What I’m about to say will either win you the respect of your peers, a career of opulence, and a home in the Hamptons. Or it wont.

Who’s to say?

But it’ll definitely put your real estate firm in a stronger position…

Most real estate firms that fail do not have recurring revenue.

Thus lacking the ability to weather a financial downturn.

In today’s issue, I am sharing a business model that can help any real estate firm build recurring revenue.

And even if you haven’t done this to start, you should consider implementing it now. It will make your real estate firm more valuable and sustainable.

Unfortunately, most firms are not set up this way. And when markets don’t cooperate, some of those firms die.

Long term success doesn’t happen by chance. It happens through a series of thoughtful decisions

Introducing: Asset Management Fees on Perpetual Capital

There are 4 major ways any real estate firm makes money:

But when financial downturns occur, many of those revenue streams dry up:

The benefits of asset management fees on perpetual capital are:

• Revenue streams become independent of asset sales → creating sustainability

• More accurate business budgeting due to a fixed fee

• Easy to understand and calculate

• On average, fee related earnings receive 3-times higher valuation multiples

How to employ the Asset Management Fees on Perpetual Capital Model in 3 steps

1. Arrange the partnership to include an asset management fee on equity

2. Arrange the partnership to have an undefined hold period

3. Align economic incentives

Step 1: Asset Management Fee

The most important part of this model is arranging an asset management fee on equity. Most real estate investors either:

Don’t charge an asset management fee

Charge an asset management fee on revenue

Using my firm as an example, we charge 1% of invested equity, so for example:

Say you buy a $10mm asset

The bank loans you $7mm

You bring $3mm of equity to the deal

The asset management fee would be 1% of $3mm per year - $30,000

Why is this so important?

The fee does not go away unless you choose to make it go away - unlike the other “pillars of a real estate firm”

When times get bad, you can get lean and rely on this revenue to get through

Step 2: Hold Period Is Undefined

The next step is arranging the partnership so there is no specified period a sale must occur

Why is this important?

The first thing most investors do when there is a recession?

Panic and ask for their money back

This is often the WORST reaction

If you arrange the partnership so it does NOT make you a forced seller, you do two things:

Remove the risk of selling at the wrong time due to a partnership reason

Ensure your firm has recurring revenue each year of asset ownership

Step 3: Economic Incentives

Selling real estate evaporates the beautiful benefits of owning real estate.

So why do most of the institutional investors sell within a 5 years?

Incentives.

A simple, yet underused way to align incentives for a long period of time?

An equity multiple hurdle.

For example, all investors receive cash flow and capital event proceeds until a 1.50x equity multiple (investor invests $100k, receive $150k before a promote is realized).

After the 1.50x multiple, the general partner receives a promoted interest (30% is reasonable)

For your firm, it now becomes a game of time rather than timing economic conditions.

*Note: an equity multiple hurdle is generally more favorable to the GP on a long term deal

Summary

It takes effort to find great real estate deals. And when you find a deal, it takes effort to find investors agreeable to this structure. But rest assured, investors are open to this structure. Did someone say Berkshire Hathaway or Blackstone!?

Thanks for reading - until next week,

Jake

What I’m about to say will either win you the respect of your peers, a career of opulence, and a home in the Hamptons. Or it wont.

Who’s to say?

But it’ll definitely put your real estate firm in a stronger position…

Most real estate firms that fail do not have recurring revenue.

Thus lacking the ability to weather a financial downturn.

In today’s issue, I am sharing a business model that can help any real estate firm build recurring revenue.

And even if you haven’t done this to start, you should consider implementing it now. It will make your real estate firm more valuable and sustainable.

Unfortunately, most firms are not set up this way. And when markets don’t cooperate, some of those firms die.

Long term success doesn’t happen by chance. It happens through a series of thoughtful decisions

Introducing: Asset Management Fees on Perpetual Capital

There are 4 major ways any real estate firm makes money:

But when financial downturns occur, many of those revenue streams dry up:

The benefits of asset management fees on perpetual capital are:

• Revenue streams become independent of asset sales → creating sustainability

• More accurate business budgeting due to a fixed fee

• Easy to understand and calculate

• On average, fee related earnings receive 3-times higher valuation multiples

How to employ the Asset Management Fees on Perpetual Capital Model in 3 steps

1. Arrange the partnership to include an asset management fee on equity

2. Arrange the partnership to have an undefined hold period

3. Align economic incentives

Step 1: Asset Management Fee

The most important part of this model is arranging an asset management fee on equity. Most real estate investors either:

Don’t charge an asset management fee

Charge an asset management fee on revenue

Using my firm as an example, we charge 1% of invested equity, so for example:

Say you buy a $10mm asset

The bank loans you $7mm

You bring $3mm of equity to the deal

The asset management fee would be 1% of $3mm per year - $30,000

Why is this so important?

The fee does not go away unless you choose to make it go away - unlike the other “pillars of a real estate firm”

When times get bad, you can get lean and rely on this revenue to get through

Step 2: Hold Period Is Undefined

The next step is arranging the partnership so there is no specified period a sale must occur

Why is this important?

The first thing most investors do when there is a recession?

Panic and ask for their money back

This is often the WORST reaction

If you arrange the partnership so it does NOT make you a forced seller, you do two things:

Remove the risk of selling at the wrong time due to a partnership reason

Ensure your firm has recurring revenue each year of asset ownership

Step 3: Economic Incentives

Selling real estate evaporates the beautiful benefits of owning real estate.

So why do most of the institutional investors sell within a 5 years?

Incentives.

A simple, yet underused way to align incentives for a long period of time?

An equity multiple hurdle.

For example, all investors receive cash flow and capital event proceeds until a 1.50x equity multiple (investor invests $100k, receive $150k before a promote is realized).

After the 1.50x multiple, the general partner receives a promoted interest (30% is reasonable)

For your firm, it now becomes a game of time rather than timing economic conditions.

*Note: an equity multiple hurdle is generally more favorable to the GP on a long term deal

Summary

It takes effort to find great real estate deals. And when you find a deal, it takes effort to find investors agreeable to this structure. But rest assured, investors are open to this structure. Did someone say Berkshire Hathaway or Blackstone!?

Thanks for reading - until next week,

Jake