A moment of gratitude

Want to pause for a moment to express gratitude for where we are and how far we’ve come since we founded Adaptive Realty in 2011.

Fund 1 was $3.8MM in equity, and it was only that big because I got extremely lucky and had a family office that I’d never worked with before come in for 50% at the last minute.

In January, Fund 5 had its initial closing with $9MM in equity. And I’m working on a few other deals right now which, while not suitable for the fund, will require another ~$9MM of capital that we’re highly confident of pulling together.

It’s taken a lot of hard work to get us here. But it’s also taken a lot of really good luck, from the good health that Jon and I have enjoyed, to stumbling across really great partners who have believed in us, to hiring amazing people who we found basically by accident, to being chosen as buyers on deals where there were many other groups offering similar prices, etc.

So, today, just want to express our gratitude to the universe for allowing us to come so far, so fast.

Forced creativity

Back in 2010, anything you bought was a great deal. So, you didn’t have to be too creative… just buy anything, with decent financing, and you were probably getting a >10% cash-on-cash return.

For the last 3-4 years, that has not been the case, at all. If you just buy a normal deal and do nothing to add value, you are looking at something like 3-5% cash-on-cash.

If your business, like our business, depends on delivering supra-normal returns, you’ve got to do something different.

Here, broadly, are your options:

  1. You can expand your opportunity set beyond the one everyone else is looking at. This means looking at new cities, new neighborhoods, new asset classes. It might also mean setting up a system to source off-market opportunities.
  2. You can change the way you look at the existing opportunities. In other words, you can figure out how to look at the deals everyone else is looking at in a different way, one that allows you to generate better returns from those deals than everyone else would.

For better or worse, at Adaptive, we are very wary of trying new asset classes and geographies at a time when the market is hot. So, we have continued to focus on rehabbing smaller, LA apartment properties, even as many of our original competitors have moved on to new cities, new product types, or ground-up development.

That has forced us towards #2 above. In other words, because we have chosen to operate with a relatively narrow opportunity set, we have been forced to come up with creative ways to add value to those opportunities.

That sounds dry, but each new little innovation allows us to put more investor capital to work profitably, benefiting our partners and ourselves.

A good book for prospective investors in real estate deals

Just read a really great book that I’d like to recommend here: Investing in Real Estate Private Equity, by “Sean Cook” (a pseudonym for an active market participant).

The book is intended as a primer for (potential) passive investors in private real estate deals. It lays out all of the basic concepts, from pref to promote to fees, etc.

Some of these concepts are pretty complex. But understanding them is vital to figuring out whether the structure(s) in which you are considering investing are fair.

And I want to echo “Sean’s” point that many of the deals I’ve seen, both on crowdfunding platforms and via traditional word-of-mouth distribution, contain terms which are not fair to investors (along with assumptions about the performance of the deals themselves which are, to be charitable, optimistic).

Anyway, worth a read if, like me, you’re obsessed with this space.

A tough choice on tenant approval

Recently, I had to make a really tough call regarding a new tenant.

A little background:

  • We’re finishing up a very large re-positioning deal;
  • We’re very close to closing the refinancing, which should return ~90% of the capital invested in the project, leaving us with a >20% / yr cash-on-cash on the capital that remains in the project;
  • One of the remaining gating items is leasing the last unit, which has been tough; and
  • Applicants came for the last unit with imperfect credit / employment situations

Regular readers know I approve every applicant in our portfolio. By “approve”, I mean, determine whether that applicant will be accepted and, if so, with what security deposit and / or co-signer.

Obviously, the choice was:

  1. Bend the rules and offer to take these imperfect applicants with less stringent security deposit / CS requirements than usual, thereby increasing the odds of closing lease and, therefore, the refi, but increasing the odds of tenant problems later on; or
  2. Hold fast to our standard, risk losing the tenants, and thereby delay the refi

I chose a middle path, where I loosened the security requirements without totally capitulating. Hopefully, the lease will close and the refi shortly thereafter.

Our business (and, probably, all business) is like that: A series of inter-connected choices I need to make, with far-from-perfect information and unpredictable consequences. Am just aiming to get most of them (and, ideally, the big ones!) right.

The two key levers

Read somewhere recently that the leader of a company ought to be able to write down the company’s key strategic objectives on one piece of paper.

The idea is to make sure that the preponderance of the organization’s energy is oriented in the direction of a few key goals, rather than spread across many, minor projects that won’t move the dial.

For Adaptive, the objectives are incredibly straight-forward:

  1. Continue to do great deals, ones where we get both a material cash fee (which allows us to live) and an ownership stake (after investors make an out-sized return).;
  2. Accelerate the growth our management business (which organically grows through #1) by taking on the management of very high quality buildings filled with very high quality tenants.

That’s not to say that our business is simple. There is an incredible amount of complexity: finding deals, finding the capital for deals, obtaining debt, managing contractor relationships and construction projects, managing the financial reporting, structuring transactions to make the tax-efficient, building the organization, setting rents, finding tenants, managing maintenance expenses, etc.

But, doing more good deals and getting good management assignments are the two levers that can materially change the trajectory of our business.