Plus, 8% also happens to beat the historical stock market return of 7%.” The waterfall refers to the overall distribution of funds and tiers that were mentioned above, but it is often referred to as how profits are split after the preferred return is met.
Andrew Campbell explains it perfectly: Profits generated above any preferred returns are generally split between investors (Limited Partners) and deal sponsors (General Partners).
But, deals that compensate the sponsor more will create more incentive to produce high returns.
That’s why there are so many different ways to structure deals!
Have you ever driven around your city and seen all these apartment complexes, shopping plazas, or even office buildings? It’s what I used to recently close a 192 unit deal in San Antonio with my partners. Syndication is a way which multiple real estate investors pool their funds together in order to purchase a property that is more expensive than any of them could have afforded on their own.
I always used to think they were all owned by rich billionaires. The reality is that a lot of these large properties are actually owned by regular people like you and me to generate passive income. Generally, there are two types of partners in these deals: 1) General Partners (GPs) who accept additional risk, put the deal together, and operate the asset 2) Limited Partners (LPs) who have limited risk and invest more passively.This generally ranges from 1-3% of gross rent revenue.This may or may not go to the deal sponsor and it goes to cover the cost of managing the asset and management team that was hired.Here are the most common ones I’ve seen this anywhere from 0 to 5 points with 2 being the most common.Acquisition fees in a syndication are really common and most have them, but not all.On the other hand, acquisition fees can be enormous on large deals and can drive some deal sponsors to be short-sighted and focus on closing deals rather than operating deals profitably.Think about it, a m deal with 2 point acquisition fee is 0,000. You can see how some sponsors will lose track of buying good deals and focus on just closing deals, regardless of how good they are.That can sometimes put unnecessary risk on the asset if they are being to aggressive.We have steered clear of preferred returns mostly because those are usually accompanied with up-front fees charged to investors.The general idea is that the higher the returns are to investors, the more the sponsors make, and everyone is happy.The downside of multiple waterfalls is that sponsors can sometimes be incentivized to return investor capital early (to boost the IRR) and trigger these waterfalls.