Tapping a Ripe Investor Base Through Alignment

Paul Smith of Texas-based firm Velocis tells PrivcapRE about tweaking the structure of its investments vehicles to attract family offices, endowments, and HNW investors.

It is a poorly kept secret that allocations to private real estate by family offices and endowments are on the rise. For smaller and midsized managers, having the right investment structures could help them tap a ripe investor base that is quite different from the traditional defined-benefit plans.

“Endowments and family offices tend to be much more relationship-driven as opposed to consultant-driven,” says Paul Smith, principal at Texas-based firm Velocis. “Most of the large institutions are consultant-driven.” Since launching its $150M value-add fund in 2010, Velocis has successfully attracted family offices, endowments, and high-net-worth investors by structuring its investment vehicles to be more palatable to its base.

“In 2010 it was a good time to be buying, but coming out on the heels of a recession, we found that investors were wary of their capital being tied up too long in an investment vehicle,” says Smith. With this feedback, Velocis structured its fund for five years, with three potential one-year extensions to “buy, add value, and dispose of the asset as soon as our goals are met. This helps provide a sense of liquidity to the investor,” he adds. There are also no reinvestment provisions, such that if an asset is sold, 100 percent of the capital is returned to investors. Velocis principals also invest their own capital in the fund to have “skin in the game” along with their investors.

“We have one fee,” offers Smith with an emphatic Texas twang. “It’s a simple structure on committed capital only. There are no acquisition fees, financing fees, disposition or property management fees added. It’s clean and transparent to investors.”

Velocis follows a European waterfall model where the promote is calculated at the fund level rather than on a deal-by-deal basis. “We can’t afford to have any clinkers in a fund,” he says. “We have to generate a fund-level return to get a shot at the promote. We feel we have the cleanest structure out there, and we don’t want to change our strengths.” Smith also notes that more than 90 percent of the LPs who invested in their Fund I also invested in Fund II.

When it comes to due diligence and working with smaller and midsized institutions, Smith says, “our investors aren’t heavy-handed, and they don’t want to get in the way. They want us out working. A lot of the large institutions have extra layers of communication in place. With endowments and family offices, the decision-making works to where you get a quick yes or no.

“These types of institutions have a lot of smart people on staff doing due diligence, but they don’t want to drag you through the mud with unnecessary paperwork,” Smith continues. “They know what they want and they are very specific. They also look more at net returns and are not just focusing on the fees.”

For managers serving this investor base, the efficient communication and decision-making process plays into their co-investment strategy as well. “A lot of investors want to co-invest, and when it comes to this base, they tend to be very quick when it comes to turnaround on a decision,” he says.

From an operational standpoint, Smith feels it helps to be “lean and mean.” His firm outsources reporting, accounting, and legal to third-party professionals, observing that investors are looking for the most salient tasks. As Dodd-Frank, AIFMD, and other policies increase the scope of regulatory scrutiny on formerly exempt groups such as family offices, compliance is paramount. Yet this investor base is so highly relationship-driven that they do not require extraneous reporting, preferring to focus on key analytics, direct communication, and transparency—making them an ideal potential match when properly aligned with smaller and midsized managers.