is only 4.5% of the total sources of funding, despite being 16.4% of the equity. From a RealtyShares investor’s point of view, you want the Sponsor to put up even more capital. My preference is for 10% of the capital or greater.
Blue Sky Exit Assumption
* I still can’t believe it will cost a 5% commission in five years to sell a property ($365,339/$7,306,787). That seems outrageous given many of these deals are directly negotiated. Hopefully there is 1-2% upside in terms of commission savings here.
If You Invested $50,000 In This Deal
* If the deal pans out, an impressive 51% of your initial investment will be paid out in quarterly interest payments for the life of the deal. The chart also states that if you invest $50,000, you will end up with profits of $54,098 over a five year period ($104,098 total proceeds after initial capital is returned). That’s a 108% total return if all works out, or 18% annual return. But again, things tend to never work out as planned, which is why I cut my return assumptions in half to be more conservative.
INVEST OR PASS?
Before I invested, I’d love to get your feedback, especially if you are a real estate crowdsourcing veteran or live in the PA area. Every potential investment always looks good when you read the marketing material. But as we all know, not every investment turns out great hence the desire to crowdsource knowledge.
There are a lot of deals on RealtyShares that already say “join the waitlist.” Further, as I’m focusing on commercial real estate instead of single or multi-family home properties, supply is even scarcer. Please feel free to be very critical of this potential investment. It’s always good to know all the potential red flags before deploying any capital. If there are any other investments on the platform that look intriguing, let us know!
Crowdsourcing Updates
Update 9/28/2016 on crowdsourcing: The deal closed and I decided to invest $10,000 to see how things go and familiarize myself with the RealtyShares platform.
Update 9/20/2018 on crowdsourcing: After selling my SF rental house for $2,740,000 in 2017, I decided to reinvest $550,000 of the $1,800,000 in proceeds in RealtyShares’ Domestic Equity Fund. So far, the fund is doing well and I’m targeting a 15% IRR.
Update 11/2018 on crowdsourcing: Unfortunately, RealtyShares is no longer accepting new investors. I’d look into Fundrise instead, as they are awesome and allow for non-accredited investors to invest in real estate crowdfunding.
Big Update 7/2019 on crowdsourcing:
IIRR Management Services, LLC (IRM) has taken over the Asset Management and Fund Admin functions of this investment.
The sponsor indicated that the building was 87.7% leased with 3,725 square feet available as of Q1 2019. This space is currently being marketed and they anticipate leasing the space in the first quarter of 2019. Beacon Commercial Real Estate, their leasing, and management company continue to market any spaces that come available.
The sponsor is making to Realty Shares 248, LLC for the Q12019 a distribution payment of 2.0%. To date, inclusive of the current distribution, Realty Shares 248, LLC has received a total return of 14.5% from the sponsor. Once the sponsor submits a payment to IRM, please allow 5-7 business days for ACH disbursements to be processed by us.
For the Period of January 1, 2019, through March 31, 2019, total rental income was $179,059 with total operating expenses of $62,478 resulting in a net income of $116,581 for this property.
According to our findings, this asset is currently performing according to the original business plan. This property has been identified as a Tier 1 asset. Distributions payments from this investment have been distributed in accordance with the original business plan. The sponsor in this property is responsive to our communications. IRM believes that the sponsor will continue to act in the best interests of our investors.
Please continue to monitor the Investor Dashboard for updates, and be sure to keep your bank account information up-to-date in order for our Fund Administrators to process payments accurately and avoid any delays or missed payments.
Check Out Fundrise
Invest In A Diversified Real Estate Crowdsourcing Fund
If you don’t have the downpayment to buy a property, don’t want to deal with the hassle of managing real estate, or don’t want to tie up your liquidity in physical real estate, take a look at Fundrise, one of the largest real estate crowdsourcing companies today.
Real estate is a key component of a diversified portfolio. Real estate crowdsourcing in commercial real estate enables you to be more flexible in your real estate investments by investing beyond just where you live for the best returns possible.
For example, cap rates are around 3% in San Francisco and New York City, but over 10% in the Midwest if you’re looking for strictly investing income returns.
Sign up and take a look at all the residential and commercial investment opportunities around the country Fundrise has to offer. It’s free to look.
Crowdsourcing Knowledge For A Commercial Real Estate Investment is a Financial Samurai original post.
Related: Shh, Private Real Estate Crowdfunding Deals Are Not To Be Publicly Discussed
Sam,
Saw this article just today. Do you have any thoughts or concerns about it? https://therealdeal.com/2018/11/07/crowdfunding-startup-realtyshares-to-cease-investing-faces-mass-layoffs/
Yeah, really sad and surprised. Here are my thoughts in the FS Forums.
Okay — very intrigued by Todd’s posts and knowledge. Sam, can we get a Todd guest post going?!?! Todd, you in?
This is just a general comment, but it may be worth it. I don’t necessarily see the need for crowdsourcing knowledge about purchasing a very small amount of an institutional-quality real estate asset (other than helping the people reading the blog post and helping the egos of the people posting – possibly me?). That’s similar to engaging in a very long and detailed conversation about putting $10k into bonds. You’re probably not gonna make a ton of money or lose a ton of money. The ROI on your time to discuss the issue is nill. At best, maybe you increase your portfolio percentage by 1/8 of a percent? The worse part is the underwriting (essentially seeing if the Class A property is a good investment) is exponentially longer and more complex. Notice the “CFA” designation behind the co-founder’s name? They most certainly used Argus software and inserted their assumptions that take most people years of experience to truly understand. In addition, they probably have someone that knows the local market very well and has pulled all the demographics, construction starts, lease expirations of office tenants in competing buildings, and trends in the local office market (absorption, vacancy rates, etc). I think the crowdsourcing of knowledge would be better served for the company purchasing the asset as some kind of way to find out some inside knowledge about how to either add value to the project or notify them of a potential downfall. Crowdsourcing knowledge for the guy investing a small amount seems hard for me to see value.
However, the reason I read this blog post is because I work in commercial real estate and I thought you’d be crowdsourcing knowledge on smaller private placements or syndications from smaller investors. I think that’s a very interesting idea. I’ve seen limited partners in syndications make 25% – 30% on consecutive deals and the sponsor / general partner making over 100%. I was also in the industry during the downturn and had an incredibly wealthy client with three shopping centers anchored by Circuit City. First time I’ve seen a grown man weep after losing nearly everything. (FYI that’s also when I learned the importance of what’s called a co-tenancy clause held by nearly every co-anchor like Office Depot in Neighborhood and Regional Centers. Once the anchor goes dark, the co-anchor’s rent goes way down…bad news). So it’s not a boy’s game, but with the crowdsourcing of knowledge and finding an investor group with a relatively small minimum investment and good track record, the idea seems to make more sense. In my opinion, that’s a group that focuses on 20+ unit multifamily or 15,000sf+ retail / commercial. Groups that deal with smaller properties may have good track records but the lack of understanding macro-economic signs that the tide is turning (of course I’m speaking in generalities here). The guys that deal with Class A properties have mostly had a job their entire life. They’re probably the most intellectual guys in the room, but they’ll be the first to admit their primary goal is never to hit a home run, but to instead hit a single every time (which is great if that’s your goal!). This is a relatively small Class A asset, but judging by the amount owned by this group, they most certainly follow the same low-risk strategy of the big boys like Equity Office and Transwestern.
On a totally unrelated note, if you’re just looking for consistent returns and not so much worried about asset appreciation or tax-shielding the income, I think the best investments that provide excellent returns commensurate with the risk are notes secured by real estate. I happen to solely invest in these inside my IRA (two notes) and Roth IRA (one note) so the tax issue is still avoided/delayed for me, but it’s amazingly simple to find notes that pay 10%-12% with strong borrowers at ridiculously low LTV’s like 50%-60% and some even lower. Think about the last downturn and how much property values went down. Maybe some areas depreciated more than 40%, but not many, and if they did, most have recovered fairly quickly. So if the borrower doesn’t pay you, you take the property, and if it happens to be in the next worse downturn, maybe you have a property at exactly the current market value? Well, at least you can say you bought it at the bottom of the market ;-) I just think that’s the best risk/return for someone looking for consistent income. The biggest risk in notes (and only way I could see losing money on my investment other than outright fraud) is being sued by the borrower so I stay away from owner-occupied properties and hire a professional loan servicer. My opinion is younger investors should buy real estate for the capital appreciation & tax benefits and slowly build up a portfolio of notes (possibly inside tax protected vehicles) as they’re older so their cash flow is great for retirement. But hey, I’m an RE guy. I own no stocks or bonds.
The Financial Samurai is the annointed one with a more diverse and well-rounded (and many times extremely creative) understanding of how to compare two different asset classes. So take my comment with a grain of salt.
Sorry in advance if I was off topic or offended anyone here. Much longer response than I intended…
Hi Todd,
Thanks for sharing some ideas. I just love to learn, and get as thorough as possible before investing larger sums of money. I’ve started with $10,000, and plan to invest another $250,000 over the next 12 months. I like this space, like how they are forced to offer higher returns as rates have gone higher, and am a big fan of real estate in general. I just don’t want to buy another physical property anymore at my age and current portfolio.
I’m tired and want to simplify life!
Happy Holidays!
Sam
Todd,
What sources do you use to find notes paying 10-12% w/ LTV’s of 50%? All the crowdfunding notes don’t come close to that, unless you look at LTV for the value of a “to be finished” flip which is not really the same thing.
Hey Dave, with all due respect to Sam, I’d rather not change the direction of his posting, but I see them almost every day. I live in CA and I never calculate LTV as ARV…always current value. Not sure about other states. The best notes I find are phone calls from relationships with hard money lenders and a few guys who run funds that find something outside their scope, but there’s a very large lender out here that sends nearly a deal every day. If Sam’s OK with it, I’m happy to share the URL or maybe he can relay it to you.
One comment on the subject. I think crowdfunding for commercial real estate deals is a great idea. Those deals need enough money where the crowdfunding is solving a true problem so RE professionals see the value in it and enter that market…win-win. Even with P2P, I see the value of crowdfunding simply based on pure volume of people that want consumer debt (unfortunately). But with notes, I live in SoCal and constantly see notes as low as $100k – $200k. (BTW I think $100k is the minimum total note size to invest into considering the fixed costs of a trustee sale. Anything less and the fixed costs eat up the protected equity too quickly if it goes badly…in CA at least). If you don’t have or want to invest that much, it’s much better to find someone to split it with and know what you’re getting into, with the property, borrower and servicer. Look at this just from the worst-case risk standpoint: With CRE, the sponsor will own/control it unless the lender takes it and you lose everything. With P2P, you’ll get paid until you don’t…no collateral. But with notes, I think about downside as upside in many cases. I don’t loan to own, but I certainly don’t mind that scenario and I always underwrite that case before investing. So if it’s crowdfunding for notes, I’m assuming you’d be trusting the operation of a distressed asset (people don’t lose well-run properties to the lender) in the hands of a lender or a receiver, either of which will likely eat up that last little bit of upside through inefficiencies (lender) or exorbitant fees (receiver). You can do better yourself and if you have another beneficiary (partner) with you in the note, make sure you have an operating agreement outlining who’s in charge of making the decisions during servicing, default and after taking the asset back.
It all circles back to my belief that younger investors should focus on RE for appreciation and tax benefits, which will give them the experience to handle the notes if they go bad when they’re investing for cash flow later in life. And if they’re reading Financial Samurai the entire time, they’ll be ninjas with swords of cash.
Sam if you are ok giving Todd my email that would be great.
are you able to receive some of the tax benefits from the depreciation of the property?
Long time reader here who also loves real estate as an asset class. The amount of feedback and local knowledge your post has generated is very impressive and really speaks to the value of your reader base. I work in commercial real estate for a living and would vote no on this opportunity for the following reasons…
I think the target IRR is over inflated and the lack of sponsor equity in the deal scares me off. When you don’t know the market and are not able to complete the DD yourself my two requirements on a crowd funded real estate deal would be proven track record and market knowledge from the sponsor (seems to be true) and significant co-investment from sponsor which is not the case here.
Below are my Pros and Cons on the deal.
Pros
1) Below Replacement Cost – at $172 PSF this property would be purchased below replacement cost which somewhat shelters this investment from new development. Any new development would likely have a much higher cost basis and therefore would require higher rents for the deal to make sense and would maintain a higher yield if market rental rates were to drop.
2) Below Market Rent – Possible for cash flow growth by rolling expiries to market. The question here is what is market rent? I would want to see what recent new deals were done at and what inducements were made. $5 PSF might be a low assumption for renewals.
3) Opportunity for increased occupancy – buying this property with 30% vacancy allows for additional upside through lease up
Cons
1) Lack of Sponsor Investment – Very little equity from the GP with 39% of their equity coming from the Acquisition Fee. Even with the favourable hurdle rate the sponsor has very little to lose if this deal doesn’t work out.
2) Short Average Lease Term – with only 2.9 years of average term there is lots of lease turn over within the hold period which could lead to additional vacancy. Without being able to walk the building, talk to tenants, and understand the competitive properties this seems like a major risk to the cash flow due to the potential for increased vacancy and/or leasing costs.
3) Inflated Exit – Exit at $241 PSF seems somewhat high. Even if the property is 100% occupied the next investor would likely include a general vacancy allowance. Also when the property is sold in 5 years it will be 20 Years old and likely reaching an age that requires significant re-investment that the next buyer will likely include in their valuation.