Real Estate Promote Question
Hi there,
When modelling a promote, I have seen the distribution % split (at various hurdle levels) calculated in two different ways, can someone kindly explain why I have seen two different ways and which option is preferred:
Example:
Original Equity Contributions: GP: 10% & LP: 90%
Promote Hurdle 2 = 25%
Option 1:
Distribution as %:
GP = 25%
LP = 75%
Option 2:
Distribution as %
GP = 32.5%
* Calculation = 25% + (75% * 10% being GP's original equity contribution)
LP = 67.5% (100% - 32.5%)
Any advice people can provide on why there are two ways of calculating the above and which is preferred would be great.
Thanks,
Jamie
I just wrote a long response that doesn’t answer your question... nvm lol
This is going to sound weird but either one could be accurate, it just depends upon the agreed upon terms between partners.
As an analyst if you were handed the information you provided for the second tier of the waterfall the correct response would actually be to ask if the 25% promoted is a promoted interest of the GP or a straight up split (or even better still check the LOI or PSA documents for yourself to verify).
I’ll share that typically the way that waterfall language is set up is a “25-75% split up to a 20% IRR” with several tiers, typically promoting the GP’s back end split as the project level returns get higher, i.e. increasing their share of the returns as profits increase for doing a good job and incentivizing them to make it as great a result as possible.
You’re calculating two things. The first is the promote, which is 25%. The second is total cash flow to GP, which is 32.5%. Not much more to it than that. There’s no preference, they’re not the same thing.
Uhh... people definitely use option 1 as well
Uhhh...again, these are two separate calculations. Promote vs total GP cash flow. Analysts lol
nm
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