This is a continuation of part I of the interview with Greg Romundt of Centurion Apartment REIT.
4 – Apartment Syndication was mentioned as the way some of your REITs began; is this still an attractive option for investors? What are the principles behind this method of investment? Can anyone invest this way?
Some REITs started this way but we didn’t. I don’t personally like syndication of individual apartment properties for many reasons. It may be a method that the syndication company uses to grow their portfolio but that doesn’t mean that it is a good idea. It may evolve into a REIT but it may not. Investors, in my opinion, if they want to be in private apartment ownership should look to find a private REIT they like and feel comfortable with, rather than entering into a syndication on a single deal.
Here are my reasons…
1) Lower Returns. Syndications to retail (non institutional) investors tend to be of a single property. Due to pool size, cost to asset ratios tend to be higher than with a bigger organization, this lowers returns to investors.
2) Higher Risk. Investors only have exposure to a single building, they have no diversification and much higher risk than being in a REIT fund.
3) Financial Constraints. In single property syndications, there are more financial constraints on the pool. For example, if you need money to do some windows or roofs, you will need to do an equity call. Not many investors like the idea of equity calls. In a larger REIT fund, the asset manager can pull funds from other properties or a line of credit or raise new capital to fund required repairs and upgrades. We buy many buildings from these syndicator type owners, and almost always the buildings are starved of capital. The syndicator can’t or didn’t want to call capital to maintain and improve the properties. Starving properties of much needed repairs is self destructive. Not only does it damage long term returns but it also substantially increases risks…for example, you don’t maintain something and there is an accident and someone gets hurt and the company gets sued.
4) Higher Mortgage Rates. These pools, due to small size and relative quality of their financial covenant will have to pay more for mortgages; and at worst, in times of capital market stress may not get funding at all.
5) Low Liquidity. There is limited (if any) liquidity available to single property investors. You need to wait until the venture wind up date to access liquidity. A private REIT often has liquidity facilities to accommodate investors that for one reason or another need to leave.
6) Low Diversification. There is auto diversification in a private REIT. If you buy into a private REIT once, and that REIT continues to grow and buy properties, your investment automatically, without having to add more money of your own, continues to become more diversified. A single property syndication investment requires that the investor separately invest in multiple projects to achieve a modest amount of diversification. Our REIT has over 20 properties and when an investor invests with us, they are investing in ALL OF THEM. To accomplish the same they’d have to invest in over 20 syndicated deals separately, each with separate minimum investments and due diligence requirements. That’s a lot of work even for professional investors unless you are doing it on a very large scale.
7) RRSP Eligibility. Private REITs have registered plan eligibility. Many single property syndications wouldn’t be RRSP eligible. Private REITs, if properly structured, are almost always RRSP eligible. Given that the vast majority of Canadians have the bulk of their savings in RRSP’s this means that more people can participate in this kind of investment.
8) Governance. Generally there are better governance structures with a private REIT compared to syndication. We have a board or trustees which are elected by unit holders as a unit holder democracy. We can be fired as asset managers and new managers hired. In most syndications the investor is a limited partner and investors have limited say and ability to elect or eject management. As we have institutional investors, our governance is institutional grade which is far superior in most cases to what you’d get from a syndicator. Remember corporate governance isn’t just for when times are good. It is most valuable when times are bad.
9) Maintenance. REITs have lower ongoing maintenance and time commitments. You can make a single investment in a private REIT and grow your financial position as your resources grow and your personal situation dictates. You have the benefit of getting consolidated reporting from a single source. If you do have the resources to participate in 20, 30 or 50 syndications, the amount of time you’d need to read all of the reports, do the accounting and monitoring would be considerable.
If you made larger investments in each syndicated building to save time, you would sacrifice diversification. Why sacrifice diversification just so you can reduce your workload? You can choose instead to know a lot more about a single investment than little bits about many…the quality of your decisions and insight will be better and you will be able to reduce the amount of time committed to ongoing investment monitoring. Let your money work for you rather than you working for your money.
10) Fees. REIT’s have lower fees – I’ve seen the fees on some single property syndications that were absolutely ridiculous but people still bought them…obviously because they didn’t read the offering memorandum. This doesn’t mean that a REIT is always and every time a better deal on a fee basis, but I’ve seen more outliers in single property syndication land than in REIT land.
5 – If you were to invest your own hard earned money in a REIT (Obviously not your own company) what would you be looking for to make your selection? What would be an indicator of trouble with a REIT? What would be an indicator of superior performance?
1) First I would decide which sector of real estate I want to be in…apartments? retail? industrial? office? Do I have geographical goals, for example, I want to be focused on the US, Canada or elsewhere abroad. In other words, figure out what you want to invested in and where. If you aren’t comfortable with investing in hotels, you would eliminate any investment that contains them or is significantly exposed to them.
2) Then I would look around for a reputable operator in my target sector. Check out their personal experience. What is their track record? Check with the securities regulators in the province in which they operate and determine if they have been sanctioned. Do a good google background search on the company and the senior officers. This is pretty easy to do in just a few minutes. Do they have institutional investors? This matters because very often institutions do much higher levels of due diligence than individuals and, while not an excuse for being lazy in your homework, does provide some additional comfort
3) I would ask a lot of questions and look at the offering memorandum and understand the key terms, minimum investment amounts, lock ups, redemption costs and voting rights. Can management be fired? Are the managers invested in the fund? How are they paid and how does this compensation compare to what other similar funds are charging? What are the qualification requirements for investors to invest? Is the fund audited by a high quality reputable auditor (as opposed to some guy who operates out of the local mall)? Is the strategy realistic and achievable and broadly in line with your personal objectives in regard to rates of return, liquidity, capital growth or income? What is the funds tax efficiency? Do they plan to go public or stay private and who decides this? What is the corporate governance infrastructure? Is it a unit holder democracy or not? What is the policy on leverage? What is the maximum leverage? What is their operating range for debt and what is it now? What is their policy on debt laddering? What does the debt stack look like? Are there adequate restrictions in what they can invest in and do? You are buying a long term investment and you should have some confidence that the manager can’t drift too much from stated goals. For example, an apartment REIT that would start to buy office or hotel properties.
4) If you are making a substantial investment, you should ask to speak to management to ask some of the questions your financial advisor may not be able to answer. I would ask, if I wanted to, would I be able to meet the manager?
Indicators of trouble…if they are a distributive REIT, they will stop distributions. Rising levels of debt or very high debt levels would also worry me. All debt being too short can also be a concern. Finally, a lack of audited financials would be extremely troublesome.
Superior performance…that’s a hard question. This can’t be answered in the short term. You may be able to determine quickly when a manager is doing poorly but a much, much longer period is needed to determine whether they are doing well. I’d watch them relative to their comparable peers. One good quarter or one good year does not a good manager make…even a 5 year hot streak could be luck and not skill.
Far more important than almost anything in selecting a manager is “ARE THEY HONEST”? If I had the choice between a mediocre investment run by honest managers versus a superb investment (or so you think) by a dishonest manager, I would pick a mediocre and honest manager every time. If you suspect the honesty or integrity of your asset manager…don’t invest. PERIOD. I would be prepared to ride through a difficult market cycle with an honest, hard working manager. Remember, good managers in bad markets may not make you money, and this is OK. We work very hard to protect capital, not just make money. Making money is secondary to capital protection in our view and we don’t control the markets.
There is no guarantee that even a good manager, because of the markets, won’t have the occasional bad run. If you believe in them and their strategy, you should invest for the long term and ride out the cycles. I would not give a nickel of my money to a manager I had reason to mistrust. That may not be the answer you were looking for but in my experience, it is a bit of an illusion to measure performance just by short term performance metrics…it could be sheer luck and not skill in the short term that you are seeing.
Rachelle here. Many thanks to Mr Greg Romundt of Centurion Apartment REIT (link) for his detailed answers (and responses) to my questions. I’ve also predicted a market adjustment of 10% for housing prices this year, if I’m wrong I’ll be in elite company. Ask any REIT question you like in the comments and Greg will try to answer.
About the Author: Rachelle specializes in renting property on behalf of landlords and is the blogger behind Landlord Rescue. She also works with investors to find good investments in Toronto and surrounding areas. Her passion is bringing multi res properties back from the brink and maximizing profitability. Check out some of her other real estate posts on MDJ.