Discover the 3 biggest apartment syndication mistakes investors make and how to avoid them. Apartment syndication can be a powerful way to acquire more commercial real estate faster and with greater returns. But when real estate syndication is done wrong, it can lead to catastrophic losses too! Learn what NOT to do and how get the best results with apartment syndication deals.
3 Biggest Apartment Syndication Mistakes
Recently one of our protégé students Jaden purchased his first commercial deal, a 48-unit apartment building for $3.6 million. He syndicated the deal, raising $595,000 from investors. One of the great aspects of this deal is he only put $30,000 of his own money into the deal but he owns 40% of the property. How did he do it? Well, he got help syndicating his deal through our Protégé Program, which means he avoided the 3 biggest mistakes apartment syndicators make.
#1 – Overconfident Proforma
This is one of the most common mistakes apartment syndicators make. Deals come across my desk every week and often beginner, and even intermediate syndicators, make the mistake of being overconfident in their proforma. A proforma is how you project your income and expenses for an intended result. An overconfident proforma, meaning you are overconfident in how the property will perform and pay out in the future, will lead to you missing your projections and investor payouts. And as a syndicator you do not want to miss investor payouts. Here are the 3 areas syndicators are most likely to be overconfident in their proformas:
Rental Income: Apartment syndication deals are value-add deals, meaning there is potential to increase the rents; either the rents are under market or after renovating and stabilizing the property there is potential to raise the rents. The mistake happens when syndicators are overconfident in their projected rent increase. For example, you may have an apartment deal and the rents are currently $900. As a syndicator you present your investors with proforma rents at $1200. However, if this projection turns out to be overconfident and you can only raise the rents to $1000, you miss your investor payout and you lose the trust of the investor.
To avoid this mistake you must:
- Know your rental comparisons; know the rents and potential rental income of your competition in the area.
- Get the support of a local property manager who operates similar apartments with the higher rents. They need to buy into you raising your rents to the projected level. They need to believe themselves that you can achieve those rents. Do not base your projections solely on the data, get an expert opinion.
- Be experienced. You need to have enough experience that you can trust your gut instincts. The confidence to follow your gut only comes from experience.
Deal Cap Rate vs Market Cap Rate: Another area syndicators are overly confident in their proforma is with regards to the deal cap rate versus the market cap rate. They fail to fully understand the difference between the two. The deal cap rate is the cap rate of the actual deal and the market cap rate is what the cap rates are of your competition. Ideally, you want your deal cap rate to be higher than your market cap rate.
Now, in today's commercial real estate market, market cap rate compression is not happening. In years prior to this year, market cap rates have been slowly dropping. They don't move very quickly but there has been movement and when market cap rates drop, property values go up. So, since market cap rate compression is no longer happening, property values aren't skyrocketing like they used to. Which means if you project a cap rate of 5.75% for when you refinance or sell to pay out investors, but it ends up being 6% missing it by a quarter point, you have missed your investor payouts. Again, you have egg on your face with investor because you were overconfident in your proforma.
To avoid this mistake syndicators must underwrite conservatively. How do you underwrite conservatively? By having the data and the experience to support your decisions.
Underestimating Operating Expenses: This mistake is easy to resolve, but hard to predict. When the expenses are higher than you projected on your proforma, it has a cascading effect. Your NOI drops, which means your cashflow drops, which results in a decrease in property value. There are 3 areas syndicators miscalculate operating expenses in their proforma:
- Due to lack of experience, syndicators underestimate the cost of repairs, maintenance, and supplies. The don’t understand that operating costs differ from region to region. For example, expense ratios in Dallas are different than just 40 miles east of the city.
- Underestimating capital expenditures. All apartments have unexpected capital expenditures. Contractors open a wall doing renovations and discover the entire plumbing stack needs to be changed. Or maybe an underground pipe bursts and now you have an unexpected $8,000 expense and no money budgeted to pay it.
- A poor property manager can sink you when it comes to operating expenses. Having all the data on expense ratios in your area can help you monitor your property manager, however you need to be skilled in how to manage your property manager. This skill is crucial to being an apartment syndicator.
#2 - Giving Too Much to Investors
The second biggest mistake that apartment syndicators make is giving away too much to the investors. They sacrifice the purpose of commercial real estate investing on the altar of having commercial real estate ownership. What I mean by that is, beginning apartment syndicators want so badly to be a commercial real estate investor that they give up too much equity in the property but do all of the work. Do not do that!
Our mentee Jaden raised $595,000 for his 48-unit apartment building and only contributed $30,000 of his own money. Yet he owns over 40% of the deal. How did he do that? He did that because he knows his worth. We have other Protégé Students who negotiated similar deals. Takashi and Rei split their deal 60/40 using all investor capital. How did they do that? You can find out all about their deal here: $0 Down 18-Unit Apartment Investment Deal
Know Your Worth: These apartment syndicators knew their worth and with all these skills they should be compensated accordingly:
- They were trained in our Protégé Program and coached all through their deals.
- After months of searching they found the right deals.
- Each of their deals has a 2x multiple. That means in five years, they will double their investor's money. Before joining our program, Jayden, and Takashi and Rei did not have these skills. If you can take someone's money and double it in five years, isn’t that a skill worthy of being compensated for?
- They arranged favorable financing.
- Did all the due diligence.
- They are managing the property management.
Know How Much to Give Away: Not only do you need to know your worth, but you also need to know how much to give away. To calculate how much you give away you need to have the following things:
- Calculate the deal's ROI (your investors return on investment).
- Conservatively put together a proforma.
- Know how to measure the market's performance for a given deal.
All this information needs to be on one spreadsheet so you can evaluate everything at once, talking it over with your coaches, and understand how the deal will perform so you can correctly predict what the returns could be for your investors and meet those expectations.
#3 - Not Monetizing Dead Deals
Every deal that you look at is not going to close. It may be a good deal that you intended to close on but for whatever reason it didn’t. Rather than completely abandoning it, try to make money from the deal by wholesaling it. As a beginner syndicator, you need cash for inspections, appraisals, earnest money, and for attorney costs. Those costs can add up so why not try to capitalize on all your time and effort getting a deal under contract rather than passing on a deal that’s not for you.
Wholesale Dead Deals: The ideal deal to monetize is priced under market, has the potential to increase the rents and force the appreciation, and is in a good neighborhood. If your deal has all these attributes, then you can try to wholesale it to another buyer. Learn more about how to wholesale commercial real estate here:
Wholesaling Commercial Real Estate for Beginners
How to Make $10,000 in Commercial Real Estate without Down Payments, Loans or a License
Beginner Buys $5 Million 66 Unit Apartment Deal
0 to 314 Units in One Year!
So don't just pass up on a deal because it's not for right you, instead try to make money from it. It may be perfect for another investor.