Matt shares his thoughts about small balance real estate as 2016 comes to a close.
Happy Holidays to everyone in the SBRE universe reading this blog! I truly do enjoy writing them and I have received very favorable feedback from the readership, which is part of what motivates me to try to find the time to continue producing them. It has been a little bit longer than usual since I wrote the last one, but with the growth of our business, hiring more people, my travel schedule, spending time with family, and trying to stay committed to the handful of personal things I like to do, finding that time has become increasingly difficult. But of course, it is like anything else in life. We make the time to do the things that are really most important to us in life (whether we want to admit that or not) and we make excuses for not doing those things we said were most important to us.
As I often do at this time of year, I try to engage with this idea (as objectively as one can, knowing it is impossible to be completely objective about my own company and priorities) about the year that just passed. It requires great forethought to determine the correct priorities in the first place, and then great discipline to execute on them without too much distraction or neglect. We can all get mired in our day to day lives and responsibilities to the point where it is very easy to overlook the larger picture, so taking some time periodically to reflect is something I find valuable and important. In assessing how well we chose and then focused on the right priorities and achieved (or not) the goals we had set out for ourselves when 2016 started, we actually accomplished a great deal – even though it might not have seemed like it at any point along the way – and yet, we have so much still to do and so far to go.
Small Balance Real Estate (SBRE) as an industry is new, but its players and component parts have been there all along. The individual investment strategies and niches may be different, which I believe is what has prevented many disparate SBRE entrepreneurs from being considered in the same “industry”. What often defines an industry, however, is that the challenges and issues faces by the participants are very much the same which is very true in SBRE. The common thread that binds all of us SBRE entrepreneurs together is the ongoing necessity of raising capital from outside investors in order to execute whatever real estate asset based business model we are each pursuing and the near complete inability to get that capital from institutional investors. Raising capital effectively, consistently and well is an important characteristic of any truly great SBRE entrepreneur. Not the only characteristic, and not even the most important one (see below for that), but an extremely critical one indeed.
If raising capital is so central to the success of an SBRE enterprise, one would think that most SBRE entrepreneurs would dedicate themselves to truly understanding and mastering the fundamental issues surrounding it. I find this mostly to not be the case. There are certainly some who do, but my experience is that there are far more who are, like I was early in my SBRE enterprise and for many years, chasing ghosts, searching for things that do not exist, and looking for an easy button. The institutional capital model dominates the media coverage, but simply does not work for most SBRE entrepreneurial enterprises, no matter how much we may want it to be otherwise.
To my mind, the number one constraint to very large scale success as an SBRE entrepreneur is the ability to systematically locate, underwrite and close very high quality deals. This precedes everything else and is the foundation upon which all ultimate success in this business is based. It is very difficult and time consuming to create a truly proprietary method to being able to consistently land high quality deals. I would argue that many strategies are not in fact proprietary in and of themselves and are rather based on the relationships and background of the individual SBRE entrepreneur. Deal origination, however, proprietary or not, is hard wired into SBRE entrepreneurs and they naturally gravitate towards it. They instinctively pursue this element of their business because it is what they enjoy, what they are good at, and what they view as their primary function. An individual SBRE entrepreneur’s ability to adhere to core underwriting disciplines over time varies significantly based on numerous factors (competitive market conditions, relative access to capital, degree of greed, and many more) and this variance presents a challenge for investors trying to navigate the landscape of investment opportunities in the space, but that is a separate topic.
The second biggest constraint, and it follows the first in lockstep, is being able to procure the capital necessary to fund the deals they have worked so hard to be able to originate. The better the SBRE entrepreneur gets at the former (i.e. the higher the frequency and number of high quality deals they can consistently land), the greater the pressure on the latter (i.e. the more capital that is necessary to close them). Part of the challenge for the SBRE entrepreneur here is that often, initially at least, capital appears to not be a problem. Most of them have access to some amount of capital in the beginning – sometimes their own, more often from their families, relatives, close friends and acquaintances – which is sufficient to fund their deals. This often lulls them into an inflated sense of aptitude in this area. But as their capacity to generate more quality deals grows and more of this “captive” capital becomes tied up in more deals, their ability to attract the concomitant capital does not grow at the same pace as they are forced to move beyond their circle of influence and raise money from people they do not know well (and who thus do not possess the same inherent level of trust).
This often becomes the point of constraint which many aspiring SBRE entrepreneurs struggle to transcend. They may go a short way or a long way, depending on the capital structure they choose to employ and the early capital relationships they find themselves in, as they move along their progression. But I find that almost all of them reach a point, sooner or later, of questioning their capital raising strategies, their deal capital structure(s), and their overall approach to this other – less desirable and natural for them – side of their dual sided platform.
As it pertains to capital raising specifically in the world of Small Balance Real Estate, there is far more misinformation, mythology, and propaganda than there is real, genuine, and actionable material. Most of what is published applies to institutional real estate and is completely inapplicable to SBRE without significant metamorphosis of application. A big part of the reason the institutional dogma is so alluring is that SBRE entrepreneurs are not naturally disposed the capital raising side of the equation and prefer quick, easy solutions to it. The real answers and solutions involve systemic improvement and implementation of multiple important elements in order to achieve real success, a process that does not have immediate appeal to many people. The good news is that those committed to such a process can set themselves apart from the rest and build true and lasting success in a sustainable business model.
It is to this core issue that Fairway America is dedicated – helping SBRE entrepreneurs understand and address the capital side of their platform and to drive greater and greater capital to the SBRE space. The combination of products and services that we provide is devoted to systematically building this strategic capacity in order to help the best of them create an unassailable position in their SBRE strategy, geography, and territory. The creation of this business model was born entirely out of a slow, methodical recognition of the dynamics I describe above in my own business, combined with an existential threat to our company that required us to dig very deep and reinvent ourselves. It has not been easy or quick, but nothing truly worth doing ever is. Five years into the model, we are now the clear leaders in this nascent space we call SBRE and we have many wonderful clients and investors to thank for helping to make that possible. But we have barely scratched the surface of what is possible for SBRE. The time is right for the full blossoming of an entirely new landscape of what is widely recognized as the No. 1 alternative investment asset class – real estate – and not confined to what has always been the traditional approach. The confluence of the internet, exploding technology, changing regulations, shifting purchasing habits, availability of information, crowdfunding, and many more factors are making it possible to build an industry in a way that I could not have dreamed of when I became an SBRE entrepreneur more than 20 years ago. We look forward in 2017 and beyond to being at the forefront of that development and to bringing tremendous value to all with whom we work! The Fairway team offers each of you our very best wishes for your success in SBRE, whether entrepreneur, investor, or service provider, and we hope to work with you in 2017.
Happy New Year!