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Moving Beyond Dad’s Golf Buddies: Family-run Firms Make the Leap to Institutional Fundraising


 
In terms of assets, the real estate investment landscape is dominated by a combination of large institutional players and midsized funds. But a great many more investment firms are small funds or family offices—many of which are multi-generational family businesses. Like all family businesses, family-run investment houses must grapple with the question of how best to seamlessly develop the next generation’s leadership skills. For those small funds and family offices, the 2008 financial crisis helped answer that question in an unexpected way, accelerating their learning curve and general sophistication, and providing the context for a new cohort of fund managers to come into their own.
 
Consider that fundraising is an essentially relationship-based endeavor—people write checks to people they know. In the not-too-distant past, most small funds and family offices relied on their relatively tight circles of high-net-worth family and friends of the senior members of the firm. The downturn, however, understandably parked many of those individual investors on the sidelines. That void represented an opportunity for the firm’s sons and daughters, who were poised to take on more responsibility and had their own networks to tap. But unlike the doctor-and-lawyer-laden Rolodexes of their parents, the contact list of the next generation was filled with the names of their business-school classmates, many of whom were now in positions of increasing responsibility at places like J.P Morgan and CalPERS. Thus a wave of institutional money found its way to funds that had previously been out of reach and well below the radar screen. 
 
This development helped signal the beginning of a generational shift at many firms—and, just as importantly, brought a new set of performance demands that has accelerated the sophistication of smaller funds. While the individual investors brought in by the parents were satisfied so long as the quarterly checks kept coming, returns remained respectable and they received their K-1s on time, institutional investors, by contrast, are anything but passive—even with small (for them) $50 million or $100 million bets. Not only do they have specific (often monthly) reporting requirements, but they may well dictate investment strategies down to the rent roll. 
Not surprisingly, some firms managed the demands of this new class of limited partners better than others. The funds that succeeded tended to follow a common road map that stands as a good set of guidelines for small funds looking to step up their game to meet the expectations of large investors:
 
Plot your course—before the first institutional dollar comes in. Serving large investors is a difference in kind, not in degree, from working with high net worth individuals, and if you wait until you have an institutional commitment before figuring out what needs to be done, you may never catch up. Make sure that you have the bandwidth and the expertise to manage the new set of expectations. It’s critical to have someone on the team who knows what you don’t know and who can direct the effort of filling in the gaps, committing resources strategically rather than just throwing money at the problem.
 
Put the platforms in place. Excel isn’t going to cut it anymore—you’ll need to get a top-tier reporting platform to be able to give institutional investors the frequency of communication and level of detail they expect. The key thing here is to factor in time for everyone to move up the learning curve. As we’ve noted elsewhere (“Taking ‘Big Data’ from Catchphrase to Reality at Transwestern”), in the beginning it will feel as if you are moving backward because you will be plodding through tasks you could fly through in Excel. Once you reach a base level of competency within the new platform, however, you’ll be doing things that would be impossible in a spreadsheet, and you will never look back.
 
Know the deal you’re making. Working with institutional investors doesn’t just mean more thorough reporting—it will change how you evaluate transactions and how you make decisions. More than anything, you will have to adjust to the reduced autonomy that comes from having an 800-pound gorilla looking over your shoulder. For small funds used to running things with a free hand, this can be a significant behavioral and cultural shift. Yes, you’re playing on a bigger stage, but you’re no longer writing all your own lines. 
 
Through all the demands, it’s important to keep sight of the considerable benefits that working with institutional investors brings—benefits that go beyond capital. Meeting their expectations has provided the impetus for many a fund to expand their investment strategies, strengthen their operations and institutionalize a best-practices orientation. And of course, success with one large investor makes it easier to attract others. More capital, better operations and a broader network—all of which help not just the firm, but the next generation step into their leadership roles.
 

Contact

For more information, please contact Howard Barash, a CohnReznick principal, at howard.barash@cohnreznick.com or 973-863-4367.

For more information on our Commercial Real Estate Industry Practice, visit our webpage.

 

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