Equity Multiples & What They Mean For Passive Investors When Investing in a Multifamily Syndication
When a potential investor is reviewing a multifamily syndication investment opportunity and reading through an investment summary, they will likely see the term “equity multiple”. For some, this may be a familiar term, but for most, it won’t be.
A single family home and various types of rental properties are completely different than multifamily apartments when it comes to determining the valuations of the properties and the projected returns, for example. There are big distinctions between an asset type like a single family home and an asset class such as an apartment building. One of the main ways these two asset types differ is the way valuations are determined. With a single family home the market value is determined by comparables (comps) of “like/kind” properties in the vicinity of the subject property. Whereas, in order to determine the property value of an apartment building, the valuation is determined by the net income it generates.
When it comes to passively investing in real estate syndications, however, “equity multiple” is an important term to know and to understand for limited partners when they invest in this type of investment. The equity multiple will help you to better determine (among other metrics and factors) if this is a deal you would like to invest in or not.
What “Equity Multiple” Means for Investors Interested in Real Estate Syndications
When you are real estate investing, particularly passive investing in multifamily properties, it’s important for you to know terms that can help you make a better decision by your ability to ask better questions. Part of that awareness comes from understanding the metrics presented by the real estate syndicators or those who perform the active work on the investment (also called the active investors or operators/sponsors or general partners) who are putting the real estate deal together. These general partners present to the investors the pertinent, higher level information in the investment summary for potential investors to determine if they would want to invest. The investment summary will help you to understand the different ways that the general partners will be implementing their investment strategy in their business plan.
In the investment summary, you will be able to assess such important information as the track record of the general partners, the cap rate of the apartment complex, the IRR calculation (internal rate of return), the projected annual income, the cash on cash return, whether or not there is a preferred return, any bonus depreciation structure being implemented and the potential tax benefits you may receive, whether there is waterfall structure or a straight split on returns, how much cash flow you are projected to receive and how often returns are distributed, the local real estate market and why the general partners have decided to invest there, as well as the property management company that will be overseeing day-to-day operations in conjunction with those individuals who will be taking an active role in the success of your investment. Last but not least the investment summary will also have the projected equity multiple to help you better evaluate the investment.
So, as you can see, you really want to make sure that you are taking a hard look at the investment summary to understand all of the financial matters of the multifamily asset.
Best Way to Define “Equity Multiple”
The original investment that a passive investor invests into a multifamily deal is an investor’s private capital, so when we use the term “equity multiple” it is simply the amount that your private capital investment will be multiplied at the exit or sale of the property – usually 5- 7 years, which by most standards is not a long term investment.
So, for example, if you see a passive investment that has an equity multiple of 2x and an estimated projected hold term of 5 years, then that means that the passive investors can expect to double their money (double the original investment) by the end of that 5 year period.
The equity multiple tells you how much money you can potentially receive by totaling all of the cash flow distributions during the hold term plus the profits that you can receive once the asset sells. Our passive real estate investors have relayed to us that after they fully understood what “equity multiple” meant (along with understanding other factors) that they felt much more confident in comparing investment opportunities and they believed they were able to make wiser decisions that entailed less risk.
Some Basic Math to Help Illustrate
Here is an example of a deal with a 2x equity multiple:
Let’s say the investment capital is $100,000 (total equity investment) and that the deal has a projected annual rate of return of say 8% with a 5 year hold period. This means that the potential investors may receive about $8,000 each year for the 5 year term.
So, in this example, over a 5 year hold term the private investors will have received a total of $40,000 ($8,000 X 5) in passive income or projected cash flow distributions. Then, when the apartment complex is sold, these same private investors receive their initial investment back of $100,000, PLUS another, say, $60,000 in profits from the sale of the asset.
So, the $40,000 in cash flow distributions and the $60,000 from the profits add up to $100,000 in projected total returns. If the investor invested $100,000 as an initial investment, and if they receive this additional $100,000, then they have essentially doubled their money, which is what an “Equity Multiple of 2x” means.
And these returns don’t even take into consideration the tax advantages that most investors will be able to enjoy with these types of real estate deals.
Equity Multiples Through the Lens of a Passive Investor
In the real estate syndication deals that we present to our group of investors, it’s not uncommon to expect to double your initial investment over 5, 6, or 7 year time periods, but these deals are not easily found. Here at PCRP Group, we always try to provide our group of passive investors with the best-projected equity multiplier we can achieve; a 2x equity multiplier (or better) is our goal.
This is ultimately the time value of money concept (TMV), which encompasses the belief that a sum of money today is worth more today than the same sum tomorrow simply because of its earning potential. But this concept, of course, means that your capital must be invested wisely.
Always keep in mind that the equity multiple is a projected return – that means that it is estimated based on various factors and is never guaranteed. The actual returns may end up below the projections presented in the investment summary. However, it’s also not uncommon to have higher returns than the projected returns presented in the investment summary.
The best advice we give our investors is to always conduct your own due diligence on any investment whether it is commercial real estate or stock market investing. Every little bit of research you do provides you with the best ways to gain confidence in moving forward with your investment to help you ultimately increase your net worth.
Now that you fully understand equity multiples, you can approach the next deal with a bit more confidence.
We hope this has helped you learn more about how to Earn Passively & Live Abundantly!
Ready to Learn More?
The best way for you to learn more about commercial real estate syndications is to join the PCRP Passive Investor Club.
Through the PCRP Passive Investor Club, you’ll get a priority review of all the deals we offer. We’ll work with you to determine your investing goals and then present you with the best deals to meet those goals. We’ll then guide you every step of the way as you invest in those deals.
So if you’re ready to start investing passively in institutional-grade, commercial real estate in fast-growing, climate-resilient markets in the U.S., join the PCRP Passive Investor Club – IT’S FREE! – and get started on your path to EARN PASSIVELY and LIVE ABUNDANTLY!
If you would like to know more about what we do and how it may be of value to you, please reach out to us anytime. We’re always happy to help!