Different types of equity financing structure and the potential challenges one might face when structuring an investment with joint equity partners
First and foremost, it is important to structure your costs when you are going to raise investment. When you have a concise yet informative presentation, it will be a lot easier to attract interested partners. Also, make sure that your presentation is visually appealing. If your presentation looks like it was half assed then partners will assume that your operational work will also be half assed.
Secondly, you need to have a team assembled. Here are a few of the people that you will need:
- Someone running the operations
- Someone handling the business development side / Finances
- Architectural consultant
- Engineering team / Consultant
- Government relations
- Technology expert (marketing, website SEO, making sure your technology works when you need it)
If you have the right team set up then you will be able to get proposals in a timely manner and effectively work the investor relations/business development side of the business without too much headache coming from the operations side of it. Also, you will have the data that you collected from your proposals help you get hard numbers for your presentation and it will better show your experience and ability to run a project to a potential investor.
So, now that we have touched a bit on what you will need to prepare yourself; How about we start talking about the different structures of a deal.
You may be telling yourself, “I would love to have several million dollars wired into my bank account so that I can do a real estate project”. Well that would be great, but in a similar way to debt financing, equity financing comes with certain structures that are favorable to the investor and certain structures that are favorable to the operator. Here are a few:
In this type of equity financing structure, the operator has minimal control, and the investor is essentially calling the shots. This means that the operator of the investment (you most likely) has zero skin in the game. It also means that the operator has pretty much bought themselves a job and the investor is their boss. However, this option works well for newbies that are just trying to get into the development game and have experience, but no liquid capital.
In this scenario the operator is putting in between 30 and 50 percent of the finances and the investing party is contributing between 50 and 80 percent. This type of equity financing means that both parties are equals in the deal. However, the operator (being the one who is doing all the work) has a bit of an edge. When an operator shows that they are contributing to their own project, it shows that they are confident enough to risk their own money. This allows the operator to negotiate more with their to-be partners when they are hammering out an operating agreement. The downside is that if the operator has an investor that is a micro-manager then it has the potential to be a hassle and may even prolong the projected timeline of your project.
The last type of equity financing that I believe is worth mentioning is 33%. This is the case if an operator is trying to tackle extra projects, but wants to call the shots of the project. In the 33% financing option, the operator is contributing two thirds of the capital to purchase the land and pay for all the expenses of the project. From an operational standpoint it is much simpler and there is minimal (usually quarterly) reporting that needs to happen to the investment party. The downside is that the operator has to be using most of their money while also doing most of the work. It is definitely not the most efficient, but it is the least headache.
There are many ways to go about your financing structure, so keep them in mind when you need to fund a value add land project. I will write an additional blog post to explain how to structure the back-finances of a typical project.