Search

How Returns are Structured in a Commercial Multifamily Investment



It is important to understand how returns work and how both the general partnership and you the limited partner get paid in a commercial multifamily investment. The structure of returns, the timing of returns and the relationship between the general partners (GP) & limited partners (LP) is the focus of this article. Although a commercial multifamily investment is passive in nature, it is still important to understand how and when you are paid as a limited partner.

All returns fyre CAPITAL publicly releases are NET of any profit split - in other words what you see is what you receive.

When compared to a stock, any real estate investment shares some similarities and some important differences. For example, the value of a share in Apple going up, is akin to the appreciation a property experiences during the hold period. Similarly, if a stock pays a dividend, the real estate equivalent to that is monthly cash flow. In a commercial multifamily investment, those appreciation gains are reflected in the Proceeds from Sale, and the ongoing cash flow is encompassed in the Preferred Return (aka a ‘Pref’). Together those two means of returns are how investors are paid.


Before we discuss how the returns are split and paid, it is important to understand the general structure of all the partners & investors in each deal. All properties are purchased by a brand new LLC established by the general partnership that is unique to each property. In that way, the limited partners hold direct ownership interest in the real estate. This would be different from a REIT for example where an investor owns shares of a corporation that in turn holds title in multiple properties itself.

By being a Limited Partner in a commercial multifamily investment, you hold direct ownership in the property itself proportionate to how much you’ve invested.

Alongside the limited partners, are the general partners. The general partners also own direct ownership of the property in the exact same way as the limited partners. That is, general partners are investors alongside the limited partners proportionate to how much they’ve invested in the deal. This introduces an important concept called alignment of interest. For the most part, the general partners do not make money on the deal unless the property itself makes money and in turn the limited partners earn their return. All boats rise and fall together.


There is an exception to this, and that has to do with the acquisition costs. To compensate the general partnership for the time, effort and money required to source, negotiate and close the deal, the general partnership receives an acquisition fee. Commercial lenders, commercial brokers and due diligence experts such as construction consultants and underwriters are also paid as a part of the acquisition closing costs. Recouping this acquisition fee also ensures the general partnership is in a position to acquire its next property.


Once the property is closed and the investment begins on Day 1 of the hold period, limited partners can expect to receive a preferred return. Typically this return starts 60 days into the deal. It is called a preferred return, because

The general partnership does not receive any proceeds until the limited partnership is paid their preferred return.

For our deals, a typical preferred return is 7-8%. Again, this introduces alignment of interest in that it is absolutely in the best interests of the general partnership to have the property perform, because if they don’t beat that 8%, the general partnership doesn’t get paid.


Beyond 8% the profits are split between the general partnership and the limited partnership. A typical profit split is 70/30 - 70% of profits going to the limited partners and 30% of the profits going towards the general partners. Let’s walk through an example:


If an investor invests 100k into a deal, they are entitled to an 8% preferred return. That means 8k per year is paid to the investor (fyre CAPITAL pays monthly, so around $666 per month). Beyond that 8%, the investor earns 70% of every additional dollar earned by the property. So if the property makes another 4k during that year, the investor would earn 70% of that or $2.8k. This profit split extends to the proceeds upon sale. Investors earn a preferred return and once the sale occurs, investors earn their share of the profits.


When fyre CAPITAL sends out a Deal Alert Email, you will also see cash-on-cash return or CoC. CoC is simply a number used to evaluate the ongoing returns that includes the preferred return and any additional gain. So a deal can have an 8% pref and a 10% CoC which reflects both the pref and the profit split.


Finally, you will also see Average Annual Return and Internal Rate of Return (IRR). Both of these are return numbers an investor can look at to evaluate the entire deal from close to sale. The difference between the two is that IRR incorporates the timing of returns and Average Annual Return does not.


For example, a 100k investment might return 8k in Year 1, 9k in Year 2, 10k in Years 3 and 4, 63k in Year 5 (which includes sales proceeds). The total return was 100k (8k + 9k + 10k + 10k + 63k). In this case, the Average Annual Return would be 20% (100k / 5yrs). But when you take into account the timing of returns with the IRR, you get 16.82%.


IRR is a powerful tool to assess returns not only across investments with different time horizons, but also across different asset classes with varying returns. It is because of this that IRR is a universally accepted measure of return in commercial multifamily investments. As previously mentioned keep in mind that all IRR numbers published by fyre CAPITAL are NET of profit splits and any acquisition fee. The returns we publish are the returns you receive: there are no additional costs associated with our investments.


Invest with fyre CAPITAL

fyre CAPITAL is a commercial multifamily investment firm. We purchase and/or partner in 150-600 unit, value-add apartment communities in fast-growing Tier 1 & 2 U.S. markets. Together with our strategic partners, fyre CAPITAL represents over 500 Million Dollars of successful real estate acquisitions. Our developers, sponsors and capital partners have amassed a network of over 1,500 unique investors. We provide new opportunities to invest in projects targeting a 14%-21% Internal Rate of Return . If you would like to join us on our next project, your first step is to Submit an Interest Card. We look forward to partnering with you.