How to raise a $16M syndication in one day? What are the main things they wish they knew earlier in their careers? Mark Shuler and Josh Welch, founders of SGRE Investments and Three Pillars Capital share how they got there in their real estate syndication career.
Tell us a little bit about you.
I'm Mark Shuler, a practicing architect in the state of Washington, and also licensed in Texas. I've been practicing for about 40 years. I also run my own private equity firm for real estate acquisitions for about eight years. In the last eight years there have been a lot of deals, we are trying to close them before the interest rate starts going up.
I'm Josh Welch, co-founder of Three Pillars Capital, a Houston based private equity firm. Focused primarily in multi-family assets, we look for underserved, undervalued assets that need a little bit of love, not things that are falling apart, but things that could just be managed a little bit better and modernized. We have a pretty big renovation component to all of our projects, where we focus on the C Class products, workforce housing, and then we modernize those units and get the rents higher. That's what generates the return for our investors and that's an extremely top level of what we do.
How were you able to raise $16 million in one day? How did you arrive at that level?
Mark: I'm not sure we know how we did it, but we managed to do this crazy raise. We had done a lot of preparatory legwork, we both have a very deep database of investors, we've done enough deals now that we have a lot of frequent fliers. As you do a deal, your database continues to grow as people talk to friends and family. We just teed it up, we do a very detailed deal deck and offering memorandum. We do a lot of preparatory emails, getting people in the space to understand that the deal is coming. At this point we're over raising on every deal, everybody knows that we're over raising so they're committing fast and early on the deals, and it's a record for us. At one point, we were raising a million dollars an hour for eight straight hours. We shut it down in 24 hours, Josh was getting pummeled with emails and phone calls.
Josh: Yes, I didn't always used to be that way. I think a lot of it is track record, probably the biggest thing you can have in this business, outside of a flashy deal deck or presentation, if you've performed and you've given a good return, the word will spread like wildfire. Our investors talk, and they tell their friends, and the mantra that Mark and I follow is you're only as good as your last deal. If you have a deal that goes sideways or down, people remember that, and that's going to impact or delay raising money in the future. That's why we were very diligent in our underwriting process, and we focused on what we were looking for.
Sometimes we'll go two months without having a deal and that's okay, because I'd rather have the right deal that I know is going to get me the return I need than have something that could put my investors at risk. That relationship that we've had for so long takes time to build. It's getting the track record, and people knowing how you communicate. You have to get people familiar with the deal, have phone calls and emails so that when you open up the funding, those people have already been primed and warmed up.
Mark: Experience counts for a lot in this line of work. When you've done as many deals as we have, you have credibility with people. There are a lot of folks I mentor, who are trying to get into the game and it's really hard for people to wrap their head around the fact that your day job is way different and now you're doing real estate on the side. It's really hard to get people to invest money with you, but after you've done 10 to 14 deals, it's a natural pitch for people to see you that way. We're dealing with more and more sophisticated investors all the time, they are really smart. People who know how to read a balance sheet and know how to read a deal deck, they make decisions very rapidly. They're also writing bigger and bigger checks. In the past, we'd get $25,000 checks, now we're getting two or $3 million checks. It makes the raise go a lot more rapidly as a consequence. It also creates a sense of urgency for the folks who weren't writing those kinds of checks, because they know that this raise is going to fill very quickly. So they have to get in really fast and it's a self perpetuating thing. We don't try to frame it that way, but no matter what product type you're in, if you're doing a syndication, this is how it works.
It seems like you guys are good partners, how did you guys meet? How did this partnership come about?
Josh: Mark and I have been working together for years now, we've done several deals together. Our first deal was 96 units in Houston. Mark was looking for assets there and that's where our company is based. We crossed paths, and decided to team up and go on this one, and to the next and we just kept the relationship going.
Mark: I live in the Puget Sound, where the price of real estate is insane. You're looking at legitimate three CAP's going in rates and you don't make money doing that. As a syndicator, I'm at an extreme disadvantage because I have to pay returns to my investors as well. There are lots of institutional investors out there whose return profiles are a lot different than mine, so I just gave up on looking at things in the Puget Sound. After a thorough analysis of the entire country, I decided to settle in on Houston. I was doing a reconnaissance trip there, and one of Josh's employees was a broker I knew in a former life, and he introduced us. We're both engineers, both Michigan grads, we think a lot of like, temperamentally we're the same, so it's a natural partnership.
What are some of the things that you both wish you knew earlier in your career to expedite things for other people that you think that is important for them to know today?
Josh: our company is vertically integrated and our management is aligned with the asset management side. We've Three Pillars, which does the buying and selling. We have Greenline management, which is our in-house management company. Something I wish I would have known from day one is how important processes are to the operations and how important the operations are in general. There's a huge misconception in this industry, that if you can raise money you can be a sponsor, and go run a deal. The more of those you can do, the more successful you'll be. But the reality is, if you don't know how to operate these assets, day over day, year over year, they can quickly go south on you. A lot of people in this market have gotten bailed out by rising prices. There will be a day where prices will flatline and stabilize, maybe even go down a little bit. Those who pay top dollar for something that is not running well will not get bailed out. The biggest lesson is that I could have put more emphasis on in the beginning is how to get a better process in your operations.
Mark: My whole family is in commercial real estate. I have five family members that were commercial brokers, one of my nephew is is a quantitative analyst for a private equity firm, and it's just what we do. It's a family business, so I'm really familiar with the temperament of folks in the commercial real estate industry. There's a lot of male energy going on in this line of work, and I just wanted to not be that, because I find that there's a lot of cowboy attitude, a lot of unsubstantiated risk taking, and they just don't slow down and really analyze. I'm analytical by nature. You see people taking really crazy risks. Josh and I have seen deals where the numbers could not possibly work, you'd have to have 40 to 50% rent bumps to support the returns that they were quoting to their investors. I know lenders aren't going to lend on this, maybe they'll find some D level lender who's going to throw some money out.
I mentor a lot of people and I really emphasize getting a firm foundation in the industry. There's plenty of nine month certificate programs or masters and real estate development certificates that you can pursue. You can also just take onesie or twosie courses, or any of these graduate programs, CCIM, etc, there are a lots of them. But too many people just wing it in a hope and a prayer. I just counsel people that they have to get educated. You just can't waltz into this industry where there's legitimately 10s of millions of dollars taking place on a transaction and fake it until you make it, it just doesn't happen.
Either get a mentor, get educated, or get a master's degree. You have to build on your knowledge base, though experience is a great teacher, but some of it you just have to sit down and read. It's not what I wish I had done, it's what I did. I feel like I propelled my career forward by 10 years by doing that. The other thing that you have to learn in this industry is how to raise money properly. I joined a mastermind to help me with that and educate me, in one year I probably shave 10 years off my learning curve. To figure out how to raise money effectively is the fruit of my labor from last year. If you figure out the process of raising money properly, you can raise a lot of money. That can be with anything in this industry, or with running a private equity firm, processes everything. You don't want to make it up all the time, you don't want to wing it, and you have a fiduciary responsibility and investors, if you screw up, you're done. You're never going to do another deal.
Ever since we started this podcast, almost three years ago, I've been saying that people are buying deals at these low these cap rates, and as soon as a 5% vacancy happens, they're done. I think that's potentially coming around the corner, because of the interest rates increasing, and commercial loans get five to seven year fixed rates. What do you think about this?
Mark: We're in a rising interest rate environment, alter your underwriting to account for that, too many people are not, they're smoking crack or something. They have these fictitious vacancy rates and an overly optimistic underwriting, it often comes down to lack of experience.
Josh: You can make some of these deals work. You can't sacrifice your underwriting of what you know to be true, very rarely you can get a 40 to 50% bump in rent in the first year after takeover. It does happen, but very rarely. To project that as what you're going to achieve as a base case is dangerous. Instead, bring down the expectations and be real about that with your investors. Maybe you can comfortably do 20 to 25%. Most people will probably be okay with that, or project that and overachieve.
Let's say for example in this environment today, you have a property that is currently 90-95% occupied, what kind of vacancy would you underwrite for a potential hit in the economy?
Josh: Our projects are a little different since we have a heavy renovation component, we're upgrading a lot of the units pretty consistently for about a year and a half. We underwrite for about 80% economic, call it 90% occupied, and another 10% for delinquency. Then we slowly ramp that up over time, so we stabilize at about 90%.
Mark: But in the first two years, we have a much higher vacancy rate to account for the renovation period. Sometimes we're as high as 35% vacancy, and that's just prudent underwriting.
Josh: About 85 is the lowest we'll go, and it all depends. You get a month where a lot of people move out, but 15% is about the lowest, you would ever drop it for renovation standpoint. You want to under promise and over deliver. One of our failsafe metrics to make sure we're covering our button in the underwriting, is the program in that high vacancy rate. It's just prudent business practice and it stuns me that so many people don't get it.
It's great to see people like you, who are actually raising $16 million in one day say that, because obviously you were successful before. What should operators keep in mind with regards to commercial architecture, let's say they're either building something from scratch or renovating a commercial building?
Mark: The building code is a three inch binder, there are some rules of engagement. Somebody who doesn't come out of a construction or engineering background are devoid of the context of how we operate within the built environment. Many people go out there and do whatever they want, they don't understand that there's a higher authority, the building department. I have saved more house flippers than I care to think about because they got in over their head, putting a house together without any context, without any understanding of the building code. Then they get red tagged, or their floor joists are in the dirt in the crawlspace, that actually happened to me one time with one of my clients, and he ended up going bankrupt.
It's a big boys game, and you have to play by big boy rules. Too many people have an immature attitude about it and they get in trouble. What I usually tell people is if you don't know it, you need to hire somebody who knows and understands the context. But don't go out there and screw around because people can die. Over the course of my career, six people died in my projects. Things happen, I've had tradesmen lose fingers because they ran across a saw blade. It's a dangerous work environment with a lot of toxicity floating around the air, for instance, you should never have a child on a job site. I see mothers coming in there with their babies and have to say, get off my job site. You need to understand that you're operating within a serious context that is very regulated. I work in one of the most regulated industries on the planet. If you don't understand the rules of engagement, hire somebody to guide you through it. You'll be much better off as a consequence, and you won't piss off your local building jurisdiction because they'd be happy to red tag you. That's what they're in the business to do.
Is there anything else that you think that is important to know that we haven't covered yet?
Mark: Don't let me be a Debbie Downer, this is a great industry, I love doing what I do for a living. You're impacting people's lives, you're working in the built environment. It's creative, both from a design and engineering point of view, but also from the creativity and putting the deal together, it's really exciting. It's a fast paced, fascinating industry that you can do for a long time and never get bored, and you'll learn things every day. You have to learn it though. Don't wing it, learn how to do it correctly and you can do this for a long time. You're only as good as your last deal, you just have to have a really balanced view of the industry. Everybody gets excited about it when they first get into it, calm down, you have a long career ahead of you for a long time. You don't become a brain surgeon overnight, what makes you think you can be a private equity guy overnight?
Josh: I would just add that most people don't become deal sponsors, usually the track for most people is they educate themselves about how this business works, they invest with other sponsors because it is a full time job. I think a lot of people don't understand that. It's very difficult to do this in our capacity if you have a nine to five job or something else. Learn how to get sponsors and understand what separates a good one from a mediocre one, or a bad one, because not all deal sponsors are the same. Track record is a big part of that, do your homework before you invest with somebody.
Mark Shuler
www.sgreinvestments.com
mark@sgreinvestments.com
Josh Welch
www.threepillarscapitalgroup.com
joshuaw@threepillarscapitalgroup.com