The Ubiquity of SBRE Entrepreneurs
As we approach our 3rd Small Balance Real Estate Investment Summit (coming up October 15-16 in Dallas TX), I am actively working with many fund managers and investors on many levels and many fronts. From discussions with aspiring managers about starting their own fund to new and seasoned managers about presenting at the Summit to working on due diligence for multiple others we are considering investing in, we are as busy as we have ever been. All of this activity continues to deepen my exposure to the issues that people on both sides of the equation (fund managers and investors) find important, the challenges they face in understanding how these issues affect their counterparty, and to people’s feelings about them. There are a great number of factors, all interwoven in one way or another, that influence success or lack thereof in a fund.
If not for the Great Recession, we’d never have altered our course and gone down the path we have chosen. Up until then, we were a regional hard money lender running our own discretionary lending funds in the Pacific Northwest. We always tried to be very conservative in our underwriting, particularly around valuation of the underlying collateral and limiting our advance rates (LTVs) as much as the market would allow us to do and still be able to garner business, and as a result our assets for the great majority of the time have performed extremely well. However, I learned during that extraordinary and painful time period that the capital structure of a fund is just as important for survival of that fund as is the underwriting quality of the underlying assets. Relying on a single capital source can be great as long as it is great and until it isn’t. Once it isn’t, there is not much room to maneuver and survive. Everything has its tradeoffs.
As is so often true in life, necessity is the mother of invention. I figured if we are having to learn such painful lessons, there have to be others who have similar issues, challenges and problems. Perhaps we can be of some value to these people and figure out how to prosper ourselves by helping them with what matters most. The difficulty of balancing origination, underwriting, operations, capital raising, administration, accounting, and asset management over multiple market cycles cannot be overstated and it takes tremendous commitment, strength and will to systematically get better and better at each element. Most SBRE entrepreneurs will describe themselves as “deal” people. Doing deals gives them their charge, their juice. Accurately tracking and accounting for their deals does not provide the same juice, yet is equally as important to inspire investor confidence and attract more capital, especially if it is more sophisticated capital, which also tends to be larger capital. Many of them can actually do this plenty well at the deal level. But once they start pooling multiple deals inside of a single entity (a fund) and also pooling the investors in that entity, each of which may be coming into and/or exiting the fund at different points in time, the complexity involved in accurately tracking and accounting these assets and capital account increases exponentially. In my experience, this is the most difficult piece of the puzzle for most SBRE entrepreneurs.
All of this presents challenges for investors who might be interested in the advantages that SBRE pooled investment funds can afford them. It makes deciphering actual results and understanding actual risks more difficult. As a result, many investors will make decisions based on personal relationships and/or “gut feel” rather than thorough analysis, particularly the non-institutional, high net worth accredited investors that are the best fit for the vast majority of SBRE funds who will never reach institutional quality or scale. It is simply hard for most investors to truly perform a thorough analysis, even if they run it by their financial advisor, CPA, or other financial professional. Most of those people are well-versed and knowledgeable in traditional investments – stocks, bonds and mutual funds – but have little to no understanding of alternative investments. They often have no better ability to assess the merits and shortcomings of an SBRE pooled investment fund than the client they are advising. Therefore the advice is frequently to pass, which may or may not a good conclusion.
Despite all of these challenges, the number of SBRE entrepreneurs around the country is very, very large. I cannot even begin to put a number on it as we see a seemingly endless number of new ones every week that goes by, all of whom face very similar dynamics and challenges trying to grow and capitalize their business and their deals. This is what gives the SBRE market its vibrancy as well as its risks. The market is vast, fragmented, and amorphous and thus hard to tame, making it unattractive to institutions and perpetuating the Wild, Wild West nature and reputation of the space. Yet, there are many high quality SBRE entrepreneurs out there who understand their asset model intimately, are committed to integrity as a way of doing business, who generate excellent risk-adjusted returns on their investments, and who are capable of running very professional and organized business operations that are conducive to discretionary fund capital structures.
These discretionary fund capital structures present additional operational, administrative, accounting and capital raising requirements over and above the already significant number of origination, underwriting, and asset management challenges. Thus, only a subset of SBRE entrepreneurs are able to truly master all of them. All of this presents for me a far more interesting, challenging and fascinating business model with far greater opportunities from a far greater client base needing far deeper expertise and far more capital than our pre-Great Recession iteration as a regional hard money lender. Transforming from the latter to the former has come about as the result of a combination of market circumstances and natural predilections that are unique to us. Although it has not been easy, the metamorphosis we’ve gone through as a business has been worth it in every way. The breadth of strategies, approaches, and business models we get to see in the Small Balance Real Estate (SBRE) space is nothing short of astonishing, and the appetite for how to cultivate a more effective and scalable capital structure from these SBRE entrepreneurs is seemingly insatiable.
Matt Burk is founder and CEO of Fairway America, LLC, and SBREfunds.com, and Chief Investment Officer of Fairway’s two proprietary nationwide small balance real estate (SBRE) asset based pooled investment funds, Fairway America Fund VI, LLC, and Fairway America Fund VII LP. Fairway is the nation’s premier consulting, advisory, and investment firm in the SBRE private pooled investment fund space, providing a full spectrum of practical, real world products and services (including capital) needed for true success for SBRE entrepreneurs all over the U.S. Matt is a highly regarded adviser, consultant, and mentor to dozens of SBRE fund managers and author of a widely read blog followed by serious SBRE entrepreneurs and investors. For over 20 years, Matt has led Fairway’s deal underwriting as well as capital raising efforts in Fairway’s seven proprietary funds and individual trust deed investments, resulting in more than $250,000,000 in capital raised from accredited investors through more than 1,000 SBRE deals. He is currently working on multiple SBRE fund consulting engagements nationwide, authoring a book on how to raise capital for and effectively manage pooled investment funds, and dedicating his efforts to create greater awareness and drive more capital to the many high caliber and deserving SBRE entrepreneurs around the U.S.