As self-storage becomes a primary real estate asset class, more and more sponsors and investors see it as an addition to their portfolios. While there are many sources of capital, private equity and debt are two of the most common alternatives to traditional loans from banks and similar creditors. For sponsors, whether you are alone or in a team, taking advantage of these vehicles can help you mature. For investors, they are a great solution if you want to participate in a transaction without having to operate the business. Let’s see how they work, as well as some of the risks and rewards.
How they work
Capital for self-storage investments can be raised from a number of sources including individuals, fund managers, registered investment advisers, trustees, Wall Street, and more. This article will focus on equity and debt from private investors, sometimes referred to as retail investors.
You know what they say… No risk, no reward. Private equity is invested in a self-storage project in an unsecured position, which means that it is not secured by the property itself and is completely at risk. However, this type of investment is also generally associated with high returns. It usually takes three to five years.
Private debt is like getting a loan from the bank. It usually includes a fixed period, an interest rate and a monthly payment. Several investors are secured in a split trust deed with a first position lien. The returns here are much lower than private equity investments due to the lower risk, with lead times ranging from a few months to a few years. When it comes to minimum dollars, there are sites that allow investments as low as hundreds of dollars; but for most sponsors the minimum is $ 50,000.
From the sponsor’s point of view
From a deal sponsor perspective, there are three key things to consider when using private equity or debt for self-storage. Usually, terms are more flexible than institutional capital, which allows for greater creativity in structuring transactions. Second, retail investors typically make decisions much faster, which allows sponsors to be more competitive in the market. Finally, both private equity and debt will cost more than institutional capital in terms of yield and interest rates.
Sponsors must strike a balance between their need for flexibility and speed and the cost of capital. If you have a lot of time and personal resources, using institutional capital can be more cost effective. If you need speed and flexibility, a retail investor network will be best.
One of the potential drawbacks of using private equity and debt is the reporting requirements. While most private investors do not impose them on sponsors, it is the sponsor’s duty to communicate about their investments. The monthly is the gold standard, but the quarter is the minimum if you want to have regular investors.
From an investor perspective
If you are an investor, participating in stocks and debt as a limited member can be a great way to increase your wealth. For those with a big risk appetite and longer time frames, investing in stocks with a great sponsor will produce the returns you’re looking for, typically in the mid-teens, but sometimes exceeding 20% per year for opportunistic trades. .
There are two potential drawbacks to investing in equity positions. The first is that 100% of your money is at risk and depending on the transaction the cash flow during the investment period might be low due to the value added improvements. Due to the potential tax implications of unrelated corporate income tax and unrelated debt financing income, cash is generally best for equity investments, although most sponsors allow the using a self-directed IRA or a solo 401 (k) as vehicles.
For private investors who are more risk averse, investing in private debt investments can be a great way to generate returns of between 8% and 11% with relatively low risk. The risk is reduced because most sponsors will establish a factual trust deed with a first position lien on the property as collateral. This allows investors to foreclose on the property if the monthly payments cease.
If you are a sponsor, private equity and debt can help you grow your self-storage portfolio; but unless you are independently wealthy, you will probably have to take advantage of both. If you’re an investor looking for something other than vanilla market funds, investing in private equity and debt can be a great way to step up your efforts.
Private equity has higher returns, but it is generally not guaranteed and, therefore, more risky. Private debt is secure, but yields are lower. Both offer great flexibility but are more expensive than their institutional counterparts.
Remember that if you are a sponsor looking to grow your portfolio or an investor looking to get into the self-storage business, having good tax and legal teams is a must, as there are many nuances to it. understand and navigate.
Ryan Gibson is Chief Investment Officer and Co-Founder of Spartan investment group, a real estate company specializing in self-storage investments. He is responsible for investor relations and capital raising, and has organized over $ 125 million in private equity. To reach him, call 202.696.5112 or by email [email protected].