The Role of a Sponsor in Multifamily Syndication
By Tony Castronovo
What inspires you? Where do you draw your energy from when things are not going as you might have hoped? As a syndicator and sponsor of a real estate deal there is (or certainly should be) a lot of pressure to perform. You are the financial steward of someone else’s money that they have worked very hard for. And they placed their trust in you to deliver financial returns and successfully navigate the risks inherent in any investment opportunity. Sure, they liked something about the deal, but ultimately, they would not have handed over $50,000 or even $100,000 if they did not believe in YOU!
The other day I had a conversation with one of my investors, a limited partner in a multifamily syndication we launched two years ago. For the sake of the story, let’s call him John. The conversation was brief but left me extremely inspired. I’ll sum it up with one statement he made. “We would be interested in investing in another deal of yours when you have one.” I was blown away and extremely humbled to say the least. Let me explain why.
Two years ago, I remember John being new to real estate and the many reservations and reluctancy he had, especially convincing his wife. He asked a lot of questions, read over every document in full detail, and literally drove to my home to bring me his investment check as he was weary of wiring funds. In the months to follow, John would consume each monthly report and attend quarterly investor calls with fervor and anxious curiosity. We knew each other, but at the time had never done business together.
Unfortunately, John’s first real estate investment became a test of the long game. While we had a solid business plan, no one could have predicted the devasting impacts of a global pandemic just three months after acquisition. The anchor and bellwether of our business plan centered around the strength of a submarket with the nation’s second largest university. While our property was not a student housing rental, the university fueled the local economy. Suddenly, with fears of the contagious nature of the COVID-19 virus we entered an era of lockdowns and virtual classrooms. Students left town, many to break leases and not return for over a year. The market became saturated with apartment units and landlords scrambling to fill vacancies. With the widespread loss of jobs and over supply of apartments we faced plummeting rent prices. We saw physical occupancy take a nosedive from 88% at acquisition to a stark 45% three months following the declaration of an official global pandemic. Our business was bleeding cash and we were also in the middle of a heavy capital improvement lift and community repositioning effort.
During the peak of the pandemic’s economic impact, we observed multifamily operators entertaining forbearance with their lenders and government assistance to help weather the storm. I remember calling my partner while on a walk in the late spring of 2020 to discuss potential business continuity plans. Ultimately, the action we pursued was for me to personally provide the business (property) with an unsecured line of credit to maintain working capital and continue fueling our renovations. To free up this capital I was able to leverage a more stable property of mine with a cash out refinance. Our lender allowed this as it did not result in any further liens and further strengthened our ‘skin in the game’. What better confidence in the risk mitigation than for the sponsor to put his own money at risk.
One of my core values is Agility. I believe in failing fast and pivoting toward adaptive and dynamic approaches when life does not go as planned. With falling rent prices, it no longer made sense to spend thousands on a unit renovation for minimal rent bumps. Our pivot was to introduce a new more economic, entry-level model to our unit mix aimed at filling vacancies with minimal capital spend. Given the condition of the property we could not simply get away with a simple make-ready. But we could cut out many of the discretionary amenities to bring the cost down. This approach was working. We were able to stretch our dollars and slow the bleeding.
Following the low point of occupancy, we started seeing gradual but steady improvements…50%, 55%, 63%, 67%, month after month. A month shy of our two-year anniversary we reached 100% and have had six months of consecutive profits!
Throughout the last two years we have been incredibly transparent with our limited partners. We hold quarterly meetings/calls and produce both financial and qualitative reports each month. Annually, I hold one-on-one calls with each and every investor. This is very time consuming and exhausting. But money can be emotional, and I never want an investor to feel that my number one priority isn’t about protecting their investment.
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I was extremely humbled following our first quarter of profitability. Several investors that I spoke with asked to defer cash flow distributions and reinvest it back into our working capital and/or pay down debt. It was a testament that they were looking beyond the short-term and that rowing together would allow us to move faster.
Now, as we approach the two-year mark we are sharing some exciting news with our investors. Despite the challenges we have faced and the short-term performance we never expected, the property is a very attractive investment for a new buyer. We are in a strong upward market cycle and frankly much of the hard work is now complete. We expected to run the deal for 5-6 years but have started receiving some very compelling offers. When considering a potential sale, we always said that if we could not deliver returns to our investors, we would not simply sell to avoid more hard work. However, an early exit on this property is the right move for many reasons and our investors will be rewarded for their patience and trust.
Going back to the conversation I had with John, what humbles me the most is that at the time of the conversation he was not even aware that we were preparing to sell the property. He had no idea that he would likely be getting a respectable payout in the next few months. With suspended returns John wanted to invest more with me at the helm. He noticed all the hard work, determination, and accountability to push through. And he grew an appreciation for what it takes to succeed in this business.
Syndicating a real estate deal is not just about pitching a business plan and raising capital. There is an old saying that truckers have which goes, “You’ve either wrecked or will wreck but if you want to stay in this business for the long haul you need to keep it between the ditches.” Sponsoring a real estate deal is no different. It is not ‘if’ you face adversity but ‘when’ and how you choose to handle challenges and communicate with your investors can make all the difference. I may not have been riding a thoroughbred of a property but so grateful that my investors put their money on the jockey!
About the Author:
Tony Castronovo is the founder and managing partner of Novo Multifamily Group and Novo Investments, established in 2014. He has been owned and operated 285 units as General Partner, Passive Investor and IRO (Independent Rental Owner), focused on Texas and Oklahoma markets. Contact: tony@novomultifamilygroup.com or http://novomultifamilygroup.com/