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Peter Auerbach, Auerbach Funds

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WHITE BOARD WORKSHOP

Peter Auerbach, Founder and CEO of Auerbach Funds

Peter Auerbach is a seasoned, opportunistic real estate investor and a phenomenal educator who can break down complicated concepts into discrete ideas making them easy to understand.

In fact, Peter's communication style is well suited to the online world. When we raise capital from existing and prospective investors, all of our interactions are made up of a series of discrete ideas strung together, typically in long conversations during formally scheduled, in-person meetings.

As you will learn from Peter today, when you take those complicated ideas and create content from them in sound-bite pieces you can use social media to expand your investor network and raise more money while increasing your reputation as an industry leader.

What You're Going to Learn

  • Opportunistic Investments in Four Real Estate Categories
  • How Real Estate Investment Returns Remain Strong During Pandemic
  • How to Structure a Real Estate Deal with Allocator Funds
  • Why Distressed Real Estate Deals Are Really for the Pros to Manage
  • Why Distressed Real Estate Deals May Not Return to Normal
  • Surprising Trends Arising in Some Real Estate Asset Classes
  • Why to Consider Adaptive Reuse of Real Estate Property with Caution
  • 3 Important Things Required to Find Real Estate Deals
  • How to Stabilize Cash Flow with Real Estate Assets
  • Why Speed of Execution Matters in Securing a Real Estate Deal
  • And much more!

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Show Highlights

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Opportunistic Investments in Four Real Estate Categories

ADAM GOWER: Peter. What a pleasure to meet you. Thanks so very much for joining me. Have to give credit to Ryan for setting it up. What a nice fellow. Before we start, I want to quote to you, if you don't mind, what it says on your website, and then I'm going to ask you a very important question about that. This is what you do. Real estate, private equity fund manager, focused on value-add and opportunistic investments throughout the United States. Question, what are opportunistic investments from the Auerback perspective, please?

PETER AUERBACH: So, you can break it down into four categories. Incorrect pricing, mismanagement, needs a cash injection for rehabilitation and then we could add in a COVID-related short-term problem.

ADAM GOWER: Right, but what you're doing is, you're looking for properties that are undervalued because they have some kind of problem right? Another term for opportunistic is distressed.

PETER AUERBACH: Yes.

ADAM GOWER: Is that right?

PETER AUERBACH: Yes. And it could be properties or ownership. In some cases, you could have an excellent property, especially in times like this, where the owner owned all hotels somewhere else and now needs a liquidity injection and needs a reliable source of capital to quickly produce an exit for him.

Real Estate Investment Returns Remain Strong During Pandemic

ADAM GOWER: You told me a minute ago that you'll send out an email and get $15 million dollars without even a pitch deck. So, I want to know what a guy like you does with 15 million dollars when you send out an email.

PETER AUERBACH: I think it's best to be instructive because a lot of it has to do with past performance. So, let me give you a little background about who we are, what we do. So we are Auerbach Funds. We were founded in the beginning of 2016. We have three closed and private equity funds under management. $300 million dollars in assets. 3.5 million square feet. 2,600 multifamily units. We've done 23 transactions in 8 states. We look for, as you said, underperforming, mismanaged and distressed assets. It should be worth noting that we are an allocator fund and as such, we provide 90-95% of sponsors, which are your listeners, to effectuate business plans in an LP structure. We target a gross 18-20 percent IRR, including a 7-9 net cash flow to our investors. To date, just to show that we do know somewhat what we're doing. Our fund one and two investors have had the following terms net, respectively, after our fees, sponsor fees. We have had 46 consecutive monthly distributions in fund one, including during COVID for 28.89% percent, not including equalization, which is also added for our day one investors. Also, on top of that, we believe that there's another 21-25% in appreciation remaining, net. Fund two is a little shorter. We've had that a little less. 11.01% thus far and 13 consecutive monthly distributions net, and an additional 10-15%. As I said, our strategy has allowed us to have the cash flow necessary that we have continued our consecutive monthly distributions through the COVID pandemic.

Structuring a Real Estate Deal with Allocator Funds

ADAM GOWER: What is an allocator fund? We've got to really drill down. Don't be afraid of detail. What does that mean exactly? You're not buying the deals yourself are you. You're financing other people that are doing it right? Tell me more about that.

PETER AUERBACH: Every real estate deal has three components. The sponsor, the money and the lender. The sponsor is your audience. The guy you know as the real estate guy. Does all of the renovations is on the ground running the deal. They don't have all of the money to put up their 20-50% of the capital stack. They will go to either friends and family or an equity fund such as ourselves to provide that equity. Friends and family is different from an allocator fund in friends and family or syndications have zero control. Whereas an allocator fund similar to Brookfield, Angelo Gordon and Blackstone all run allocator funds. They are equity funds. We do control the deal. We have major decisions such as selling, financing, marketing strategies, construction, renovation and in fact even down to the website.

ADAM GOWER: Fascinating. And that's because you provide the bulk of the equity, presumably.

PETER AUERBACH: That's correct. And typically we are accretive to a deal. If you syndicate a deal, those syndicated parties will not be able to add value. They're not going to help you with a lender. They're not going to help you with legal structures. Typically, larger deals that need to be effectuated fairly and quickly rely on allocator funds, family offices, trusts and endowments.

Distressed Real Estate Deals May Not Return to Normal

PETER AUERBACH: People always assume that distressed deals are going to come back to normal. You have to ensure that the catalyst for those distressed deals is going to go away. So, for example, if you're in an area that has been suffering from COVID, but you have a thesis that COVID will be finite and at one point we will return to some level of normalcy, you know that catalyst is going to go away. On the flip draconian side, if you bought an asset, if you see an asset next to the Chernobyl power plant, well, that's not coming back. That is a permanent distress. So you need to differentiate between temporary distress and permanent distress and make sure that you can cure that distress by effectuating a business plan. That you are trying not to rely on other sources that you can't control. There's obviously things that you can't control in life but you want to limit those as much as possible. So that's capital. Experience. Distressed deals are typically not marketed and if somebody says, "I have an off-market deal. Here's my pretty lender book".

ADAM GOWER: Pitch deck.

PETER AUERBACH: It's not off-market. When you get an e-mail flier into your junk folder that says "OFF- MARKET DEAL" in all caps, that reached your spam. I don't know what to call that, but it looks like it's marketed. So, real distressed deals: no fancy pictures, bad financials, no lenders lined up in the war room. So, you really need to know, based on a limited amount of data what you're getting into. You can have roof, structural, grading, violations, variances, pending evictions you can't control. These are not things that are going to be spelled out for you. So you need to know what you're doing.

Surprising Trends Arising in Some Real Estate Asset Classes

ADAM GOWER: There is a fundamental difference, isn't there Peter, between the downturn now, and you've alluded to this, you talked about Chernobyl. Obviously, it's not Chernobyl, but, there are some qualitative differences between the downturn this time and the last downturn 10 years ago, however long, 2007-2008 and the few years after that, that have caused certain asset classes to become redundant. It's the wrong word, obsolete, at least certain components of certain asset classes to become obsolete. So, how are you seeing distressed deal resolutions playing out where it's so hard to see how assets are going to change in their usage patterns going forward? How are you dealing with that?

PETER AUERBACH: So, the current pandemic, I think, was more of a catalyst or an accelerator of trends that we were seeing already. For example, we don't own a single office portfolio. Of all those square feets, or sorry single office deal. We believe that office was, for the most part, very oversupplied. In some cases redundant, as you said. That was accelerated and brought to attention. Retail, in some aspects, has also suffered as well. Not so severely of the redundancies of office. There's office over supply, but retail has definitely suffered. Things like hotels and resorts is not Chernobyl. That is not permanent. There will be somewhat less travel in corporate hotels and resorts will certainly suffer because of the cost of goods and a global economy. More people have a pool. Going to the resort and sitting by the pool is not so much of a break away from your daily life as it used to be. We can do a lot of things from home. But I agree. So things that I would avoid in the long term are office. That is one of those...even if you could buy it really cheaply, it's one of those "Chernobyl types".  Obviously not Chernobyl, but, it's not coming back that quickly.

ADAM GOWER: Even though you're sitting in one.

PETER AUERBACH: To give you an example, we're monitoring $300 million of assets and 3,000 square feet of office, whereas before, there were a lot more tasks that have been replaced by computers. And we can go off fundamentally on why that is and be futurists. But, office is oversupplied. There's a difference between "oversupply" and "not needed". Office is oversupplied. We have more than we need.

3 Important Things Required to Find Real Estate Deals

ADAM GOWER: I mean, the world is different again than it was 10-12 years ago, dramatically. There's enormous amounts of liquidity. Multifamily is, without doubt, the single most attractive popular asset class. So, how do you identify?  How do you cut through the noise or in order to be heard by distressed deals out there?  I mean, how do you find deals is what I'm getting at, especially in an asset class that is so unbelievably high demand and well financed.

PETER AUERBACH: Three ways. Relationships, certainty of execution and size. Relationships are important. And when I talk about relationships, not meeting somebody at a networking event. Meaningful relationships with people that you've done deals with. Worked on till 2:00 in the morning for years. Those are the relationships that will provide you deals. Meeting somebody at a networking function, typically, the people that have access to these things, don't go to networking functions. That's just not what they do. It's on the ground lawyers. On the ground sponsors. So that's one. Number two is, we need to stay in a small size bucket. You talked about how there's a ton of capital in these markets. We write $3-10 million equity checks. What's interesting about the capital, is there's a lot of capital going to very few sources. Similar to the stock market where it was driven up by FANG. Those stocks, the alphabet stocks, the tech stocks, driven the entire market up and when those went down yesterday and continuing to go down today, it drove the whole market down. So you see a proliferation of capital in the large groups looking at large deals. We stay in the shallow waters where there is not as many eyes looking at those deals. Further, with a smaller fund like ours, we can make decisions quicker. We don't sit through a lot of boardrooms, so we have access. But again, you need to be ready to go.

Stabilizing Cash Flow with Real Estate Assets

ADAM GOWER: So when you talk about $3-10 million dollar equity checks, typically, how big are the deals themselves? What kind of leverage are looking at?  I mean, obviously that's, how long is the length of string, but generally.

PETER AUERBACH: Anywhere from about $10-25 million. Sometimes on $10 million dollar check, you might get upwards of 30 some odd million. You will take out leverage dependent on the security of the deal. If you are stealing a multifamily asset, it's really not going to be on a loan-to-value ratio, it's going to be on a debt service coverage ratio. What can I cover my debt at? We are market agnostic to a degree. We like to produce in all cycles and the way we do that is based on stabilizing to a specific cash flow. If you value your assets, stabilizing to a specific cash flow, you are less worried about a loan-to-value constraint, but a debt service coverage ratio constraint.

ADAM GOWER: Right. That's debt. In other words, you're talking about not being over-leveraged, in simple terms, right, basically.

PETER AUERBACH: Yes. We're breaking it down between loan-to-value versus debt service coverage. Someone might ascribe your value as low. So, if you have a lot of cash flow every year and someone says, well, this asset's worth less if you're in New York City, Los Angeles, Miami, Washington, D.C., buying at three caps and all of your value is effectuated on a capital event, you're going to be in trouble. But, if your value is extrapolated from cash flow and you're making 12% and somebody says that asset's worth less, well you could sit there making 12% until it's worth more.

Speed of Execution in Securing a Real Estate Deal

ADAM GOWER: Peter, one of the competitive advantages, you talked about three competitive advantages that you have in finding deals, but there was one that you missed and I'm interested in a little bit. Not missed for any other reason than, we're talking a lot, but one that does strike me as being very important. That is speed of execution. You did mention. I can't remember if while we were talking now or before we started chatting. You know, if you've got 120 days to close, it ain't a distressed deal. So, talk to me about speed of execution. A deal lands on your desk. You've got a short window to underwrite and close on that thing. In order to be able to demonstrate intent, before anyone believes that you're going to close, how do you do your underwriting?

 

PETER AUERBACH: Excellent. So, first thing you do is, typically on a distressed deal, you want to look at this with an existing sponsor. Somebody you've worked with. So you have existing sponsorship, underwriting, legal research and debt. So we'll start with the underwriting. First thing you do is you take your sponsor's model. You look at it and you say, assuming that everything was true, would I do this deal? And you talk with the sponsor assuming everything they say is true. And if you have enough expertise in this business, you will know, give or take, if what he says is true. And, you can be forceful and say, listen, I'm going to assume what you say is true. I'll be upset if it's not. The next step is you underwrite it with your own internal models. You sensitize it to a worst case scenario and say, assuming that our worst case scenario is true and cap rates go up 200 basis points, we can't achieve the rent. Would we do this deal? Number three: you check the local market. It is very risky to be a market-maker. You want to ensure that the assumptions in your model are at current market rents. A lot of people get in trouble and say, well, the market's going to go up. Don't bet on it. You can count on it and you're dead. Best thing you could do is say, listen, this would be an upside case and you don't tell your investors the upside case. You tell your investors the worst case scenario from day one. Transparency from day one of learning bad news. That's a different subject.

 

ADAM GOWER: Yes.

 

PETER AUERBACH: Next is the legal team. So, we would have an all hands on deck call and instead of being the new sponsor that says: "Hi, I'm Peter Auerbach, I want to buy a deal. What does your firm do?" Those are guys that don't get distressed deals. What we do is we say, hey, Janis Schiff and Holland and Knight who handles all of our legal. I'll give her a little plug. Janis, we got something in Atlanta. Let's get Darrian and Meg on the phone. I want to run through this with you. Well who do we know down there? What are we going to get going? I remember the last deal we did. We spoke to X, Y and Z. Next thing you do is you call your construction managers that have done deals with you on the phone and say, I want to know about this asset. Run scope right away. Let's make sure we have no leaks, no plumes. I want to know the structural because they're not giving us anything. So, those are the nuances. You are ready to go on day one. Then what you'll want to do is you'll want to talk to the brokerage community right there and it's a two-way street. If you are honorable to people throughout your career, they will put in a good word for you with that seller. Remember, the seller needs that money. They want to know you're a sure thing. So, it will be a two- way street. Mr. Broker, tell me about the history of the deal. Mr. Broker, please let them know we're looking at them. Let them know where we are. Now, if you've never closed a deal before and you don't have a track record around the country, you're not buying it. So that is a very, very fast talking, rudimentary way that we do business.

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