Fund reporting: investors need more information during periods of uncertainty

Fund reporting: investors need more information during periods of uncertainty

The recent web of demographic, geopolitical, and economic dynamics has upended the formerly robust multifamily and commercial real estate sectors. This rare set of circumstances threatens investment yields and property values, and is constraining liquidity and transaction volume. In the face of such uncertainty, fund managers must provide more information to their investors.

Falling real estate asset values, whether residential or commercial, are the collateral damage in the US Federal Government’s war against inflation. As interest rates continue their steady climb, capitalization rates are succumbing to the pressure and driving multifamily and commercial property valuations down. With an extraordinarily slow transaction market, we won’t know the full extent of the damage for some time. While real estate is usually considered an inflation hedge, in many markets rental growth is not keeping up with the inflationary surge in operating costs. For example, the blowout in apartment rents during the past two years has proved unsustainable and, like interest rates, rental growth rates are returning to historic norms.

In this period of faster change and greater uncertainty, fund managers should be reporting to their investors more frequently and in greater detail, enhancing the transparency surrounding new risks and updated expectations for deal performance. Fund reputations are maintained when no one is surprised, particularly those passive investors who thought they had bet on a sure thing and now could be facing a capital call. Areas for enhanced reporting include:

  • Debt: More detail on the capital stack and debt terms for each investment in the fund to alert investors of upcoming maturities, floating rate debt, the status of hedges, and compliance with performance-based debt covenants.
  • Leasing: The status of leasing including the percentage of space expiring each month and trends in renewals and move outs. Office property reporting should include tenant requests to reduce space prior to lease expiration and sub-lease activity.
  • Business plan realization: For value-add deals and new developments, report on the pace of absorption and new lease rates against the business plan.
  • Expenses: Inflation’s impact on operating expenses and net operating income.
  • CapEx: Deferrals in planned capital expenditure spending, including planned property improvements.
  • Transaction results: Anticipated changes in distributions, cash-on-cash returns, and yields based on remodeling existing transactions including scenario-based exit values. Funds should be up front about whether they intend to hold back more cash to address anticipated higher operating costs or debt service.
  • Fair values: Funds should provide more information on assumptions used, and consider providing valuation ranges.
  • New deals: The achievability of deploying committed capital to additional deals according to the original timetable, and whether the fund can realize higher returns on future deals, despite higher costs of capital and lower leverage, to compensate investors for higher risks.

In any chaotic environment, opportunities abound for private equity real estate funds. Higher costs of capital and lower available leverage across lender types means the demand for rescue capital will continue to grow.

The market continues to provide investment opportunities for funds; reporting and transparency are critical to keep fund managers and investors aligned in their pursuit of above-market returns.

 

About
Joseph Rubin is a Consultant in the firm’s Real Estate Services Group. Joseph has over 35 years of experience in the real estate industry supporting his clients’ most important decisions. He has worked with family-owned businesses, REITs, private equity funds, and major financial institutions to develop strategy, improve governance and operations, and manage credit risk.
EisnerAmper is a leading full-service accounting and advisory firm with a dedicated Real Estate Services Group of more than 450 professionals providing a wide array of audit, tax, and advisory services to the real estate community, including REITs. Beyond traditional services, we provide cost segregation, real estate forensics, transaction consulting, hospitality advisory, due diligence for acquisitions, analysis of investment opportunities, and operational consulting services, among others.

 

This article originally appeared in Real Estate Q1 2023: Preqin Quarterly Update. The opinions and facts included in the above do not constitute investment advice. Professional advice should be sought before making any investment or other decisions. Preqin and EisnerAmper accept no liability for any decisions taken in relation to the above.