Trends in real estate private equity

Structural shifts in the real estate funds sector

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The environment for real estate funds is facing major structural changes. Driven by regulatory requirements and heightened demands from investors, the changes are not merely cyclical adjustments to the market. Rather, funds will have to adapt to a new regime.

Fund managers will need to be proactive about asset management, capital expenditures and leasing for individual properties rather than holding out for improvement in the overall economy.

Costs on the rise

The changes will add significant pressure — and costs — to many funds already dealing with substantially lower asset valuations than three to five years ago. From the regulatory standpoint, costs associated with meeting the new standards that directly impact the fund sector, such as Dodd-Frank and AIFM, are just one slice of the pie.

Funds will also be affected by indirect regulatory changes. Basel III is a good example: with its implementation, the capital reserve requirements for banks will force them to hold more reserves against commercial property lending. Thus, the increased cost of capital for banks will restrict the leverage available to funds.

Top 10 predictors of real estate
fund-raising success:

1. Having a strong alignment of interests

2. Having a cornerstone investor/solid backing from existing investors

3. Being a follow-on fund

4. Having a focused investment sector

5. Being able to identify and articulate a strong pipeline

6. Having a strong track record in good and bad markets

7. Offering a niche opportunity

8. Demonstrating an ability to find unique deals

9. Focusing on making money in obsolute terms

10. Being competitive on Fees

Source Erns & Young LLP

Investment trends on the rise

This period in the real estate industry has also given rise to new investment trends, several of which could have a notable corrective impact on the market.

First, with regard to the managers’ trying to raise new funds, those that are coming to market are taking six to seven months longer to achieve their first close than they did on average during the peak.

Also, one-on-one deals between investors and fund managers are expected to keep increasing for the foreseeable future.

On the equity side, this could eventually make room for fund managers to lead joint ventures or club deals between multiple investors on individual transactions and then syndicate the interests over time.

Future considerations

In general, real estate funds hoping to do more than merely endure this period of industry turbulence, which has been underway for several years, will have to continue to be creative in their approach to the evolving environment.

Fund managers will need to be proactive about asset management, capital expenditures and leasing for individual properties rather than holding out for improvement in the overall macroeconomy. Within their own organizations, attracting, developing and retaining talent will be a critical issue going forward.