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The 19th Hole
After graduating Penn State, Adam Hooper started his career as, of all things, a class A PGA golf professional. Finding that not quite as glamorous as he had initially anticipated, he followed in his family footsteps and, around the year 2003, took up working a regional commercial brokers firm in central Oregon. It was a really good market and the time and Adam got to ride that wave up, finding that as he was active in a small enough market he was able to gain some experience in a little bit of every type of real estate.
CHANGES IN REAL ESTATE FINANCE
and how you can raise money and invest in crowd funded deals.
Need for Capital
In 2008, Adam started his own firm with a partner and focused on single tenant deals nationwide, getting into some of the equity placement transactions, helping developers raise capital for their deals. Realizing that there was a need for helping people capitalize their projects, in late 2011, he moved down to join a firm in the Sacramento area as a partner where he got a lot more experience sourcing joint venture equity. The deals he was working on were sub-institutional size i.e. in the $15 to $20 million range, with $5 million to $7 million of equity.
In one particular deal, he was raising capital for a prolific syndicator with a great track record, great background, and very deep capital relationships. A sister building came up nearby with very similar project metrics, and of a similar acquisition size. It made sense for the sponsor to capture some economies of scale and this other building also. The problem was that the sponsor was tapped out of immediate capital sources and reluctant to dedicate time away from his business and his family to go on a roadshow for a month or so, to syndicate another $6 million of equity.
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Impact of the JOBS Act
What Adam was noticing was that this was a fairly consistent issue for sponsors and when in April 2012 the JOBS Act was passed, he had a few deals in the hopper with similar fund-raising limitations. Noticing that sites like Kickstarter and Indiegogo and a lot of other companies were raising capital on a donation basis, it occurred to Adam that there was an opportunity to morph the Kickstarter model to real estate syndication.
What they realized was the single most important impact that the JOBS Act had was that it lifted the ban on advertising private securities and it allows sponsors to openly advertise their deals online. While real estate was ever the intended recipient of the legislation, this fact alone has made it one of the biggest beneficiaries of it.
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The way it works is like this. Ever since the Securities Act of 1933, if a sponsor did not have a pre-existing business relationship with someone, he was prohibited from soliciting an investment from that individual. You could only offer the opportunity to invest in your deal to people that you already knew. You could not go to a new group of investors that you did not previously know but the JOBS Act lifted that ban completely.
It was a fundamental shift in how the capital markets can function and access on both sides of the sponsor, investor equation. To be able to use the internet in place of what has always been a one on one conversation, or a meeting over lunch or dinner or playing golf, is a radical shift for real estate syndication.
Adam believes, however, that while the need for the one on one conversation has been removed by regulations, the need for a ‘relationship’ has not. The distinction is that while the law now says that you can simply advertise online to attract investors, the nature of the real estate business mandates that you still have to build that relationship with the investor – just today you have to do it in a different fashion; one dictated by online marketing methodology.
Relationships Still Paramount
In a real estate transaction of any kind, there is always going to be, always should be, a connection between all the stakeholders; the investors and the manager, the manager and the tenants, the tenants and their customer that they are serving. When Adam and his partners were thinking about how to set up their platform, they were really trying to think of how they can amplify both sides of any real estate relationship.
In practical terms, on RealCrowd, it is a direct relationship. As an investor, when you come in, you communicate directly with the real estate manager. When you choose to invest, you are executing the subscription documents directly from that real estate manager. RealCrowd does not block that connection, they do not aggregate people into our LLC, and they do not try to obfuscate that relationship between the investor and the real estate manager – a process that you see on some other platforms.
RealCrowd’s ethos is to make it as easy as possible for a sponsor to raise capital, and one of the ways to do this is to dispel some of the myths that sponsors have. One of these is the concern that by advertising on the internet, the syndication process will have dramatically changed also. In RealCrowd’s experience, the average investment is around $70,000 per investor per deal. This can range is high as a $120 to $130,000 on some deals. They like to explain that what they do is no different from that which a sponsor would otherwise be doing anyway if they were syndicating their own deals. They are still syndicating, they still get to set whatever minimum investment amount that they want whether it is $25,000, $50,000 or $100,000. They will still follow the same regulatory processes, form the same subscription documents, with the same structures that they are used to. It is just that now they have this new avenue to reach 25,000 plus members. And to address the concern of any sponsor worried about having to deal with too many potential investors; Adam has yet to hear anyone complain that they are getting too much attention and need to dial it back.
RealCrowd functions solely as a marketplace – and one that is completely free for investors. They charge real estate companies a flat fee for using the platform and the technology to distribute their deals. One of the exemptions under the JOBS Act for operating a marketplace such as RealCrowd is that a broker-dealer license is not required provided no performance based commission is charged.
While crowdfunding real estate deals might be seen as a kind of fringe experiment by some, it is, in fact, becoming a meaningful source of capital. In the early days RealCrowd would consider deals that raised $500,000 to $750,000 as a pretty good result. This increased to projects raising upwards of $5 million on a regular basis, and the trend is only upward – including a debt fund that has already raised about $25 million through the platform.
The biggest challenge that the industry currently faces – and likely will face for some time – is one of education. There is little appreciation or understanding within the retail investor based of the idea of a risk adjusted return. What does risk adjusted mean versus just choosing the highest number in terms of total returns. Since the industry’s inception just four years ago, the market has been only on an upward tick. It has been hard to lose money. However, the real estate market is obviously cyclical and we are deep into the current cycle. If the sole decision point that people are basing their investment decision on is what deal has the highest return, without any appreciation for the risk associated with achieving that return, that is setting the whole industry up for a bad time.
For example, if the expectation is set for a senior debt position that you are going to get a 12 or 13% coupon and it is being billed as an ultra-secure investment, you have to understand that these hard money loans are hard money loans for a reason – meaning there has to be an explanation of the inherent risks. You must be taking on some risk to get to 12 or 13% coupon into debt instrument. Unfortunately the expectation on what an acceptable return is has become askew from what a traditional healthy real estate return is and should be. RealCrowd has been in a battle from day one that real estate should be viewed on a long-term basis. Consequently, one of the bigger challenge that Adam sees, is how can to help people or give them tools for education.
Another barrier is one of accessibility and the related idea that investors have a certain degree of sophistication. An investor must have a fairly high level of sophistication to be able to look at a portfolio allocation or to choose between 10 or 12 different deals – or more if one is looking across multiple platforms. You must have a high level of sophistication to make good decisions as to what is best for your portfolio. Now that real estate investing has been made available at a scale never before possible, facilitating that level of understanding of the options available is an objective RealCrowd works to meet. Through providing people with the tools to look at risk is to make that more accessible through education and to help make them comfortable lowering the sense of intimidation with choosing deals. RealCrowd works to look at how to take the person that does not really know a lot about this asset class to have some fundamental understanding to enable them to make the right decisions towards putting some percentage of their money and to allocating it to this asset class in a responsible risk adjusted way. This educational function, Adam believes, is going to be the key to see large scale consumer acceptance in this industry.
Tapping into the retail investor base has always been seen as the holy grail of capital raising. If you can efficiently access this phenomenal amount of wealth that is not playing an institutional capital market, and if you have an efficient way to access that, that is a game changer. RealCrowd, and the broader industry, is getting to the point where they are already seen as a viable source of capital and it is only going to grow. The game has not even started yet, to coin a baseball metaphor. In fact, Adam thinks we are still just setting the foundations for what does the industry will look like in 5, 10, 20 years from now. RealCrowd is setting the foundations today so that when the consumer becomes better educated, they can capitalize on capital flows in the hundreds of millions or billions of dollars through the platform.