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Co-GP Structures Help Real Estate Sponsors Navigate a Choppy Investment Market

Use of co-GP structures increased during the COVID pandemic as real estate developers saw the benefits of sharing infrastructure, costs and risk.

Beth Mattson-Teig | Oct 03, 2022

Developers and real estate investment sponsors that have traditionally been reluctant to give up sole control and a bigger share of profits are changing their tunes as they recognize the benefits co-general partners (GP) can bring to deals, especially in more uncertain economic conditions.

Many real estate deals are structured as GP/LP arrangements with the real estate investment manager or developer serving as the general partner and other sources of capital sitting as limited partners. In a co-GP arrangement, an equity partner provides capital that a GP would normally bring the to the table in exchange for a higher return than would be available in a typical LP arrangement. The structure is attractive across the board from different types of investors–family offices, equity investors and funds. Developers will sometimes partner on deals, and institutions like them because it gives them more control in a joint venture.

Related: As Yields Tighten, More Real Estate Investors Are Exploring Preferred Equity Deals

Co-GP deals are not a new phenomenon. Developers have been using co-GP structures for years to expand into new markets for years. But interest in the structure increased during the pandemic as developers saw the benefits of sharing infrastructure, costs and risk. "What I have seen with my clients is that everyone is worried about risks associated with government shutdowns, credit support and rising interest rates. There is a lot of risk out there, and if you have a partner to navigate that with, it can be beneficial to both sides," says David G. Moss, a partner at Duane Morris LLP in New York City.

Rising capital costs driven by increasing interest rates are likely to fuel even more co-GP agreements in the near term, observers say. "We’ve been seeing a lot of need for it recently, especially on the small balance check side, because capital has dried up over the last three to six months," says Noah Miller, a vice president at Gelt Financial. Lenders have become more conservative on leverage, which is creating a bigger financing gap for sponsors. Equity investors also are sitting on the sidelines a little more. Co-GP arrangements that offer shared upside are a way to sweeten the deal and attract equity partners. "There is definitely a large need in today’s world for these JV equity players to come in and write the equity check," he says.

Related: HNWI Interest Grows for CRE Feeder Funds

Gelt Financial recently inked a co-GP deal with a sponsor that was looking to buy and reposition a vacant office building in the New York City metro. The sponsor had the property under contract and needed to bring in an equity partner to fund the transaction. In this case, Gelt Financial put up 100 percent of the equity and went into the deal as a 50-50 partner. In return, Gelt Financial is paid a preferred return on the equity and also gets an equal share of the profits.

"We liked the deal because this was a boots-on-the-ground individual who had the experience of leasing up buildings and doing the renovation work," says Miller. The sponsor has since completed the renovation work and fully leased the building, and the partners are currently deciding on whether to sell or refinance. "That was really a perfect execution where the value has gone up dramatically," he says.

Miller expects to see more investment co-GP opportunities going forward because of the more challenging environment for sourcing both debt and equity. "A year or two ago there was so much capital chasing real estate deals that GPs had a lot more control and power. They could say, ‘Here’s the deal. Take it or leave it.’ We’re not in that world anymore," he says. "The market has changed a lot over the last six months, and it’s going to continue to change as interest rates rise."

Partners bring capital and resources

One of the main drivers behind the spike in co-GP deals is sponsors’ need for capital. A co-GP deal is a good way for a less seasoned developer or sponsor to access funds. Experienced developers also leverage co-GPs to expand across multiple projects or do bigger deals than they would otherwise. For the incoming or second GP, the agreement gives them access to a share of the promote and a fair amount of the upside in value creation, even if the initial GP is doing a majority of the work.

A GP partner brings their own equity to a deal, and they also can help raise limited partner equity, leverage their balance sheet to find cheaper debt, and if necessary, provide credit support by serving as a co-guarantor on a non-recourse loan. "That GP partner can be like fertilizer, allowing you to do bigger deals because they can provide capital and help find and source capital at lower rates that will allow you to write bigger checks and do bigger deals," says Moss.

Bringing in a partner also offers other key advantages, such as providing expertise, infrastructure, boots on the ground operating support and relationships. Evergreen Property Partners has a co-GP platform that makes strategic and programmatic co-GP equity investments with a select number of sponsors in JVs alongside a diversified group of institutional majority equity partners. "Any relationships at Evergreen become part of our partner’s relationships," says DJ Van Keuren, co-managing director of Evergreen Property Partners and founder of the Van Keuren Family Office Real Estate Institute.

For example, Evergreen has a client that is investing as a co-GP in a modular build-to-rent development. There is an opportunity for the developer to add solar to the project that will help offset utility costs and improve the project’s sustainability. Evergreen leveraged an existing relationship with the head of a solar company to create a connection for the developer. In another case, Evergreen shared its expertise with a partner involved in a complicated land acquisition. "At the end of the day, those shared relationships will help us to make more money," he adds.

Sharing decision making

GP investments are attractive to investors for the enhanced economics, as well as greater decision-making controls that often come with those structures. However, it’s important to carefully analyze the operator, advises Van Keuren. What have they done? What’s their balance sheet? How much skin do they have in the game? "When you’re investing at the co-GP level, that is magnified, because you’re really investing with the GP directly and not just the project itself," he says.

Co-GP deals are typically more complex than a typical JV and terms can vary depending on the individual deal. Generally, the incoming co-GP wants a seat at the table and a say in major decisions that impact what’s going on at the property, notes Miller. Day-to-day decisions are typically the primary GPs responsibility, but Gelt Financial wants major decision rights, such as approval on the decision to sell or refinance the property, or approval on a lease to a major tenant, he adds.

The profit sharing split also is negotiated depending on what each side brings to the deal. For example, the secondary GP might get paid a premium on their equity and also share in the profits. However, that split might be a 50-50, 60-40 or 70-30. When a co-GP is providing that credit enhancement, they usually want something in exchange for that added risk, such as more control rights on major decisions or a piece of the developer fee. "There has to be some give and take and incentives for both sides to make it work. When you find that, a co-GP relationship can be beneficial," says Moss.

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Should Advisors Be Worried About Online Reviews? It Depends.

While advisors should be informed and prepared as to risks and compliance issues, the opportunity with reviews is clear.

Whit Lanier | Jun 16, 2023

The "new" SEC marketing rule has been in effect since November 2022. The updated regulation provides clear guidelines around permissible use of testimonials and endorsements for financial advisors. While the regulation isn't exclusively about online ratings and reviews, to anyone paying attention the opportunity is clear.

Consumers Love Online Reviews

Testimonials in the form of star ratings accompanied by brief reviews have become the norm for consumers in most industries. From shopping on Amazon to booking accommodations on Airbnb, and even choosing healthcare professionals on hospital websites, online reviews have become indispensable in the decision-making process. In fact, a 2022 BrightLocal survey revealed that 98% of consumers read online reviews about local businesses, and 81% considered reviews important when it came to financial and legal services.

If Reviews Are Coming, Should Advisors Be Worried?

Related: SEC Reiterates Warnings on Marketing Rule

Given the rise of reviews in other sectors, financial advisors may have concerns about their potential impact. A parallel can be drawn between the current landscape for financial advisors and the physician landscape in 2014. Initially, few online ratings for physicians existed, and many doctors preferred it that way. But predictably a few patients were self-motivated to share about their experiences with their doctors. Despite seeing hundreds of patients a month, a handful of "loud voices" initially had a disproportionate impact on the online reputation of those physicians. This scenario often led to an inaccurate representation of the overall patient experience, which displeased physicians.

As we are now in the early days of reviews for financial advisors, we can expect to see a similar early adoption trend for some advisors, and this uncertainty can cause some concern.

Advisors Cannot Prevent Clients From Leaving Reviews

Related: The WealthStack Podcast: How Advisors Can Leverage Online Reviews (and Be Compliant)

Regardless of advisors' plans for testimonials, clients have the freedom to write reviews online. Google Business Profiles and various online directories for financial advisors already exist, actively collecting reviews about advisors. These sites recognize the influence reviews hold over search engines and consumers. If any of these sites can gather a critical mass of advisor reviews, they are likely to be rewarded with significant increases in website traffic. Unfortunately, many of these sites lack mechanisms to ensure that reviewers are genuine clients of the advisors being reviewed.

Adopting a "Wait and See" Approach Carries Risks

Given the landscape described above, there are three primary risks associated with adopting a passive "wait and see" approach towards online reviews:

  1. A lone negative review could initially color or define an advisor’s online reputation. If advisors have a concern that a client or former client might have an axe to grind, there is always the remote chance that he or she could air dirty laundry in the form of an online review.
  2. Directory sites begin to amass influence. If a directory site is successful at collecting a meaningful number of reviews about a specific advisor (or that advisor’s competitors), that directory site begins to have significant bargaining power with the impacted advisors.
  3. Competitors could get a significant head start. Many advisors are getting started with reviews, and in six to 12 months passive advisors may find themselves at a significant disadvantage in the world of online reputation. Imagine a prospect receives referrals for both an advisor and that advisor’s chief competitor. If a prospect sees dozens of positive reviews for the competitor but finds nothing when they look for reviews for the advisor, the "wait and see" advisor will be fighting an uphill battle to win that business. A 2021 Financial Planning Magazine study reiterated this concept, reporting "nearly half [of respondents] removed advisors from consideration based on what they saw or couldn’t find in their digital footprints."

Clients Are Overwhelmingly Satisfied, So Encourage Them to Share Their Experiences

Rather than relying on directory sites, advisors can proactively request feedback from all their clients within a closed-loop system. All collected reviews can then be shared on the advisor's own website, offering several benefits.:

  1. Only verified clients can leave reviews: With an invitation-only approach, advisors can ensure that only their clients are able to leave testimonials.
  2. Minimize the risk of a few loud voices: Advisors can wait to publish their reviews until they get a minimum number of responses. This could be as few as five to10 reviews, but it ensures that there’s not a single outlier review claiming to represent the typical client experience.
  3. Compliance has a seat at the table: Because all the reviews can be evaluated by compliance before being published, it's easy to ensure that anything that meets the definition of "advertising" is indeed compliant.

Transparency Wins Trust

While advisors may come across reviews that are not fit for publication due to sensitive information, profanity, or unsubstantiated claims, as long as advisors are transparent about their review collection process and clearly communicate their publishing policy, consumers will trust the reviews, and regulators will be satisfied.

Mind the Recent SEC Risk Alert

It is worth noting that the SEC recently issued a risk alert on the SEC Marketing Rule, suggesting that advisors are beginning to incorporate testimonials into their marketing efforts, and some have been observed doing so in a non-compliant manner. To mitigate compliance risks, advisors should seek partners who take a compliance-first approach to collecting and displaying client testimonials.

Conclusion: Worry Is a Waste of Time

Instead of worrying about when online reviews will show up and what sentiments they might contain, advisors can take steps today to ensure that the voices of their happy and satisfied clients are captured and displayed on their own websites in a compliant way. This approach not only mitigates the risk of negative reviews having an outsized impact on advisors' online presence, but also delivers a powerful marketing asset. Online reviews improve advisors' search engine optimization (SEO) and provide consumers with valuable information to influence their advisor selection process. Rather than worrying, it is time for advisors to take action and get started on leveraging the benefits of online reviews.

Whit Lanier is the founder and CEO of Amplify Reviews – a platform focused on helping financial advisors embrace online reviews on their own terms. His previous start-up was a leading healthcare technology vendor for enabling hospitals to publish verified patient ratings & reviews, which by 2021 had processed over 50 million patient reviews.

TAGS: Marketing

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