218 Tore Steen, CEO and Co-Founder, CrowdStreet
Looking to the Future
Having been founded only in 2013, CrowdStreet’s growth trajectory has been very rapid reaching the $200 million milestone of equity placed just four years later in 2017 and exceeding 70,000 investors in the same year. The company focuses on bringing institutional quality deals with a diversity of both asset types as well as risk profile so that investors can create a truly diversified portfolio of commercial real estate. The platform plans to incorporate easy to use tools to compare and contrast the offerings in a transparent for way for member investors who have multiple investments on the marketplace to be able to view their portfolio in a very constructive manner.
Though impossible to predict, the company attempts to remain cognizant of the inevitability of a real estate market recession and how to address investor anxiety understanding that no-one wants to be the last one in on a deal, so to speak. Being conscious of leverage rates that developers are using and where are soft places in certain markets, CrowdStreet tries to give a little bit more clarity of what the outlook looks like at any point in time, from an overall economic as well as from a real estate perspective.
Real Estate Meets Tech
Tores’s background is squarely in the Internet and software space for the last 20 years of his career and in bringing technology into industries that have not adopted the Internet and software for the betterment of their customers as well as the operating efficiencies. He also has a background in financial services, though he does not like to confess to this, and early in his career started in banking. This gave him a good appreciation for lending and for the financial institutions and the financial services and consumers. It served him well when he met Darren Powderly his co-founder at CrowdStreet some years later. Darren comes out of the commercial real estate space and was a partner at a well-known firm in the Pacific Northwest. He was looking for a co-founder who had built Internet and software based businesses before in order to facilitate his vision for a marriage between technology and an industry that traditionally has not adopted technology to really transform real estate investing.
The partners met in the summer of 2013 and Darren had already come up with the concept of CrowdStreet and the idea of democratizing access to commercial real estate investing. The whole idea of CrowdStreet emerged out of the Great Recession of 2008 and the idea that that too much capital is sitting in too few hands could have some negative implications. This tallied with the passing in 2012 of the JOBS Act which was created by Congress and the President at the time, to further decentralize financeby updating regulations that had been around for over 80 – the securities laws. Subsequent rulings, Title 2 of the JOBS Act and Titles 3 and 4 further helped to solidify what was going to happen. By the time Tore met Darren in 2013 those other things had yet to come out, but Tore felt that Darren had a great vision about how to reform finance and as their skillsets were complementary, they teamed up and launched CrowdStreet in April of 2014.
Leaders of The Crowd
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Advent of the Online Capital Raise
One of the largest challenges they faced early on, and it is not uncommon when trying to transform and disrupt an industry, was that there is a lot of education needed initially. The legislation and the securities laws had been changed but there were still a lot of questions and ambiguity about it. In the early days of the company, they had to do a lot of evangelizing and a lot of educating of commercial real estate developers, operators, and investment firms who were intrigued by the idea but really had more questions than they had answers. Tore found CrowdStreet was to be part of a subset of a subset people out there sharing knowledge and information, and many times connecting them to other experts whether it was attorneys who worked on the SEC in legislation to enable this to happen, or whether it was some of those early adopters who had taken the plunge and were the innovators. So that was really one of the biggest hurdles which was really getting the industry to understand that this new opportunity was possible; that it was legal and that it would actually benefit their business as well as benefit many consumer investors across the country.
The way of traditionally doing business for sponsors, the commercial real estate developer who is going out and acquiring either an existing asset, it could be a senior housing facility an office multifamily complex storage facility or whatever their specific asset type and geographic focus was, was very different from what had become possible. For decades the way they have traditionally done it was they would put together a private placement, they would do a Reg D 506 (B) offering with a traditional form B filing, and they would go out to those individuals who they knew and had a substantive relationship with to raise their capital. Usually that equity amount that they were looking for was anywhere between $3 million and $8 million because their project value was in that midmarket $20 to $40 million range. So these guys were flying underneath the radar of getting a big institutional check of $10 or $20 million, but they had definitely built up a network of high net worth investors that they cultivated and built a relationship with for years. So they had a great way of going out and probably financing between five and ten acquisitions each year, sometimes doing ground-up but a lot of times it would be value add to an existing asset.
What CrowdStreet has to share with these developers was that Title 2 of the JOBS Act, which was passed in September of 2013, had created what's called the Reg D 506 (C). This said that you can do that private offering but now you can make it public and so you can actually generally advertise. Developers, for the first time since 1933, could solicit investors from the general public and therefore could use the Internet to promote their offerings – in way, to securitize offerings with the caveat that all those investors have to be verified as being accredited investors. There can be an unlimited number of those investors however, with the extra step of needing to have a verification process. The CrowdStreet marketplace was set up as a medium to go and advertise and they have now attracted thousands of accredited investors to register on the platform because they are looking for access to great sponsors with great deals.
How to Fund Your Deals
7 Steps to Raising Equity Online
One of the key benefits for sponsors and is the ability to reach investors outside of their immediate geographic location. Sponsors have traditionally built up relationships in the off-line world with investors and many times the way gain new investors with their deals through referrals and word of mouth, but it only goes so far and is usually confined to a geographic region. So first and foremost, what sponsors really like is the fact that by putting their offering on the marketplace like CrowdStreet, they are making their deals available to a wider population of investors who could be in Seattle, Washington, or in New York City or in San Diego, or Los Angeles, Florida; all over the country looking at their offering at 10:00 at night. sitting on the couch sipping a nice glass of wine with their spouse and looking at their offering and deciding whether they want to invest. Many times in the off-line world sponsors have one on one meetings with investors that are very time consuming, so the efficiency of online is really important to them.
The second key aspect that's tied to that, is not only the acquisition of new investors and the efficiency by which they can do that, but by facilitating the mechanics of investment itself. By automating and streamlining the fundraising process from review of the information entirely at the fingertips of the investor, through the actual investment itself, deciding how much an investor wants to put in, to signing documents and then funding their investment and then post fund raising. Everything is automated on the CrowdStreet platform. In addition to this, another thing that sponsors like is that the ongoing communication with investors is done through an online channel which brings with it many more efficiencies and the capability that now that they have maybe up to 50 more investors that they are working with, they can actually do it in a very efficient manner.
One way that this online communication is facilities is, for example, how theydistribute K1's. Most deals are set up as an LLC, which is a traditional format and the format is no different when they are putting their offering online. As they bring investors in they distribute capital to them on a monthly or quarterly basis based on the cash flow. At the end of the year, because it is an LLC structure they have to distribute K1's. In the traditional way, they either have to mail those out or if they get electronic consent they can e-mail it out with a password protection. But e-mail channel is always not always the most secure and so one of the ways that CrowdStreet not only makes it more secure but also more efficient is by having what they call an investor room when they log into CrowdStreet.
When they log into their investor room investors can see the performance of their investment they can see all of their executed documents and then when the sponsor comes to that wonderful tax season where they are trying to distribute hundreds if not thousands of K1's they can simply drag and drop and the K1's which get uploaded automatically into each individual's investor room. The individual investor will get an email communication, not with an attachment because of security concerns, that if they log into their secure investor room, they have access to a secure K1 document. This minimizes security concerns caused by sending a PDF document over an unsecure channel, and improves communication by sending documents to many with literally one click of a button instead of having to do individual one to one communications.
Many times when sponsors were raising capital the ‘traditional’ way, they were faced with a lot of email exchanges and a lot of phone calls so they come from a world where investor relationship management could be pretty cumbersomebecause it was usually a manual process. One concern sponsors have is that when they bring their offering online that now they will be fielding calls by vastly more investors and going to have to answer a lot more e-mails. Tore understands this concern from his perspective of having brought industries online to seeing what can happen in those circumstances. The consumer that comes to a site and gets exposed to a brand and a company through an online channel, does not generally want to take that relationship offline. Consumers do not go to Amazon.com to buy a product because they want to call the company and learn more about the product; they want to go review and see everything and read about everything about that product online and be able to make a best educated decision without dealing directly with the company.
Part of CrowdStreet's responsibility is to make sure that when they take all of a sponsor’s offering materials, they digitize them and put them into a Web environment that is really easy for an investor to access whether it is the sources and uses information, or the table of the deal economics or other due diligence materials. Many times before questions even start coming in via email, the CrowdStreet investment team helps to coach sponsors to think of all the Q and A things that are going to happen and prepare ahead of time to put the answers at the fingertips of the investor from the outset. Of course, this does not guarantee that investors will not pose questions, but what CrowdStreet does is to run webinars so that for every offering, investors get invited and can register to join a one hour webinar with the sponsors talking about their deal.
During this time the sponsor fields questions and when you have 100 or 200 investors participating, part of that community aspect is that an investor can pose a question during that time and the other investors have the benefit of listening to the response. This, Tore sees, as being an enhancement compares to the off-line world where usually that would have to be done many times in a one on one relationship that investors used to have with the sponsor. Not only is communicating with so many investors simultaneously beneficial to sponsor, but it benefits the investor also. Here you have created a community where other investors can get better educated and they can learn by hearing from other investors. So, there are lots of benefits; sponsors can minimize the noise factor by spending an hour talking about a deal that is recorded for other investors to listen to later; and investors learn from the crowd of other investor questions.
Confidentiality and Privacy
Sometimes sponsors express concerns about confidentiality of informationand there is a fine balance between how much a sponsor wants to publish and how much is behind a firewall. CrowdStreet implements a confidentiality agreement that investors have to agree to click through which adds that extra degree of security and comfort about what a sponsor might want to expose.
One of the criteria CrowdStreet looks at when determining if a sponsor is proper for the marketplace is have they worked with investors in the past. How have they done from a performance perspective for those investors from the perspective of demonstrating experience in fielding questions. That said, the CrowdStreet investor relations team functions like a concierge servicewhere if they can play air traffic control and if a question comes in that they know is contained in a particular document, they can point that out to the investor so that it does not even have to go across to the sponsor. But obviously there are questions that they are not in a position nor legally can they field about the deal. If it is not a factual document piece, they will escalate to the sponsor only those questions that are required. CrowdStreet also allows investors the ability, through the online channel if they have feedback or key questions, to submit that question directly online. Then the sponsor can choose at their leisure when they have time available to respond to it or ask CrowdStreet to send them a document or other information.
Crowd Sourced Questions
Sharing these questions and answers in an open forum is something CrowdStreet has looked at: How to further expose these community aspects for the betterment of the investor community but also for the sponsor. There is a little bit of concern for all of this to be open in a complete forum environment. Today the questions that get posed by the investors are going directly through the channel directly to either CrowdStreet’s Investor Relations team or the sponsor's Investor relations team and there are some privacy concerns with making all questions fully open. One has to be very cautious about for both the investor as well as for the sponsor, but if CrowdStreet gets consent on both sides perhaps full exposure is possible and the platform is looking at how can they provide a more forum environmentthat both sides feel comfort in and that they can gain more benefit by exposing more. It is a is a sensitive matter. People are investing and it is not as easy as looking at a review on Amazon about a product, for example. You are talking about people spending thousands of dollars investing into deals. It's a whole different level.
Since the advent of crowd funding real estate, from a deal structure perspective on the distribution of capital on a current basis, CrowdStreet has not seen sponsors change the structure of their deal to align with online investor requirements for having cash flow. Most sponsors have already come up with their waterfall structure before them come to the platform. They have come up with what their anticipated current yield is on a particular investment and that has not changed much. Maybe sponsors have become more conscientious about the fact that that the online investor with whom they have yet to build a relationship does like a current yield, but investors do understand that certain deals will not have a current cash flow to it – whether it is a ground up development or whether it is a redevelopment. Sponsors are very clear from the onset that it could be maybe an 18 month timeframe or 12 month timeframe until there is any current cash flow from a project. Investors know that maybe on that redevelopment there is no current cash but that there is a higher IRR potential that is maybe over two years instead of over seven years. What CrowdStreet has seen is that investors like to create a diversified real estate portfolio where they can pick and choose from projects that are cash flowing currently versus those that might be more realized on the back end.
One of the structural changes that is very significant and could not have happened if we had not moved to the online world is the ability for sponsors to take a lot lower investment size because again this goes back to the education when CrowdStreet was first working with the sponsors in 2013 and 2014. Typically, sponsors were taking $100,000 or $250,000 checks from their high network investor network in the off line world. When Tore talks to sponsors about bringing their project online, he requests that their minimum investment size be $25,000 which is, well, a 10x difference in many cases to what a sponsors usual minimum investment might be. You can imagine, again going back to that conversation about the customer experience and how much contact would a sponsor have with investors, because now they are looking for $25,000, sponsors are concerned that they cannot be on calls all day with these investors.
So, it took a little bit of time for sponsors to understand that this does not happen. Indeed, at a CrowdStreet sponsor conference, someone talked about how he had 30 new investors come in through the CrowdStreet marketplace, and there was a little gasp at the implied additional work this amount of new investors might burden a sponsor with. But their concerns were ameliorated with the sponsor told them that he had conversations directly with only two or three new investors and these were putting in a lot higher than the minimum amount. This sponsor’s personal experience was that he did not have to have one on one conversation with many investors and so adjusting their perception of the impact on their time of crowd funding that sponsors have to get used to. Once they try to fund this way once or twice they realize the huge advantage of growing their investor base, this way, beyond their local markets.
Aspects of Education
Another aspect in the education process is to really let investors and consumers across the country understand, number one, why this way of investing was suddenly available for an industry that for decades they could not get access to. Before, investors had to get a personal invitation to meet the sponsor from somebody who had invested with that sponsor, possibly many times. And then, even if they got invited, they didn't want to put in $250,000 dollars, perhaps having $25,000 or $50000 to put to work or wanting to spread it around to many deals. The second big question from investors is often how do sponsors get on the CrowdStreet platform. So Tore and his team are very up front with their investor community about the vetting process that their investments team employs. They have a team of eight people who come out of the private equity real estate space for a real reason; because they are used to screening sponsors and they are used to screening the deals themselves. CrowdStreet does not underwrite the deal, but they do have a detailed process around the vetting so that investors know more about the sponsors. To be clear, CrowdStreet is not doing due diligence per se in the traditional sense but they are very clear about the vetting and the background checks that go on behind the scenes on the sponsors before they actually show up and they have found that investors appreciate that.
What Tore is seeing is that once someone has invested in one of the projects and they have become accustomed to the process, over 60 percent of investors become repeat investors on the CrowdStreet marketplace. Of that repeat investor base the majority of those have three or more projects in which they have invested. They are starting to realize that they can now create a diversified commercial real estate portfolio through the online channel. Traditionally the only way they could get diversification was either investing locally with a developer they knew or they could go through a REIT get that diversification.
CrowdStreet primarily has single assets in their marketplace but also have funds, special focused funds, that can be in a specific asset type, as well as having full blown REITs that are listed. CrowdStreet likes to offer investors that type of choice because they might want to put some capital into a REIT where they can automatically get diversification even if it is focused on a particular asset class like senior housing or multifamily or office; they are getting some diversification across the assets in that fund. However, sometimes because of the fund structure there might be a higher fees structure and consequently also lower potential returns, but the portfolio is de-risking some of that by buying diversification and that is the tradeoff. With the single asset investment the investor has more exposure to maybe a specific geographic region or specific asset type as well as obviously the specific sponsor who is managing the deal.
For Tore, coming from a tech background and migrating into the real estate world also had its own learning curve. Having worked in many different industries and coming at it from a technology perspective, whether it was health care education publishing world he had worked with many different verticals and industries. Figuring out where their biggest frustrations are and what are the biggest obstacles that industry participants are facing was the first step because it is always unique across the industries. Dealing with investor and sponsor adoption of and trepidation with leveraging the Internet there was this early concern that the offline consumer is not going to take online. Initially, Tore took things for granted and had to back up a little bit and understand better about the world that sponsors come from, learning about their pain points on investor relationship management and in the fund raising processes. He also spent time with Darren and with customers understanding more about their world and how CrowdStreet could solve problems for them because at the end of the day the ultimate objective is to help both the investors as well as the sponsors and to do better for both of them.
The policy at CrowdStreet is that anybody who is qualified can invest in any of the projects on the marketplace. There is no special treatment given because it is the open internet out there, and people can register so the company does not want to say no to an employee – but there is no special treatment given and they make sure that there is nothing extra that they get.
To date, most of the sponsors have not asked CrowdStreet to prefund a deal. The company took a different approach from other platforms some who did go that Special Purpose Vehicle model where investors are pooled into an SPV, usually an LLC., and take balance sheet capital to supplement that fund raising. CrowdStreet took a very much a road less traveled approach. It is also a road that takes longer until there is investor base that has thousands of investors. You cannot stand up straight with a sponsor and say that there is a high degree of confidence of selling the equity portion without that investor base. In many cases, sponsors will explain that they are listing a sliver of the equity because they have their own current base of investors. That said, CrowdStreet did take a pretty significant pivot as a company back in early 2015. They learned from those sponsors that were using the marketplaces that not only did they love the capability to instantly get in front of thousands of investors across the country but they also saw the capability of the technology platform.
In response to this, in 2015, CrowdStreet launched a software as a service product. It is a white label version of the same software they use to run their marketplace. As of today’s podcast, CrowdStreet has 85 customers using the software on their own Web site under their own brand to manage their own investors and to create a more online innovative way of fund raising and investor relationship management. Of these 85 companies, fully two thirds of them solely license the software, called Sponsor Direct, and they are going it on their own; they are perhaps not quite ready to try a marketplace and, for the time being, want to keep their deals private. But a third of their SaaS clients today do put select deals of theirs on the CrowdStreet marketplace in order to grow their distribution. These clients are open to more general advertising and they are seeing the benefit of adopting both approaches. They are using the software on their website and are running their investors through it. They have one dashboard and they can see their fundraising process both how it is running on CrowdStreet marketplaces as well as how they are doing with their own investors.
Back to the Future
When Darren and Tore got together in 2013, the passion, the vision of democratizing access to commercial real estate investing was baked into their idea of how they could transform real estate investing to make it accessible to make it transparent to make it efficient. Right now they are just scratching the surface and one thing that particularly excites Tore, is the that the market has not opened up yet for the non-accredited investors to participate. This is a stair step thing; it does not happen overnight but one sees a lot more sponsors being receptive to doing a Reg A plus filing, or a Tier II where they can raise up to $50 million and they can do it through a general advertising and they can make it available to non-accredited and accredited investors at the same time. Tore thinks that is one of the one of the phenomena that is going to happen over the next three to five years where people will be able to put in as little as $1,000. You cannot do that without using automation as technology.
Tore also sees another potential major shift in the market. At the end of the day commercial real estate is still an illiquid asset; in many cases there is no current cash flow. You could be in an asset for the next three or five years before realizing gains. Tore thinks it will be interesting to see how taking what has traditionally been an illiquid investment and turning it liquid – and this is why publicly traded REITS have an advantage. But because they also might have a lower return because you have a liquidity premium built into that investment because you can you can trade it on a daily basis. Tore sees things like block chain that might create an ability to securitize commercial real estate holdings and make it easily transferable and mark to market in a way that makes this investment type more liquid.
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