Joint ventures have always existed, and they are making a comeback now that the market is uncertain: not taking the risk alone may be worth taking less of the profit in the long term.
The following two are the most common partnerships do we usually see in apartment building transactions and our advice on how to handle the sale process for each:
These are joint-ventures that have been structured by the previous generation (usually family) and inherited by children (usually cousins). Delicate by nature due to family dynamics, they are most of the time ran successfully by only one or two of the second generation, while the rest of the family becomes “passive” in the partnership. These can run smoothly as long as there is trust in the family structure, and as long as all parties are in agreement about keeping the asset. Once a sale discussion takes place, it is rare that all family members would be 100% on board with selling the asset, or in agreement with the ultimate price that should be achieved. The active partner usually seeks control over the sale process as they feel more qualified to do so; the rest of the partners would either grant this control, resist or insist in being involved on some level; the last two options rendering the sale process lengthy and harder to navigate.
Sweat / Equity
Type partnerships; apartment buildings rarely run themselves. In this type of partnership, an experienced managing partner invests together with an equity partner. The equity partner’s share of investment is usually much larger, but they are “silent” in the day-to-day operations and management such as selecting tenants, administering rent increases, addressing building code requirements, awarding building contracts, etc. Where we see complications is when the sweat partner is tired of running the building and wants to cash in on the profits; while the silent partner does not want to sell (why would they? They are passively accumulating wealth).
The sale process can be complex even for an ultimate owner (where the owner can pull the trigger on any decisions), let alone for a partnership. Here are some elements to consider for an easier exit:
If you are the active partner, take the time to explain the day-to-day operations of managing the building, building expenses, Gross vs NOI, how assessment is different than value etc.; get more than one quote for work you need to do in order to prepare the building for sale (such as environmental testing) and discuss the best option with your family. Do this way in advance of an actual sale; family can usually “sense” when the others may want out (or may need to cash in their equity). It is generally not a good idea to offer to “buy them out” unless the family dynamics are so strong that there is no doubt of fair pricing; but this is rarely possible irrespective since the active partner almost never feels they should be paying “market price” for a building they have managed for years. It is important to for all to remember that only the then-current market “makes the price” – not the owners, nor the broker, nor the appraiser, and not even the last comparable sale. We find that every 3-4 months, the market becomes different, the players change (larger buyers may have changed strategy in the product they buy ex: older vs newer assets; smaller players may have already tied up deals and are short on capital for the next year or so, etc). Only by exposing the asset to the then-active buyers can a fair price be achieved. Most families select a bid-date process, because this ensures they get the best offer; the sale process is longer, but we believe worth it the peace of mind of every partner.
Sweat / Equity
Create a clear exit structure up front. Avoid agreeing to the shot-gun clause, which is usually only beneficial for the partner with more cash (this is usually the silent partner). A good exit strategy is to agree in the original partnership agreement the property will be marketed at the end of a 5-year or 10-year loan and sold if a return reaches a certain minimum pre-determined threshold. As well, when structuring such arrangements, ensure that the sweat partner has the latitude to run the building the way they see fit since requiring the input from the silent partner adds stress and delays. For example, making a decision to spend on a major extermination is time-sensitive and may not be able to wait for agreement from the silent partner. A tenant board case may need the involvement of a lawyer and therefore incur legal fees for the partnership, etc. When preparing the building for sale, re-involve the silent partner in agreement on quotations; even though they may not have been involved in the past they may appreciate “knowing what’s going on” towards the end.
Always keep an exit strategy when setting up a partnership; and in the cases of inherited partnerships, a good practice could be to confirm keeping status quo every couple of years; this way, the non-active partners can feel involved in the decision to sell, whenever it may come.
Baron Realty specializes in matching buyers and sellers of apartment buildings. Ramona works in partnership with Mikael Kurkdjian and a team of real estate professionals to bring the best boutique-brokerage services to the apartment transactional space in Ontario and Quebec.