Are private equity real estate funds the same as crowdfunding?
I was on a call yesterday with a potential investor & this was a question that he posed to me. I've also been asked this by several others in the past, so I figured I'll write a quick post to try to explain some of the differences between these investment types, from the way I see it.
Both private equity funds like Perazul & crowdfunding sites generate returns through commercial real estate investments. However, there are quite a few differences between them:
1. Broker Fees
Crowdfunding sites typically have to pay substantial fees to brokers to sell their investments to the public, which gets indirectly passed on to the investors. Sponsors typically do not pay private equity funds to "sell" their investments, which translates to lower fees for the investors & more of the dollars invested in the deal
2. Investments types offered
Crowdfunding sites typically tend to offer more debt & preferred equity rather than straight equity. Debt & preferred equity are typically higher in the capital stack for a deal when it comes to repayment & hence tend to carry lesser risk which often translates to a lower return. If you are seeking a higher, risk-adjusted return then a straight equity investment typically is a better option
3. Sponsor Experience
Since the crowdfunding sites market their investments to the public through their platform, a lot of the larger crowdfunding sites tend to charge the sponsor a placement fee & administrative fees of between 3% - 4%. A lot of the experienced sponsors do not want to give up a portion of their raise to these platforms, because they have a large investor base or capital partners that they can raise the capital from. So, you might tend to find less experienced sponsors who are just starting out and/or who might not have the investor base to fund their deals, which potentially could make it a riskier investment
4. Aligned interest with investors
For better aligned interest with our investors, we invest a portion of the raise alongside our investors in all our deals. Whereas, this is typically not common in the crowdfunding space, wherein the managers of these crowdfunding sites invest in their own deals.
5. Performance based vs transaction based fees
Since the crowdfunding sites charge the sponsor the placement fee right upfront, they make their money even before the investors money is invested into the deal & whether the investment performs or not. Private equity funds on the other hand, typically charge a small asset management fee of 1% - 2% to cover yearly operational costs, which the crowdfunding sites charge too, and have an incentive or performance based fee of 10% - 20% of the share of profits only after paying a preferred return to the investors. So private equity funds make money only if the deal performs as planned or better, which from my perspective is a huge difference.
As you can see, though at a high level both private equity funds & crowdfunding sites operate in the real estate investment space, there are some key differences that you as the investor should be aware of before you invest your hard earned money into these investments.