by Lenny Pierce, Research Analyst
With at least 85 real estate crowdfunding platforms in existence and with the industry set to reach $2.5 billion in 2015 according to Massolution, crowdsourced real estate investing has become commonplace in the commercial real estate community. For many, it is seen as an improvement on the Real Estate Investment Trust (REIT) model in that invested money is going straight towards specific projects rather than to a company’s stock performance. However, despite the phenomenon’s growing popularity, certain limitations to its effectiveness are still being worked out. For example, the ease with which a group can build an online crowdfunding portal does not necessarily ensure that the most experienced people are handling your investment and the lack of underwriting throughout the many platforms creates varying certainty that the investor’s interests are perfectly aligned with those of the funding medium. This winter, seven-year CBRE/New England Capital Markets veteran Josh Klimkiewicz launched an online platform of his own real estate crowd investing brand Acquire Real Estate LLC to address these and other recurring issues head on. We caught up with Klimkiewicz to discuss what makes Acquire so disruptive not just to the current state of real estate crowdfunding, but also to the world of commercial real estate on the whole.
Walk us through the traditional real estate investment process. What were the inefficiencies of this model as you saw it?
The traditional real estate private equity model involves a real estate operator identifying an investment opportunity, underwriting that investment, locking up the deal, preparing their marketing materials and legal documents, and conducting their due diligence prior to closing. During this time they also need to focus on securing the funding, both equity and debt, to close the transaction by pitching the deal to high-net-worth investors in their network and institutions one at a time. This is a time consuming, terribly inefficient process and at certain equity requirements, generally less than $15 million, there are virtually no single source options whereby you can raise the necessary funds. Individually mailing out subscriptions documents for signatures and collecting checks just adds to the time and confusion. And that is only a single deal.
Now walk us through the crowdfunding model. How does this model–and Acquire specifically–address those inefficiencies?
Crowdfunding has enabled a centralized process for the fundraising efforts. Instead of pitching the deal to investors one at a time and managing the paperwork and fund collections, real estate operators can post a deal on a single portal and reach many thousands of possible investors at once with the portal handling the subscription process and fund transfers electronically. Furthermore, most crowdfunding portals pool investors into a Single Purpose Entity that is the investor of record in the Sponsor’s syndicate, meaning, to the Sponsor the pooled investors are only treated as one investor for their accounting purposes. What this all boils down to is, Sponsor’s utilizing the crowdfunding model gain access to a large pool of growing investors without any additional administrative time or costs. This allows them the ability to purchase more deals, larger deals, and devote more of their time to uncovering great real estate opportunities and less time to managing a large pool of investors.
Why have accredited investors–individuals who either have a net worth of $1 million or who have earned 200,000 each year for the last two years–traditionally had difficulty accessing real estate investment opportunities?
Traditionally the most accessible avenue into real estate for investors, both accredited and non-accredited, has been publicly traded REITs. Anyone with a trading account can invest in Public REITs at extremely low minimum investments. However the low cost and accessibility comes at a price. You are not actually investing your money in real estate. Rather you are purchasing stock of a company that derives its revenue through real estate investments. As such, public REIT pricing is more reactive to movements in the overall stock market or unforeseen events at the company than the value of the underlying real estate the REIT is invested in. Some notable examples include during the financial crisis, or more recently American Realty Capital due to an accounting error. Also, as an investor in a public REIT you have no control over what individual assets the REIT chooses to invest in. Fee-heavy Non-Traded REITs (also known as Private REITs) and Private Equity Real Estate Funds are less reactive to the stock market than Public REITs but generally offer the same limitations regarding control over your investments and come at much higher minimum investments.
Direct access to real estate has always been based on personal relationships. Some accredited investors may know one or a few real estate operators allowing them access to a few deals but the time commitment necessary to development meaningful relationships with a large subset of real estate operators and underwrite those opportunities is too vast for your typical accredited investor. They just don’t have the time or wherewithal to build a truly diversified portfolio of real estate investments across sponsor, product type and geography. Companies like Acquire allow accredited investors to leverage our relationships and access the investment opportunities that come with them. We also take on the heavy lifting of analyzing those opportunities, negotiating the deals on their behalf and presenting the investments in a centralized location so they can easily build the real estate portfolio that best fits their goals.
What type of professional experience did you prioritize in assembling the Acquire leadership team?
Title II of JOBS Act (general solicitation) created a great opportunity to disrupt the traditional fundraising model for real estate but it also created a situation where it was easy for anyone with some technological acumen to create a web portal and start a real estate crowdfunding site. During our discovery phase we realized very quickly that while there were many real estate crowdfunding platforms, few were started by experienced real estate professionals offering high quality investment opportunities. Our goal, first and foremost, was to assemble a management team that had extensive experience in all aspects of the real estate investment process and the right relationships to ensure we could offer great product. That included an executive team that had purchased and managed sizable private equity real estate portfolios and lending funds, had vast institutional capital markets experience both in structuring and disposing of real estate investments and we needed a management team that had experience building successful companies. Since we are also a technology company at the core we needed a strong development team headed by CTO that had built his career on creating innovative and disruptive technology. Finally, since this is a new and growing industry and will undoubtedly have ever changing legal and compliance aspects we needed a General Council with decades of experience dealing with securities and SEC compliance. I believe we accomplished all those goals.
Explain the pre-funding element of Acquire’s investment platform and why it is so important to your model?
The pre-funding element of our business model came from early discussions with notable real estate operators and also from our own experience. Part of our management team built their own private equity real estate portfolio raising money from high-net-worth investors and institutions. One thing a real estate operator can’t have once they have committed to deal is funding risk. Most crowdfunding portals today operate under a “best efforts” model whereby a deal is posted to the site with a funding goal and an end date. All investor money is held in a 3rd party escrow account until the funding goal is reached and then transferred to the operator. If the funding goal is not met all money is returned to the investors. This model is a deterrent to the best sponsors, those who have no problem raising money for their deals, because the funding risk is too high. This model is also a deterrent to accredited investors since they could be locking up a large chunk of their investable capital in a noninterest bearing account with no certainty that the deal may close, all the while, missing out on other viable investment opportunities in that time. By prefunding our deals with Acquire cash we eliminate the funding risk to the sponsor, allowing us access to better sponsors and better deals, and we have the ability to take investors into our deals on a rolling basis eliminating lengthy escrow periods – our investors typically take ownership of their investments in less than a week after they committed to the deal.
What are some of the more noteworthy real estate investments that Acquire has participated in since its founding?
- We participated in a Shaw’s anchored retail deal in Middlebury, Vermont, purchased by Crosspoint Associates. That deal is currently paying returns to investors over 9%.
- We participated in a Publix anchored center in South Florida purchased by Katz Properties. That deal is currently paying returns to investors of 8%.
- We recently closed on a hotel deal in Dallas, Texas, with one of the most active hotel purchasers/developers in the country and are in the underwriting and negotiation phase for several other transactions around the country.
What are the limitations and/or inefficiencies that still exist with crowdfunding?
We believe we have eliminated one of the largest limitations of the crowdfunding model, the funding risk, by pre-funding all our deals. Another major issue for real estate crowdfunding and limited partner real estate investments in general is the idea of liquidity. Direct real estate investments are by nature illiquid with no public market to dispose or transfer those interests. Generally speaking, once an investment is made, that investor is in for the long haul, five to ten and possibly dozens of years, with limited to no means of an exit unless the underlying asset is sold or recapitalized by the sponsor. This can be a major deterrent for accredited investors who envision the possibility of needing access to that cash in the near future, however, the idea of a robust and fully functioning secondary market for crowdfunded real estate investments in still a ways out. Finally, there is an inefficiency in the market where the accredited investor’s interest may not be aligned with the interest of the portal. In many instances the crowdfunding company is acting as a listing service posting deals on their site, receiving fees from the real estate operator to do so and also receiving management or administrative fees from the investors without any skin in the game. This can produce a situation where the crowdfunding company is incentivized to post as many deals as possible without doing the proper underwriting and due diligence necessary to ensure a good deal. It’s fact that you look at investments differently when your own capital is at risk and in most instances the individual investors are relying on the underwriting of the crowdfunding company to make their investment decisions. Our model is to prefund every Acquire deal but also to remain in that deal, invested alongside our members, so that our interests are aligned.
What do you think this form of real estate investment will mean for the CRE industry in the long term?
Like it or hate it crowdfunding for real estate is here to stay. Disruptive technology takes no prisoners and is merciless to the status quo. The rise of real estate crowdfunding has allowed the use of technology to connect interested investors simultaneously to operators who need money while streamlining the investment process and lowering administration time and costs. As crowdfunding matures real estate operators will be able to raise more money, from more people, more efficiently than ever before. You can expect crowdfunding to continually constitute larger pieces of the capital stack until eventually it becomes the single source solution for operators funding needs. It is the greatest change to real estate fundraising since the creation of public REIT.
Acquire’s intention, according to Klimkiewicz, is to forever change the face of private equity fundraising. Going forward, Acquire plans to grow their group “through strategic partnerships with top sponsors, providing them a more reliable and efficient source of capital and allowing them to devote their time and energy to uncovering exceptional investment opportunities” according to Klimkiewicz. The crowdfunding model is mature enough that the conversation curious investors ought to be having is not whether or not to utilize the medium, but which portal to use–and with the confidence wrought from their prefunding model and team of seasoned professionals, Acquire makes a strong case that it ought to be at the top of that list.
For more insight on Acquire from the minds that manage it, check out the video below from The Street. In it, Acquire CEO Steve Bettinger further expands on the level of choice that Acquire affords the investor and discusses a handful of active Acquire projects.