Here’s the thing about investment returns – everyone wants them, and everyone would like them to be as high as possible.
When it comes to private real estate investments, returns usually come from one (or both) of two sources:
- Dividends – the cash flow from rents collected from a commercial or multifamily property.
- Appreciation – the amount above the original investment to purchase the property, realized when the property sells.
In addition, you should expect to receive back the original amount you invested. When managers speak of returns, they’re specifically talking about the percentage above your original investment amount you can expect to receive.
Returns, or return on investment, represents the net income (income after any expenses are paid). The return on investment formula is: ROI = (Net Profit / Investment Amount) x 100. It’s good due diligence to ask what the historic, or past, rate of return has been on investments when considering a fund or firm.
To ensure that your investment partner has implemented policies to put investors first, there are a number of questions we recommend asking any investment manager, firm or potential partner before investing your money with them.
What are the expected returns from this fund/investment?
Although returns are a critical feature of any investment, you must understand more than just the returns. Advertised returns are vastly different than net returns. Net returns are greatly impacted by fees, operating costs, brokerage costs and bonuses or promote splits.
Furthermore, targeted returns for any investment must also include the understanding of the concept of risk adjusted returns within a portfolio. Expectations relative to risk, and comfort with risk, can also greatly impact expected returns for an investment.
Research into an investment’s historical returns coupled with the associated underwriting, contingencies, and risks, will likely impact your decision to buy into various investment types.
What fees do you charge?
Understanding how much of an original purchase price will include fees, whether or not you’ll be charged a fee based on invested equity, property value, or on returned equity, and whether or not there are any load fees or other administrative fees can impact your decision.
What kinds of assets do you invest in?
Ask this question to compare the returns expected from outside of real estate (in the stock market or elsewhere) with what a fund offers or singular offers from a real estate partner. When speaking with an investment manager about either a fund investment or a single asset investment you should be able to realize that they are specialists in their targeted asset classes. For example, assets such as multi-family apartments, office, retail, and industrial have specific costs to recreate or upgrade, so ensure that the partner you’re considering is constantly evaluating and a true specialist in their field. You wouldn’t want to invest money with your plumber who is going to try and start a new business as a hedge fund manager. Make sure that they know what they know and have a demonstrated history.
How do you diversify my portfolio?
Ensure the highest level of diversification can be achieved before investing with a firm. Asset classes should be different (as mentioned above); look for diversification in geographies, economies, and even building ages. If all of your capital is invested in just one geography, asset class, or economy, you’re putting your money at a higher risk for loss. Real estate, after all, is extremely local. For example, it is unlikely that a multi-family deal in Dallas, TX will have the same overall economic impacts as a multi-family deal in Columbus, OH.
How and when are returns distributed?
An investor-first policy from your investment partner will serve you best in the long run. Ask how profits are shared, how you get your money back, and what the targeted time frame is for returns to be distributed to investors.
MLG Capital distributes returns to investors in a very investor advantageous manner. Our investment structure is set up so that no profits are shared by MLG until 100% of the originally invested capital plus an 8% cumulative preferred return is distributed to investors. After that, we split any additional profits 30/70 (30 to MLG Capital, 70 split among investors) to carry through our commitment to investor success. This targets overall returns in the 13-15% net IRR (internal rate of return) range.
Lots of people lose money in real estate; however, the firm or manager can seems to come out okay because of the fees and potential structure of the business deal prioritizing the manager/firm over the investor. If MLG loses any money in any of its deals, the first protected are our investors – that’s how you know whether or not there’s an investor-first policy for investments. That’s also how our clients know that their risk is lowered.