Let's say you are interested in passively investing in a real estate deal. Congrats! What should you do first? My opinion is to dig into the people and the track record of the group you are investing in. Most syndications are truly passive and as an investor you have no control over the direction of the deal unless the sponsor is committing fraud so the team/people behind the deal is critical.
The past is usually the best predictor of future results so understanding the sponsor's track record in their asset class of choice is a great start. Most groups including Reliant want to highlight their past successes but make sure you dig into the deals that did not go so well and try and understand why. Usually the best learning experiences come from a loss not a win.
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Reliant has had plenty of wins with 38 properties sold and the average project level IRR of just over 33% but today we are going to dig into the worst deal Reliant has ever done.
Let's start with the final results and work backwards. Originally purchased in December of 2015 for $5,063,173, this was a property that was projected to lease-up and reach physical occupancy stabilization in 24-36 months. Well, we ended up selling the asset in March of 2020 for $4,730,000 with an average cash on cash return during the hold period of 2.5% and a -2.9% IRR. So if you had invested $100K into the deal we returned $89k to you after 4.25 years. Obviously not what anyone anticipated, so what happened?
New supply and changing traffic patterns in the market is what happened. There were a bunch of competitors that thought the same thing we did. This is a growing market full of people who need self-storage. We had a number of new developments open during our hold period and at least 1 expansion of a current facility. These were a combination of REIT and regional competitors and once these facilities all opened it was a race to the bottom as far as pricing is concerned to get these new facilities leased up. Price wars hurt everyone's bottom line and it definitely hurt ours.
To make matters worse the municipality, in order to accommodate the population growth, begun an update of its roadways in effect making the properties original high trafficked frontage road now a secondary thoroughfare. We were working to stabilize the property and had now become invisible to the market.
Unfortunately, due to our investment partner's horizon, we were out of time and the deal needed to be sold. In the best case scenario, we would have held the property another 1-2 years and allowed the asset to stabilize before we sold it, bringing the value back up to its original exit projections. Overall we saw NOI drop 63% during the hold period thus, dropping the value. Fortunately, despite the poor performance of the property, it was part of a larger portfolio for our investor and the overall sale of the portfolio this investor exceeded their return projections.
So what did we learn? First, new supply kills revenue growth and slows lease-ups. The downside to being in a market that is on fire is that everyone else wants to be in that market too! This supports Reliant's strategy to work in secondary and tertiary markets where there has been less new development over the past few years. On paper these markets may look less attractive to go into but, the key to success is truly understanding the current and upcoming development pipeline in the market.
Secondly there is value in investing in a fund versus a single asset. The investor in this deal owned a number of other properties with us so when we sold the other properties that did well it buoyed our loser in the bunch for an overall successful project return. Just like a mutual fund helps create diversification in the equities market a real estate fund helps protect the downside when you have a scenario like this.
If you are interested in learning more about our current investment vehicle, Reliant Self-Storage Fund II please reach out and we can provide additional information.