Fair equity split?

[matthewrlee]

I'm looking at raising capital in order to roll forward, but do not have a good network to achieve this.



A friend (who is not experienced in real estate) is tapped into a very good network, and wants to help me raise capital. This will be his way of getting into real estate. He will get me facetime with the people with the capital... and because they trust him, and because he trusts me, I will have instant credibility with these people.



What is a fair way to split equity? He is one of my best friends, so I genuinely want to also use this opportunity to help him get off the ground. And I'm sure that once we get started, there will be more people in his network that we can continue to tap for capital.



I know... Thomas, you always say that the fair equity split is one that works for all involved. But can you please give me some examples of how experts have done this in the past? For example, instead of the regular 50/50 split between money partner and expert, are we now looking at a 50/25/25 split (money partner / expert / capital raiser)? 40/30/30 split?



Or does the "capital raising" role usually have a smaller split than the "expert" role? (particularly because his role is all upfront, whereas mine is ongoing). Not sure that I would like unequal equity sharing between us, though.



I'd rather do equity sharing with him than a "finder's fee", because I'd be willing to give up some of my profits in order to help him get off the ground and involved more in real estate.



Or is there another way to think about this?



Your thoughts are appreciated.

 

[Thomas Beyer]

How much money is he raising ? Who signs/co-signs the mortgage ? What would a typical deal and profit potential look like over five or ten years ?

 

[matthewrlee]

1. He doesn't know yet. He just knows that he can get me in front of people with money who are interested in investing in real estate. He won't be delivering the pitches or anything like that... just arranging the meetings.



2. Investor (in the case of 1-4 units property). Also am looking at 15-20 units in Edmonton, in which case we all would provide personal guarantees (unless you have other advice?).



3. Here's a simple deal, assuming no cashflow for the entire life of the deal (i.e. cashflow reinvested back into property), and a conservative 3% appreciation. The return is solely based on mortgage paydown and appreciation. Of course, in a REIN top town, the potential is much greater than this. Do you think that I should change any of my assumptions for presenting a sample deal like this? (i.e. show increasing cashflow over time due to increasing rents outpacing increasing expenses, etc.). Or possibly show various scenarios with 5% appreciation? 7% appreciation?



For 4-plex (Hamilton)

Price: $350k

Original investment (20% downpayment, closing, reserve): $85k

Rents: $2800/month

Vacancy (4%): $100/month

Mortgage: $1250/month

Expenses: $1400/month

Cashflow: $0



5yr outlook:

Cashflow: $0

Mortgage paydown: $33k

Appreciation (3%): $59k

Total return (before realtor/lawyer fees): $92k

ROI: 108%

Average ROI: 21.6%





10yr outlook:

Cashflow: $0

Mortgage paydown: $71k

Appreciation (3%): $126k

Total return (before realtor/lawyer fees): $197k


ROI: 232%

Average ROI: 23.2%

 

[Thomas Beyer]

try:



30% for expert

20% for parties signing the mortgage ( 6% for you and the other 14% pro-rata)

50% for investors



i.e. 36/64 if one investor, and 36/32/32 if 2 equal investors (or perhaps round that to 1/3 each)



overall ROI is likely lower as you will have closing costs, likely will have some deferred maintenance cost over and above cash-flow, likely will not get 80% mortgage but only 70 or max. 75%, and exit costs.



Show three (by 3) scenarios:

Minimum: 3% annual appreciation

Expected: 5% annual appreciation

Optimistic: 7% annual appreciation

with add'l upfront and exit costs and two or 3 mortgage scenarios of 70, 75 and 80% LTV

 

[matthewrlee]

Hi Thomas,



Sorry, not sure I am misunderstanding your response, or whether I was unclear in the beginning.



Allow me to restate my question:



My friend doesn't have any capital to invest, nor has any credit-worthiness that he is interested in putting into the deal. If he helps me raise capital by introducing me to his network, how should he be compensated for that? Should he be compensated in the form of equity in the deal, or in the form of a flat fee?



Thanks,

Matthew

 

[Thomas Beyer]

[quote user=matthewrlee]Should he be compensated in the form of equity in the deal, or in the form of a flat fee?
yes

 

[matthewrlee]

[quote user=ThomasBeyer][quote user=matthewrlee]Should he be compensated in the form of equity in the deal, or in the form of a flat fee?
yes





So... he should get BOTH equity in the deal, and a flat fee? Is there a rule of thumb that I could use for how much and what %?

 

[Thomas Beyer]

I use 20% to 25% as a rule of thumb for the money finder of the overall profit to the operator plus a commission upfront.



So if you agree to split profits 60% to investor and 40% to you then he'd get 20% of 40% i.e. 8% to 10% of the overall profits, plus commisison. Our product also pays an 8% commissions like most syndicated products do. This, of course, reduce the overall profit.



So, budget 8-10% of money raised (paid upfront) PLUS 20-25% of your profit (at the end) as an incentive for the money finder / partner.



Some folks want more upfront, say 10-15% and some folks are OK with waiting, say nothing upfront and 33-40% of your profit at the end.

 

[Cory Sperle]

[quote user=ThomasBeyer]Some folks want more upfront, say 10-15% and some folks are OK with waiting, say nothing upfront and 33-40% of your profit at the end.


Carefully consider your investors in this scenario and their investment. 15% upfront for fees means the investment must generate almost 18% just to get back to zero! Factor in closing costs and it gets closer to 20% or higher. I invest with Thomas because his upfront fees are very low compared to others. There are some out there taking 25% or more, meaning the investment must generate 33% to get to zero! The best for the investor is all profits at the back end, making the chance for a profit at all much greater, and having every cent working.





Your scenario is unique, in that you have experience and he has contacts with capital. In my opinion it would be difficult for me to swallow as an investor (who is ultimately paying) to agree to finders fees and/or equity to multiple people. Why not let your track record speak for itself and attract JV money on your own?

 

[matthewrlee]

Thanks for your comments Cory (and Thomas, of course!). Definitely great thoughts to consider. What you are describing sounds like a professional money finder, not an informal one.



Thomas, what function do your "money finders" perform to warrant 8-10% upfront fees (of money raised) plus the 20-25% of your profit? Are they full-service agencies that do ALL the work in raising capital (i.e. Exempt Market Dealer, marketing, sourcing leads, qualifying leads, speaking to the potential partners, handling all logistics and paperwork, and the money "magically" shows up in a lawyer's trust account ready for you to use)?



What do you pay to someone who simply provides an introduction to a potential money partner? (e.g. he has an uncle or a friend who is interested in speaking with me)... And you are basically taking it from there and doing the rest of the work?



Cory - would love to attract JV money on my own! I'm hopefully getting to that point eventually, but finding it tough. I agree that the money partner would find it a huge disincentive to be paying "finder's fees", which is why I was considering either paying the finder's fee out of my own pocket, or offering the money finder a portion of my own profits. Is paying the finder's fee out of my own pocket a strange concept?

 

[Cory Sperle]

[quote user=matthewrlee]Cory - would love to attract JV money on my own! I'm hopefully getting to that point eventually, but finding it tough. I agree that the money partner would find it a huge disincentive to be paying "finder's fees", which is why I was considering either paying the finder's fee out of my own pocket, or offering the money finder a portion of my own profits. Is paying the finder's fee out of my own pocket a strange concept?











Why are you finding it tough? If you have no problem finding amazing deals and have a track record of success the money should find you. When you say 'finders fee' I assume that you mean a sales commission of some sort, with larger syndications selling subscriptions to their investments. Since you are not in this category, I suppose it is reasonable to pay a referral 'out of pocket' so to speak. I see this as perhaps a one time thing to get a property perhaps, as this would not be sustainable going forward unless you get much larger and are selling securities and must pay sales commissions to raise capital.





The only 'finders fee' I would consider paying would be one that generates a lead to an acquisition, since for me that is the most difficult part. Strong deals attract capital, backed by experience and a proven strategy and track record. Start with your inner circle and share your success stories with them and branch out. I read somewhere that your next money partner is likely someone you already know.

 

[Cory Sperle]

[quote user=matthewrlee]Cory - would love to attract JV money on my own! I'm hopefully getting to that point eventually, but finding it tough





The steps to take:





1. educate yourself and save to buy property with your own cash


2. buy first property and work hard to make it profitable, show others your results


3. recycle your cash from first property, into a second, third and fourth, show others your result


4. buy more property with other people's cash based on your performance


5. repeat





You seem to be stuck on number 4, did you skip 2 and 3?

 

[matthewrlee]

Hi Cory! Actually, I've managed to complete steps #1-3 with four properties... including the disbursement of one property, and I'm currently holding 10 doors. I would like to think that I have a pretty good track record demonstrating good performance... but just not finding that it's that easy to find JV partners (yet). So it's step #4 that I'm definitely stuck on!



I've gone thru REIN's JV Secrets program already. Yes, I know that REIN always says that there is more money trying to find good deals than there are good deals trying to find money. And I am certainly finding that people in my inner circles are becoming interested in speaking with me about real estate. But no dice yet, and so I was just interested in searching my 2nd circle of influence (friends of friends)... hence my question about how to fairly compensate a "money finder" (or more specifically, someone who simply provides an introduction to a potential money partner).



I know that raising capital has been a big focus of REIN lately, and that many people are in the same boat as me. I suppose that is why they keep touting perseverance and why Russell says that every "no" just means that you're closer to a "yes"! (and why Thomas highlights selling as a key skill to have/develop!)

 

[Cory Sperle]

Hi thanks for the feedback, you definitely have the experience to take it to the next level. Call me old fashion but for me the best way to find partners is word of mouth from others. Have the conversations with them early so when a great deal pops up they are prepared to invest with you. What about your first circle of influence? I think the farther you drift from your inner circle the more difficult it will be. Consider this as well, do you really want money partners you don't know that well? They may not share your vision of length of investment, return expectations, and so on. I prefer to keep my deals intimate, with immediate family members mostly and close friends. It is somewhat taboo in north America, but Asian cultures have been pooling their resources together with family for generations. Plus, what could be better than helping those you care about reach their financial goals?





A great mentor in Edmonton, Terry Paranych said once if you find a great deal and don't have the money tie up the property anyway, then raise the cash because money is everywhere. Focus your efforts on pin pointing the home run deals and your off to the races.

 

[Thomas Beyer]

Likely your network is too small. Every person with money always wonders what to do with it. As such, do not be shy about talking about your last deal and casually mention that you may need money partners on one if the next deals crossing your desk. People who are interested will say it, whereas folks that wish to just chat hockey scores will do that. Over time build a small database of interested parties , then tickle them with useful emails about the economy or an upcoming deal.



every yes is proceeded by no, no, no, no, not yet, no, not right now, maybe, yes ...