Forum Replies Created
“I know someone who did all the work involved in preparing the prospectus himself without having a lawyer involved.”
This is not a good idea unless the person raising the funds has vast experience in these matters, and has worked with a lawyer in the past to prepare a prospectus.
Even in this case a lawyer should still be used to review the document prior to distribution.
In terms of cost, this can vary considerably, but a straight forward prospectus could range between $20,000-$50,000 – if prepared in the correct manner.
Marketing costs are also an unknown variable – given the information. If a broker is contracted the cost could range between 5-10 percent of the funding target.
— Michael
Unless you have investment partners ready to finance the proposed venture, experience managing equity funds, and a successful track record, “syndicates” can be a very difficult and time consuming exercise – the majority do not obtain financing.
I do not wish to discount your plans, however you may want to consider partnering with someone experienced in real estate syndicates prior to pursuing the formalities.
— Michael
P.S. the lower the investors contribution [i.e. $20K] the higher the risk [less experienced investor/high maintenance/high propensity to seek early liquidation] – and the fund raising phase will be more time consuming and costly.
I have been following this post and thought it worth commenting.
“assigning contracts and options and foreclosure (repo) deals.. just wondering what the general opinion on this board is of this kind of dealing”
Assigning contracts/options/foreclosures is a mainstay in the United States and has become common in Australia and New Zealand.
However, assigning contracts/options/foreclosures is simply another method of turning an investment [time or money] into a profitable return.
As with any transaction the parties involved should conduct due diligence and feel comfortable that a mutually acceptable agreement has been reached – or decline to proceed.
In terms of the emotional and ethical considerations, I for one do not believe emotion should play a part in any business transaction – the end result should be a culmination of the facts, the risks and the benefits.
In saying this, I personally abide by strong ethics and encourage those I am associated with to do the same.
Caveat Emptor [“buyer beware”] is the foundation of investment – whether the transaction is deemed ethical or not.
It is not the platform [i.e. assigning contracts, selling OTP, foreclosures, lease options, etc] that determines if the transaction is ethical or not, it is the standards you as an investor abide by.
— Michael
I am not familiar with the locations, however, as a general rule I would recommend the larger of the two without question – if tenancy is not an issue and they are of a comparable standard/quality.
Often the capital gain with a serviced “studio” apartment is minimal at most – i.e. 1-5 year holding period.
But there is a “red flag” – the delay in completing the Clayton development. If the apartment was purchased OTP in January 2002 then this project is likely to have commenced Q2 2001.
It is not often a developer will sustain debt for 3.5 years, let alone wait 3.5 years to realize a profit [assuming this is a standard size apartment complex i.e. < 200 units].
This could indicate that the developer has had difficulty meeting the sales target [for financing purposes], or planning/other finance issues have delayed the project.
If construction has not yet started, I would be asking a lot of questions – including why the buyer is selling the property.
In terms of the asking price [$260,000], if you have not already done so:
1. request the original purchase agreement [between original buyer and developer]
2. find out what studio apartments at this development have recently sold for/or listed.
3. contact a local registered valuer.
Because of the apparent delay you may find others are willing to sell for less than a ~20 percent appreciated value.
— Michael
“Elysium, it’s not ‘uncertain’, that’s why contracts and lawyers are involved!!”
.. correct.
An offer becomes a “binding contract” when accepted by both/all parties i.e. signed.
The contract is “conditional” until all conditions [incl. subject to] are met, or the contract terminates.
When the contract becomes “unconditional” the buyer is obligated to meet the vendors terms.
A contract can include any conditions that are mutually acceptable to both the buyer and seller [within reason].
The key is to stipulate conditions that protect your interests, and avoid unnecessary requirements that may compromise the deal.
There are a variety of conditions to consider – which will differ for each investment. This is why qualified people should be employed during the due diligence and contractural phases i.e. building inspector, registered valuer, lawyer.
— Michael
For those who are interested in the New Zealand market..
On Saturday 51 residential lots sold at auction in Wanaka in less than 2.5 hours for $16.5 million [$235,000-$450,000].
I understand several buyers are already in negotiations to on-sell for a comfortable profit.
— Michael
Bill
I am not usually one to bother with debates of this nature, however..
Having read your comments I would consider you nothing more than a pessimist [possibly burned in the past, or not quite as knowledgeable as you suggest].
There is nothing substantial, or substantiated, in your response to this post – specifically your so-called “predictions”, which are common views in the media/analytical world. And quite frankly, on the basis of your ongoing input, I question your knowledge and understanding of investment in general.
Your apparent emphasis on historic trends is an opinion/strategy you can abide by, but should not dictate to others in this forum without justifying the rationale in today’s market.
As for your personal attack on “Mini” and “Westan”, I consider this unnecessary, and a direct reflection of your professonal integrity and level of professionalism when confronted with other opinions.
I certainly hope the parties you are soliciting conduct their due diligence before entering a financial or other business relationship.
— Michael
P.S. I am far from a “novice”.
“The moment one invites too many people one may well need a prospectus and I guess that in the small deals we are talking about, that is to be avoided even if for the cost involved only.”
The Australian Securities and Investments Commission does not require a prospectus if you are raising less than $2 million from 20 investors/partners in any one year.
There is also an exemption to the prospectus rule if the money is raised from so-called “sophisticated” investors who are willing to invest in amounts of $500,000.
Although the exemptions mean a prospectus is not required to be filed or registered with the Australian Securities and Investments Commission, a borrower must still provide detailed information to potential investors/partners. This is an obligation under the Corporations Act, the Trade Practices Act and common law.
The expectation is there will be enough information for an investor to make an informed decision.
“There is one other most essential clause needed to cover a particular situation and that is if at some stage someone wants out.”
Included in the following “Article” [see earlier post]:
DISSOLUTION AND TERMINATION
“Any volunteer clause designers?”
If you are not experienced in contractural terms and conditions, legal jargon etc, do not attempt to proceed with “volunteer” clauses.
Such clauses are pertinent to you and any partners specific requirements and liability protection – and should be prepared by a qualified attorney.
“The problem is that unless one has been involved in ventures one just wouldn’t have a clue (other than the most obvious ones) what should or shouldn’t be covered in the agreement.”
Approach lawyers who specialize in the real estate segment you wish to pursue. If you do not feel comfortable with the lawyer, find another one.
The day I started out in this business, my first objective was to find the best lawyer and accountant available – who specialized in real estate investment/development.
I targeted the larger more respected firms knowing that if the representative I selected did not perform at 110 percent, it would have a poor reflection on the firm and potentially result in his/her demise.
The average hourly fee is slightly higher than the independent professional, however, the “value-add” that has transpired in terms of knowledgebase, access to resources and clients/potential business partners, has far outweighed the cost to date.
Do not look at lawyers and accountants as an expense, look at them as a means of protecting you and adding value to your business.
And as I noted in an earlier post, do not try to save a few dollars preparing partnership contracts yourself [if not qualified], no matter how small or large the transaction – it will more than likely cost you ten fold in the end.
— Michael
“I didn’t think a company needed to start with any equity?”
When a company or joint venture is setup as an entity i.e. Trust, LLC, LP etc, shares or membership units are assigned to the entity i.e. company XYZ has 1,000,000 shares; joint venture ABC has 1000 units.
Simplified definitions [Equity]:
1. A term describing shares/units, or any security, representing an ownership interest.
2. On the balance sheet, equity refers to the value of the funds contributed by the owners [the shareholders/partners] plus the retained earnings [or losses].
“And couldn’t you do it like, Shareholder A is the boss and gets to decide who Shareholders B and C are. Shareholders B are those who share the profits.”
A company is generally assigned a Managing Director or CEO who in this capacity can make these decisions – at times in conjunction with a “board”, which is not necessarily made up of shareholders.
Smaller operations which do not have “officers”, but have shareholders, generally stipulate in the operating agreement that shareholders with a combined interest of x percent must agree to the sale of shares and how the profits are distributed.
Although I could comment on the remainder of your post, without knowing the type of business and a number of other considerations, I cannot provide an informative response.
Either way, I would advise speaking with a qualified attorney who will clarify any questions you have.
— Michael
If you find a suitable lot and the vendor is not in a hurry to sell, you might consider securing a land option [contract] subject to the council implementing required utilities/infrastructure.
Negotiate a refundable deposit [held with a legal representative] and include a sunset clause whereby the contract terminates and deposit is refunded [+ bank interest] after x months.
Otherwise, visit the local city council and request a copy of their district plan, which should outline areas that will be re-zoned over an extended period [if any].
If the area of interest demonstrates an increase in commercial or high density zoning, then this is likely to be the preferential location for development.
— Michael
“Firstly, getting a quorum people to either turn up or have their input phoned in, wasn’t easy! Secondly, nobody was ‘the boss’ – it was a democracy… you’d always get whingeing about it from the one or two members who didn’t vote for it.”
– This is an example of the importance of preparing an operating agreement prior to the formation of a joint venture – disclosing to each member their rights and responsibilities, liabilities etc, and the role of the “Managing Partner” [aka “the boss”].
If a partner does not agree with the terms, it is at the discretion of the partner
retaining a majority interest to amend the agreement or exclude the partner from participating.“You could always start a company with you as sole director, and invite members of the joint venture to come in as shareholders, sharing profits.”
– This is certainly an option to consider, however, unless you have the resources to move forward as a sole proprietor and establish equity in the company, forming a sole proprietorship in the first instance may counteract the benefits of a joint venture.
The benefit of a joint venture is access to finances/resources which in theory make a business more efficient and productive. If the company is formed prior to the members inclusion, there is the potential for members/investors to undervalue your participation [equity] because of a weakness they may identify in the operation i.e. caused by insufficient resources.
If a joint venture is considered vital to success, then the concept should be presented to potential partners prior to formation, followed by mutually acceptable investment and operating paramters outlined as the basis of a joint venture agreement.
“..invite members of the joint venture to come in as shareholders, sharing profits”
It is important to understand the difference between a “joint venture” – which generally assigns “units” to “members”, and a “corporate entity” – which assigns “shares” to “shareholders” – before deciding on the appropriate structure.
A joint venture is usually formed as a short-term vehicle, with a specific operating objective and “sunset clause” [expiration date] i.e. 1 to 10 years.
For example, a joint venture may be formed by several investors for the purpose of acquiring x number of SFH’s, renovating then on-selling. The joint venture expires after x years and profits are distributed accordingly.
Shareholders in a corporate entity have less control/participation in business activities. The business is often not restricted to a specific activity; less than 100 percent of the company’s equity/shares are sold – allowing for future fund raising and expansion [which equates to less compensation for shareholders versus members who retain 100 percent equity in a joint venture]; and, a corporate entity does not generally have a “sunset clause” – unless shareholders receive periodic dividends, they may not realize a return on investment until the company is sold, if at all.
Furthermore, unlike “shares” in a corporate entity, it is not common for “membership units” in a joint venture to be sold/traded. Although restrictions can be placed on selling shares if the corporate entity is privately held.
“It was not the cheapest option, but it was the most professional one. It also allows for another class of investor to be added in as C-shareholders.”
Because joint ventures are unlike corporate entities – in terms of members investing money for a specific period in exchange for x percent equity – share classes are a moot point.
Share classes specify the priority of profit distributions and are commonly used in corporate entities when several stages of capital have been raised i.e. the original investors/directors are allocated class “A” shares – with priority over other shareholders, the second group of investors receive “B” shares, and so on.
Joint ventures generally have a more straight forward structure, with equity assigned in proportion to the members/investors investment – it is not common for new members to be added after a joint ventures formation, but if so, each members units are diluted accordingly.
— Michael
“I am then free to go off and invest the money as I choose?”
The loan agreement will likely stipulate the investment parameters.
“He gets a guaranteed return with no risk.”
I think you will agree, no investment is ever guaranteed or risk free – within reason.
“This puts the onus on me allot more.”
Which is why an equity based arrangement is recommended – supported by an operating agreement.
“What does OTP mean?”
OTP = Off-The-Plans i.e. selling a property/development prior to and/or during the construction phase.
— Michael
“and they have margin calls so you need to have cash for emergencies, as they will sell your stock on you in the event for the market going down”
The broker will require “immediate payment” from cash reserves if the sale of stock does not cover the margin call.
Margin loans should be left to very experienced traders.
— Michael
“..find a lawyer who has experience in this type of setup. what they should be able to provide you with is a ‘proforma’ contract ie a contract already in use for the same purpose.”
It is not likely a lawyer will release a draft agreement – these documents are generally used to prepare all agreements/contracts.
Below is an outline of terms and conditions that should be considered/included in a partnership agreement.
Have a qualified lawyer prepare the partnership agreement – do not try to save a few dollars preparing it yourself if not qualified.
FORMATION OF JOINT VENTURE
· Formation
· Name
· Principal Place of Business
· Registered Office
· TermDEFINITIONS
BUSINESS OF JOINT VENTURE
· Permitted Business
NAMES AND ADDRESSES OF PARTNERS
ROLES AND RESPONSIBILITIES OF PARTNERS
RIGHTS AND DUTIES OF THE PARTNERS
· Management
· Number, Tenure and Qualifications
· Certain Powers of the Partners
· Liability for Certain Acts
· Partners Duty to Devote Time
· Partners may engage in Other Activities
· Bank Accounts
· Indemnity of the Partners, Employees and Other Agents
· Resignation
· Removal
· Vacancies
· Compensation, Reimbursement, Organization Expenses
· OfficersRIGHTS OF PARTNERS
· Limitation of Liability
· Joint Venture BooksMEETINGS OF PARTNERS
· Required Meetings
· Place of Meetings
· Notice of Meetings
· Meeting of all Partners
· Record Date
· Quorum
· Manner of Acting
· Proxies
· Action by Partners without a Meeting
· Waiver of NoticeCONTRIBUTIONS TO THE JOINT VENTURE AND CAPITAL ACCOUNTS
· Partners’ Capital Contributions
· Additional Contributions
· Capital AccountsALLOCATIONS, INCOME TAX, DISTRIBUTIONS, ELECTIONS AND REPORTS
· Allocation of Profits and Losses
· Special Allocations to Capital Accounts
· Priority of Distributions
· Limitation upon Distributions
· Accounting Principles
· Interest on and Return of Capital Contributions
· Loans to Joint Venture
· Accounting Period
· Records and Reports
· Returns and Other Elections
· Tax Matters Partner
· Certain Allocations for Income Tax PurposesTRANSFERABILITY
· Restrictions on Transfer of Partners’ Interests
· Opinion of Counsel
· Violation of Restrictions
· Agreement Not to TransferISSUANCE OF MEMBERSHIP INTERESTS
· Issuance of Additional Membership Interests to New Partners
· Part Year Allocations With Respect to New PartnersDISSOLUTION AND TERMINATION
· Dissolution
· Effect of Dissolution
· Winding Up, Liquidation and Distribution of Assets
· Filing or Recording Statements
· Return of Contribution Nonrecourse to Other Partners
· Death, Incompetency or Bankruptcy of a PartnerMISCELLANEOUS PROVISIONS
· Notices
· Books of Account and Records
· Application of State Law
· Waiver of Action for Partition
· Amendments
· Execution of Additional Instruments
· Construction
· Effect of Inconsistencies with the Act
· Waivers
· Rights and Remedies Cumulative
· Attorneys’ Fees
· Severability
· Heirs, Successors and Assigns
· Creditors
· Counterparts
· Confidential Information
· AuthorityEXHIBIT
THE NAME, NUMBER OF UNITS AND CAPITAL CONTRIBUTION OF THE PARTNERS
— Michael
“Scenario 1.”
A loan is not recommended because it will often restrict the investors rate of return – meaning it may be more difficult to reach an agreement.
Furthermore, there is limited security in a loan arrangement for a foreign investor, versus an equity-based arrangement i.e. Unit Trust.
—
“Scenario 2.”
“for the capital invested, grant each other bank lending rates for the time your money was tied up in the project, before you work out the profit.”
This [bank lending rates] is not common or necessary.
Generally funds invested into a real estate partnership are used for project expenditure – not remunerating partners, unless there is an agreed periodic management fee.
Remuneration is based on profits generated upon implementing a divestment or exit strategy. Otherwise, if each partner was receiving an interest rate – whether called on during or after the project, the partners would have to service this cost.
“If you are not going to sell for a while, then the guy who does the work also needs to grant himself bank interest rates on the labour component from when he would normally be paid until the profit is realized.”
See above. Alternatively, if the cost incurred is for “labor”, then this would be budgeted accordingly – i.e. as a salary/wage for services.
“If you have ongoing unseen costs, these are added into the equation and taken out of the final profit figure. Be very conservative when calculating your costs.”
The budget should include contingencies for unexpected costs from day one – generally a percentage i.e. 5-10 percent of the total projected expenditure. It is never advisable to commence a development [which your post indicates] without having all funds in place, or accessible under contract.
All costs should be accounted for “before” a final profit is realized.
— Michael
“What sort of property deals lend itself to this sort of arrangement (I was thinking along the lines of a buy, reno, sell). What else is there?”
This depends on the location, available funds/finance, expected return on investment, supply and demand, your experience.
“buy, reno, sell” may not be the most profitable strategy at this time, other options include land flips, or a small OTP development – avoid subdivisions if not experienced in this segment.
“What is a reasonable way to structure the deal that is fair and worthwhile for both parties.”
If you are doing all of the ground work, offer market experience and contacts etc – and your partner is investing all of the “shortfall” capital [assuming you leverage institutional loans], then a 50/50 arrangement is common.
“Does he simply buy units in my trust?”
Not recommended. Form a seperate entity to conduct a partnership. And have an operating agreement prepared which includes each parties contribution [monetary or otherwise], tax/financial and liability considerations, and exit strategy.
Knowing how US investors operate, if your partner has any investment experience, this agreement will be a requirement. If you proceed without an operating agreement, no matter how much money is invested, you have increased your risk factor ten fold.
“What would a good return be on the partners outlay?”
You need to ask your partner.
“And my time outlay. Which I think will turn out to be considerable.”
If you feel your investment equates to 50 percent of what will be contributed to the partnership, then you aim for a 50 percent interest [i.e. equity, units] in the partnership. If you feel your contribution outweighs your partners, aim for more than 50 percent – less contribution, less equity.
The equity split will decide profit share.
When discussing/negotiating equity there are two important considerations.
1. Always put yourself in your partners shoes – understand/discuss the importance of the partners contribution to the partnership and allocate equity accordingly. [Your partner should do the same]
2. Never agree to an equity arrangement that your “gut” tells you is not fair. More than often this is the catalyst for failed partnerships.
“Can anyone suggest a good book with this sort of thing in it or any resources that come to mind that I could get.”
A qualified lawyer and accountant.
— Michael
“I have read allot of books about real estate investment but all these books fail to give good advice on risk management.”
The reason risk management and exit strategies are not extensively covered is they can vary considerably subject to the type of investment, stage of investment, financial resources, location and many other variables.
The exit strategies we formulate are less focused on risk management, and more on maximizing profitability.
The reason being, we conduct extensive due diligence before making an investment, which highlights the potential risks throughout the holding period.
We can then closely monitor identified and potential risks, but apply resources to managing the best strategy in terms of profitability – and implementing this [exit] strategy at the appropriate time.
The reason I mention this is an “exit strategy” does not have to signify “risk management”, it can also signify “profitability”.
No matter whether the investment is a single family home, or a 1000 unit apartment complex, the same basic principles apply;
1. conduct sufficient due diligence to identify risk prior to investment.
2. manage risk throughout the investment lifecycle, but maintain a focus on maximizing profitability.
In terms of the risk variables that should be considered prior to investment, the common considerations include;
1. ability to service a mortgage/loan for a pre-defined holding period
2. potential interest rate increases during a pre-defined holding period
3. comparable valuations i.e. recent sales of comparable properties in the same vicinity including asking price v. sell price, time on market
4. what I consider the most important [but difficult to estimate] variable – “supply v. demand”
The importance of a “pre-defined holding period” is it becomes a benchmark for evaluating the risks prior to investment i.e. plan to hold for 1 year, 5 years or 10 years.
When you reach the pre-defined date, you then reassess the risks/rewards of holding for an extended period, or implement your exit strategy and move on to another investment
– you may find the most profitable exit is prior to the pre-defined date.A phrase I try to abide by.. “a wealthy man is not one who knows when to buy, a wealthy man is one who knows when to sell”.
My reference to this phrase is simply, if on the “pre-defined date” you have made a clear profit, however you are “not certain” of where the market is heading, then you sell. If the buyer realizes a short-term gain, then so be it.
The key with an exit strategy is setting milestones and implementing them in an effort to maximize profitability. If the exit strategy is overlooked because “greed” becomes a factor, then the investment is likely to become a burden or opportunity cost.
— Michael
“..who knows of wealthy private individuals wanting to lend others money.”
Before approaching “wealthy private individuals” you must have the experience and knowledge to present a profitable and risk adverse proposal.
“There is much to learn”
If you are starting out, I would recommend gaining some experience i.e. working for people in the industry, before considering “leads” or private capital.
Private capital is often far more difficult and time consuming to attain than institutional funds i.e. bank loans, etc.
And if you are not experienced and the deal “falls over” you can find yourself facing a severe financial liability, if you are not aware of how these deals are structured.
OPM [other people’s money] makes up a very small part of the equation when raising private funds.
— Michael
“How can house prices keep rising without incomes in the area rising as well?.. The only answer I can come up with is that prices can’t possibly go up so far ahead of rents sustainably.”
In my experience – which is an investment/development role in primarily waterfront/coastal locations, the answer comes down to “supply and demand” and the buyer’s ability to service the cost of the property without the need for residual income.
I am not familiar with the location highlighted in this discussion, however, if it is attracting a predominantly retired population, then it is possible their ability to acquire freehold, or service minimal mortgages, is playing a part in sustaining market valuations.
Otherwise demand for waterfront/coastal property will always exist, and often appreciate at a faster rate than other locations – without the typical influences such as rental and interest rates.
As westan correctly pointed out.. “the prices might seem high to you but there are some very wealthy people out there all after the same thing.”
— Michael
“..how does one tell if a given area/suburb is over inflated”
There is a variety of market data available to compare today’s trends with historic statistics.
However, “over inflated” is in the eyes of the beholder – to some people current valuations are excessive, where to others they are a bargain.
Real estate is generally a resilient investment. Historic data cannot always predict where a market/location is heading – but if there is a downturn/adjustment, given sufficient due diligence, chances are it will bounce back.
My point being, do not focus on those who are critical of the market [they have their own reasons], look at each investment closely and evaluate whether it is a viable opportunity.
A couple of important variables to answer, 1. expected supply and demand i.e. 0-3 years; 2. your ability to withstand a market adjustment i.e. potential higher interest rates, lower rents in 0-3 years.
And make sure you have a contingency plan or “exit strategy” in place, in case variables determine you cannot sustain the investment in the foreseeable future.
“A lot of Property guru’s state that good deals can be found in any market..”
I would agree with this statement. “Deals” are not always contingent upon the wider market – an individuals personal circumstances may dictate the sale of their property at below market valuation i.e. foreclosures.
The key is closely monitoring the market and finding ways to acquire information that leads to good deals.
— Michael
