I am getting ready to go raise a multifamily fund and want it to have the ability to invest in both value-add and development deals but hold long term (7-10years). I am currently playing around with the structure of the fund.
I have seen 7-8% pref then split 80/20 type of thing but im worried that with the nature of the long-term hold strategy the pref will take forever to paydown and the GP won't get to participate in the operational cash flow. I have seen some crystalization of interests upon stabilization that might work. Also are fund of this nature usually running the waterfalls on a deal by deal basis or does the entire fund have to hit its pref before moving to the second hurdle?
Would love some feedback. Thanks,.
Our (LP) structure is a higher pref (10%), but it's pari passu. Once accrued pref and return of capital is met, then the GP can move onto the next hurdle.
I'll invest 350.
Will you/the fund be investing directly into the deals or will you have an owner operator/sponsor that is the GP at the deal level and your fund is the "LP" (in quotes because you can structure it where you have almost as much say in decision-making as the sponsor)?
Our fund typically invests in each deal as an "LP" resulting in a fund of properties diversified across various sponsors, investment timelines, locations, etc. The sponsor gets a promote at the deal level of anything above a 10% preferred return (pari passu and compounded quarterly), then we (the GP of the fund) get a 20% promote on anything above an 8% preferred return (accrues, but does not compound). Our fund waterfall goes 8% pref -> return of capital -> 80%/20% so we are all back-ended. If the fund does well (as anticipated), then you typically end up with all the LPs of the fund having their preferred return paid and capital returned with a few deals still active in the fund. Then, as the GP, you get 20% of all cash flow and then any sale proceeds.
You could structure it as the above, but only returning LP capital when there is a capital event. That way if you're distributing above the pref, then you get 20% of the cash flow over the pref.
Yes, we invest with sponsors who are our "GPs" and have a couple different structures we use with them depending on which fund we are investing out of.
What I was trying to figure out is a way to participate in the operational cash flow greater than our 2-5% stake as the GP of the fund before the pref is hit. The structure you described above is more or less how our other funds are structured but they are shorter term development deals so there are large capital events happening more often resulting in us achieving our promote quicker.
Gotcha. Interesting idea. My biggest question is will you be able to find LP investors that agree to a structure where the risk is being transferred to them?
What size fund are you looking to raise / who are the target LPs? From my experience, it's hard to get fund-type investors (certainly those that can participate at scale i.e. $50m+ checks) to approve non-traditional fee structures for a closed-end fund. As the Fund's manager you can obviously have access to CF over the life of the fund from asset management fees, but beyond that, you're generally stuck waiting for the back-ended promote payments. For open-ended vehicles sometimes there's an interim promote scrape mechanism, but OEFs are a whole different business model (and require a lot more infrastructure to raise).
Pref I've seen is way high with 10 and 11 handles. It's useful for an extra 25% of leverage when you're expecting a development/value-add return but most of those returns are realized upon sale not operation, so it's a more acretive structure if you're looking at a renovate/develop and sell horizon. It's pretty hard to get cash-flowing properties where your cash yield's going to be higher than the pref coupon so it becomes a drag.
I'd try and get JV. You'll get higher leverage and if you're cash-flow focused it's less of a drag. Waterfall terms are pretty solid and JV is willing to bite at lofty prices.
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