When investing in alternative investments like multifamily real estate, you’ll come across the term “promote.”Also called “carried interest,” this term is a bit of jargon that boils down to the sponsor’s disproportionate share of the profits. In this article we will define the sponsor promote, show you how it works, explain why it is justified, and show how you can share in the promote as a passive investor;
What Is the Promote
The promote, also known as the "carried interest," is a financial incentive given to the sponsor or manager of a real estate investment deal.It is an additional share of the profits that the sponsor receives beyond their initial equity investment in the project. In real estate, the promote is a way for deal sponsors to earn a larger share of the profits if they successfully manage the investment and achieve the targeted returns. This incentive structure encourages sponsors to work diligently and make decisions that maximize returns for all parties involved.
How Does Real Estate Promote Work?
The promote is typically structured as a tiered system, where the sponsor's share of the profits increases as the investment reaches certain return thresholds. Here's a quick example of a waterfall:
- Before any profit split both the GPs and LPS will get their initial capital back (called return of capital).
- Up to a 7 - 9% IRR, profits will be split 80 - 20 between the LP and GP
- If the deal reaches a 13 - 15% IRR then profits will be split 70 - 30 between the LP and GP
- Above a 15% return, profits will be split 50 - 50 between the GP and LP
In this example, the sponsor only starts earning a promote once the investment hits its first milestone. As the returns increase, the sponsor's share of the profits also grows, incentivizing them to maximize the project's success.
Why Does the Deal Sponsor Get a Promote?
As an investor, you might look at the example above and wonder why the sponsor should benefit over the investors if the investment outperforms. That’s fair, but there are a few reasons that the sponsor earns the promote as the investment hits new milestones:
- The promote aligns interest: The promote ensures that the sponsor's financial interests are aligned with those of the investors, encouraging them to make decisions that benefit all parties.
- Compensation for expertise: Sponsors often have specialized knowledge and experience in real estate investing, and the promote compensates them for their skills and efforts in managing the investment.
- Incentive for performance: The tiered structure of the promote incentivizes sponsors to work hard and maximize returns, as they can earn a larger share of the profits if the deal is successful.
- It shares the risk: By investing their own capital in the deal, sponsors share some of the risk with investors. The promote rewards them for taking on this risk and successfully managing the investment.
So the promote isn’t just a bonus for the sponsor, it compensates them for their due diligence and effort while aligning their interest with yours.
Can Investors Share in the Promote? The Co-GP Difference
As the investment performs better the sponsor will earn an increasing (disproportionate) share of the return, but is there any way that you, the investor, can benefit?In a normal LP fund, no. But in a Co-GP fund, the passive investors get to share in the increasing return.A Co-GP Fund operates much like any other real estate fund except for one important difference: where your role as the investor lies. Instead of investing in the LP side of the fund, you invest in the GP side except you still will invest as a passive investor. In other words, you invest alongside the GP but are not expected to perform any of the GP’s duties. This fund strategy allows LP investors to sit in a GP position and earn like a GP, but remain 100% passive.
Ready to Invest? Browse our Current Offerings
If you’re ready to reap the many benefits of investing in a Co-GP Fund then take the next step to invest in the Catalyst Fund III by Colony Hills Capital. Colony Hills Capital has sponsored two multifamily Co-GP Funds, Catalyst Real Estate Fund and Catalyst Real Estate Fund II. Investors are welcome from September 2023 to February 2025, this is a unique opportunity that you will not want to miss. Learn more about Catalyst Real Estate Fund III and take the next step to join today.
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