Regular readers know we’re not sellers; once we complete a renovation and lease the property back up, we refinance, return capital to our investors, then hold.
The downside of this strategy is that it can take some time before Adaptive gets to participate in the cashflow generated from the property. Even when we are able to refinance 100% of the cash invested back out, we don’t participate until we pay the investors the preferred return that has accumulated during the renovation period (typically ~12 months).
That’s why the refinancing we closed on a small deal last week was so cool: We were able to pull out 100% of the cash invested AND enough to pay off the pref.
Here are the details:
- Acquired the property in early 2017
- Total investment of ~$1.7MM
- Cash out refinancing of ~$1.9MM closed in September 2018
So, our investors put in ~$1.7MM and then, about 16 months later, got back ~$1.85MM. Plus, now they own 70% of a very nicely renovated building which will spit out cash forever.
Adaptive did OK, too: In exchange for our work on the project, we got a nice fee, plus 30% of the building.
It’s a small deal, so the cashflow isn’t going to change anyone’s life. But we’re happy to just keep chopping wood, repeating the process over and over and over again.
Why do real estate private equity investors sell assets?
After all, most private owners of real estate generating really nice cashflow hold forever.
And selling forces you to either re-place the capital via a 1031 exchange under duress (eg with a short window) or to pay huge tax bills.
So, again, why do the smartest guys in the business sell?
It all comes down to the incentive structure built into the pref / promote model.
Sponsors (developers) are penalized for holding by rapidly accumulating preferred returns (eg the longer they hold the asset, the smaller their share of the eventual profit is). And their promotes (their share of the profits) are calculated based on pre-tax returns to investors, so they don’t care about the post-tax, “real” returns.
This incentive structure works well for the kind of institutional investors who back Blackstone, etc., because many of them are foundations or endowments and thus pay no taxes.
But, for an individual investor or family office, investing with a sponsor who intends to sell doesn’t make much sense.
When you have a good asset in an improving area, you put on sensible debt, and you hold it forever.
Regular readers know I’m not a fan of selling LA real estate, particularly in improving neighborhoods.
So, why are we selling 2727 E 4th St. in Boyle Heights?
The fund that owns it has a structure which requires we meet a certain yield threshold to keep pace with the investors.
To get the yield up above that threshold, we would have to invest more time and attention than we have available, given all the projects we’re currently working on.
So, since the value is up nearly 2x since we bought it in late 2013, we’ve decided to let the property go.
At $1.3MM for nine units approx. 1.5 miles from the Arts District, I think 2727 has a ton of potential.
It just needs someone with bandwidth to give it the love it needs… that’s not us… is it you?
Every once in a while, I take a look at the Google Analytics for this site to try to get a sense for what people are searching for to end up here.
Turns out a ton of people are trying to figure out what their apartment buildings are worth.
This is the kind of question we’re always happy to help answer.
Why? Well, we do run a brokerage. And, while we are probably the only real estate brokerage in the world that discourages people from selling, we do, on occasion list and sell buildings in our areas.
And, more importantly, we’re always happy to discuss real estate with people who own buildings… you never know what kind of business opportunities will emerge.
So, if you have a building in LA and you want to know what it’s worth, get in touch with me: moses [at] adaptiverealty [dot] com.
“Do you have anything in your portfolio that you’re considering selling?”
I get that question at the end of almost every conversation I have with a broker.
And it makes sense, right? You don’t get business without asking for it.
But the answer is, most assuredly, “No, and I probably won’t sell ever again.”
Once you have a beautifully renovated apartment building in an improving part of LA, you really need to be pretty dumb to sell it (I know; I sold 12 of them in 2011-2012 and want to slam my face into my desk every time I think about it).
Because of demographic trends and restrictive zoning, rents and values in LA are a good bet to grow at a rate which is in excess of inflation for the foreseeable future.
As long as I like my yields (and I like them very much!), why would I sell?