There are risks associated with Real Estate Investments, including syndicated commercial property. These risks can be viewed as a bridge between point A and point B. For example, syndication could take you from your current financial situation to financial freedom or retirement. This is how you might think of the risks associated with syndication. They are three pillars that support the bridge. The deal, market and operator are the three pillars. Without a third pillar, two strong pillars can’t support the entire bridge’s weight. Even one weak pillar could cause the whole bridge to collapse. You should be cautious about weak pillars. However, you can inspect the pillars to ensure that you reach your destination safely when you choose this bridge as your mode of transport.

The Deal

The deal refers to the acquisition of property or properties. It is the tangible asset that generates income. It is the income generator that generates income. Although it would be foolish to call it the most important pillar of the market, it is the only one. This pillar includes risks such as aggressive assumptions, deferred maintenance or hidden costs, under-capitalization, untimely balloon payments, and other risk factors like under-capitalization, high levels of capitalization, and premature balloon payments. A deal should be carefully underwritten, include value-add components and be well capitalized. It also needs to have financing that is compatible with the business plan.

Inspection Items

1. Are you unsure if the deal is aggressively or conservatively underwritten? Consider assumptions such as occupancy, population, job growth, tax payment estimates, insurance costs, and so on.

2. Is there deferred maintenance or hidden costs that could impact cashflow? This information can be found in the inspection. These items, are they included in the CapEx budget?

3. Are you able to meet unexpected costs? If something goes wrong, underestimating CapEx or not raising enough capital can lead to financial ruin.

4. Is there sufficient value to the deal if it is value-add? Is the projected rent premium at the top of the market or in the middle? Premiums should be well below the market’s top.

5. What is the loan term? When do interest-only payments stop, if any? What is the difference between this and the hold period? What contingencies exist if they overlap?

2. Market

The market refers to the geographic area where the deal is situated. With syndicated Commercial real property, the market can be a major MSA or submarket of a larger MSA. The Operator may first identify the market and then search for properties or deals that are within their target market. A weak market is one that has low population growth and low incomes. It also includes low rents and dismal rental growth. These are some of the indicators that will ensure this pillar’s strength.

Inspection Items

1. Is the market based on solid fundamentals? Rent growth, population growth, job growth, occupancy rate, etc. Here, both historical and current metrics should be taken into consideration.

2. Are the Operator making conservative assumptions, or are they making aggressive assumptions about the property based upon historical market performance?

3. Is there a major employer that, if they were to leave, would send the market and jobs in a downward spiral.

4. How is competition? Take into account both consumption (units purchased) and new builds (units brought online).

The Operator

The Operator is the person, or group of people, responsible for identifying and acquiring the deal. Although the Operator could theoretically be a single person, it’s more common to have a team of people. These people work together to share their resources and learn from each other in order to achieve something they couldn’t achieve on their own. This pillar can be divided into two risk sub-pillars: character and experience. These sub-pillars cover all risks associated to the Operator. They include anything from a track record that isn’t conducive to syndication through fraud. These items will help you minimize your risk when investing in syndication.

Inspection Items

1. How experienced is the Operator, Is their track record a good indicator of their ability to execute their strategy? Are the skills of each Operator’s key partners complementary?

2. Are they consistent in their strategy? A Core+ operator should be questioned if they do a Core+ deal followed by a deep value add deal.

3. Are they able to demonstrate a track record of execution success and have a property management team with a strong portfolio? One of the biggest Operator-related risks is poor execution and/or a bad PM.

4. Do the Operator’s key partners have the best character, morals, and principals? Low morals and character might make it more lucrative to make fees than to build long-term relationships. Or they might transfer money from one deal for another (i.e. It’s like stealing Peter to pay Paul. This could lead to fraud.

5. How do they treat investors? Do they have the experience and skills to manage large numbers of investors? Even the best deals can be ruined by bad accounting, reporting and/or communications.

Although the risks listed above don’t cover all possible risks associated with syndicated Commercial Real Estate Property projects, they do include every possibility of risk that could be posed by one of the three pillars. Each pillar contributes to the strength and stability of the bridge. The Operator can have a greater impact on the strength of the bridge than the Operator. A great Operator may sometimes compensate for a poor deal, but a superb deal is more likely to conceal a subpar operator. To ensure safe travel, investors must act as bridge inspectors and inspect each of the three pillars thoroughly before crossing.