The Capital Call Conundrum: Are You Ready to Fuel Growth or Sink Your Investment?

James:
Every real estate investor eventually faces the same version of the same problem. A deal needs more cash than expected. For an individual owner, it might be a major repair, prolonged vacancy, rising expenses, or refinance shortfalls. In a partnership or syndication, that request may arrive as a formal capital call. The structure is different, but the underlying decision is the same. Will adding more money protect a sound investment and cover the plan that no longer works? I’m James Dainard stepping into the host seat for Dave Meyer, and today I’m with my co-host, Kathy Fettke, and we’re talking about why real estate deals run short on cash, how investors should evaluate the next move, and what situation can teach us about underwriting, reserves, debts, and risk in the current market. This is on the market. Let’s get into it. Kathy, how are you doing?

Kathy:
I’m doing great. I’m excited about this topic. There’s so much to talk

James:
About. Yeah. And capital calls, I mean, to keep it kind of simple for everyone, it’s when you’re buying a property, you’re using a proforma. These are your projections on the deal, whether it’s a rental property, it could be a development deal, it could be a flip home. During those projections, you need a certain amount of capital that’s anticipated to do that deal. Now, if you’re the individual operator, like a flip, and I need more cash, I just got to bring more cash to the table or go borrow it. But when you’re in a formal partnership, like a joint venture partnership or a formal syndication, this is where the operator is asking the investors more for the capital to bring it in. And it’s always a question of, is it the right move to bring the capital in or not? And so the deal’s out of money.
It’s more than you were expecting to put into the deal and you got to write a check to keep this thing going or look at either selling the asset or just taking the loss. But it’s something that happens across the board, but we’ve been hearing a lot more about it, especially the last 12 months. There’s been a lot of different capital calls going on, especially with the floating interest rates, people’s projections, the slowing the economy. And Kathy, you’re probably one of the most experienced people that I know that has been in a lot of syndications.

Kathy:
I’m really happy to say we have never issued a capital call at Real Wealth. We haven’t done that, but I was in a deal where in the documents, and again, when it comes to a syndication, that syndication is ruled by the documents. You can’t just willy-nilly decide to change things. When you go into a deal, there’s a framework of how the money flows, basically how you get paid out, who gets paid first, and if there is a requirement for a capital call. And a lot of new investors don’t maybe read through the PPMs. They don’t know this. I’ll give you an example. We have a multifamily fund right now that has capital calls and they’re required, but people know that before they go in. The main reason is it’s a fund, so we don’t want to tie up people’s money. We don’t want to take their money till we have the deal.
So basically we’re saying you just put 5%, 10% in right now, but then over time you’re going to have to keep putting more and this is our agreement upfront. They know it. They’ve got that money maybe in a, I don’t know, a savings account where they could make money on it while they’re waiting for this, but it’s expected. I was in another deal where the document said there could be a capital call, but you’re not required, but if you don’t bring the money in, you will be diluted. Basically the new money kind of gets priority to yours. Again, I knew that going into it and sure enough, the project ran out of money and they wanted us to put more money in and I said no. And I’m telling you right now, this operator is trying to blame me because my group was one of the larger investors in this.
And so for us to not put more money in was pretty serious, but I didn’t see any reason to. I asked for an updated proforma. I asked how our new money was going to save the project. There was no answer. So this guy’s trying to sue me even though the documents make it very clear that we were not required to make that capital call and we certainly weren’t going to do it unless he could show us that it would make any difference at all. This was a construction project and I mean, it was like 10 years into the deal. It was still dirt. So it’s like, what is another 60 grand going to do? We’re not going to get there. Show me that this new money is going to get us there. And really when I asked him where’s the money going, it was going to him.
It was going to his management fees. So it was just to pay him back. I couldn’t believe it. It was so blatantly selfish. But now anyway, he has no lawsuit because the documents spell it out very clearly that we weren’t required. So that’s the first thing people need to do is look at your documents if you’re already in a deal. And what does it say about the capital call section?

James:
Well, let’s break that deal down a little bit. So developer is in a project for 10 years. I’m guessing he came to you guys to raise capital, and we’d all do that passive income. There’s many reasons of why you want to invest in deals like that. If you don’t want to take on a big development site or I invest in some syndications because I wanted to invest in different markets, but I’m not an operator in those markets. And so it allowed me to take my investments, spread it out into different assets, whether it’s development, location, and it’s a way to get a tax write off and spread your money out. Now, this developer brought you a deal. They had a proforma when you looked at that originally going, “Hey, here’s what you can invest in. If you bring in this much capital, you’ll have this much ownership and here’s the structure.” And that’s all put in, like you said, the PPM, the private placement morandum, which spells everything out.
During that time, they’re giving you a proforma, which is going to be how long is this deal going to take? How much cash does it need? What’s the anticipated profit? And as the investors, what are we anticipating to make by putting money in the deal?
Now, I’m guessing this deal wasn’t projected at 10 years.

Kathy:
I mean, literally he was supposed to break ground that year and that’s what was presented to us. And I get it. The project is in California and there’s all kinds of things that can stall your projects. And I think at one point there was a fire that came right through California. So a lot of unexpected things. So I get it. This project got delayed, costs went up dramatically and the numbers just didn’t work anymore. But when we looked at it, it just didn’t look like it was salvageable. So you have to make that decision as an investor, do we just keep pouring money into this to the point where it may or may not still get it off the ground? We may or may not get our money back. Does it make sense? And that’s the pressure that a lot of people are feeling right now.
With multifamily, we’re seeing this all over the place because a lot of those deals were underwritten, not expecting rates to go up as dramatically as they did, not expecting rents to stay stable. A lot of these were just projecting that rents would go up a certain amount every year, which is just no guarantee. So they’re in a situation where costs have gone up, income hasn’t gone up. And the way a bank looks at things is they look at the NOI, the net operating income. So what’s left over? And if it’s not enough, the bank’s not going to lend or they’re going to offer a much lower LTV, which means that the group has to bring in more money because the bank is going to be at a lower LTV than expected. So does it make sense or does it not make sense? That’s what people have to figure out.

James:
Yeah. And that’s basically the deal needs more capital to complete it or to get it where the projections were supposed to be. And on a development deal, a lot of times it is always time in building costs. If this guy bought this property 10 years ago, building costs were a lot different 10 years ago. Yes. I mean, you’re probably looking at a 35, 40% increase on your bill cost just based on time.

Kathy:
Oh yeah.

James:
And there’s debt on the property and permitting timelines in survey, and this requires more capital. Now, when you get this call back and the developer ran into some snags, they’re in a jurisdiction that’s tough, they need more money, but then we have to make a decision as the investor of do we put more money in?

Kathy:
And where’s it going? I mean, this is the first thing I said, where’s it going? Show me exactly where this money’s going. I get it. Costs have gone up. It’s delayed. Much of that was not your fault, but now give me an updated proforma with the new costs. When he finally did show us where the money was going and like I said, it was going to his management fees. We’re like, absolutely not.

James:
And that’s what we have to do as investors is let’s say we put a hundred grand in that deal and your projection in your proforma, let’s say it was 20%. That’s a smart investment for me to take as long as I go through all the steps and procedures, underwrite it, look at the documents. Fast-forward, a capital call is when the operator’s then going to say, “Hey guys, look, for us to complete the deal, we need more cash.” The steps you always want to take is to look at what is that going to make me if I got to put in another hundred grand and now the profit looks like it’s going to be 5% on the deal on the new proforma. Kathy, you wouldn’t even get a proforma. So if no one’s giving you a proforma, then definitely don’t put the money in.

Kathy:
Make sure also if you’re in a deal that you understand other ways that the operator can get money. For example, if your documents allow them to get a loan, if nobody wants to do a capital call and instead they’re going to get a private loan or private equity or what they’re calling rescue equity, rescue loan or anything like that, we’re seeing a lot of that right now. You’ve got to, again, read the documents. That is the rules of the game. The game that you signed up for, it should be spelled out very clearly of what the operator can do and what they can’t do. And if it’s not spelled out, then they can’t do it. Or if it says they can’t do it, they can’t do it. So understand your documents. And if it allows the operator or the syndicator to get a loan, there’s a very good chance that rescue loan’s going to take priority to your equity.
So if you don’t know this going into it, you might just have put more money in on a capital call only to have rescue money coming ahead of you. And so again, we’re seeing that happen a lot where people are initially a couple years ago, we’re just going to do the capital call, but rates are going to come down. Rates are going to come down. It’ll be okay. And now fast-forward a couple years, now they got to go get this rescue money that takes priority to everybody except for the main lender. You’ve got to know where you stand in the capital stack. And so many people don’t understand that oftentimes, most of the time, debt gets priority. And if your loan documents allow this, you need to know that.

James:
No. Yeah. It’s how is that operator going to bring in the cash? No matter what, they need it to do the deal. And if they’re bringing in that third party, it’s going to dilute your ownership, but sometimes that’s okay. The right call is like what you did was to not put more money in because it’s also time value of money. Can you take that money and put it somewhere else? And a lot of times, I talk about this a lot too, sometimes you just have to take it on the chin and move on. We’re going to hit pause for a quick break. More from Kathy just after this.
Welcome back to the On the Market Podcast. I’m James Dainard with Kathy Fettke. Let’s jump back in. We’re hearing a lot about this in syndication, especially right now. We’ve had market change dramatically. Interest rates shot up at the fastest rate anyone’s seen in years. And we have the economy and rents were growing at 10% at a time, and certain markets were on fire. And a lot of syndicators out there were chasing those markets because they had high rent growth, rates were really low, and they saw that these deals could be very profitable if it kept the same metrics. But as we know, they’re historically low rates, historically high rent increases, and once everything cools out, the numbers start changing. And so Kathy, what do you see on the multifamily side? I mean, a lot of deals are going to zero right now. That means the operator called capital and no one would put more money in or they couldn’t raise enough capital to keep the deal alive.
And at that point, then operators now selling off the asset and a lot of investors are getting wiped out because they have to sell it on a cap rate and the cap rate only supports a certain price. And so if you’re a multifamily investor and you’re in a syndication, I mean, what should you look at if someone is getting a capital call and whether they should put the money in or not?

Kathy:
Yeah, it’s a really, really difficult situation. In a lot of cases, what’s happening is depending on the purchase price, let’s say somebody just overpaid. There was a bubble, there was a frenzy. This always happens at the top. It almost always happens when money is cheap. So let this be the lesson for everybody. Money fluctuates. It goes up, it goes down, the cost of money. This is historical. At least in America when we have a federal reserve, when we have a system where rates go up and they go down, depending on inflation and different variables, who’s buying bonds, who’s not, there are lots of reasons why rates go up and down, but the fact of the matter is they don’t stay low forever. But when they are low, it’s a frenzy because everything’s cheaper. And when everything’s cheaper, then people are willing to pay more because if the loan is so low, 2%, you can afford to pay more for a property because the numbers still work.
Now, if you’re buying a lot of what I do and you do is single family, one to four unit, so you’re in fixed rates, so you don’t have to worry so much. If you get a 2% mortgage on a property and that’s a 30-year fixed, you’re golden. Get that all day long. You don’t care if rates go up. In fact, it’s good for you, you’re locked into this low rate. But if you’re on an adjustable rate and you are getting a super low rate, we’ve seen this time and time again, it’s going to adjust. And by the time it adjusts, it could be much higher. And this is where so many people got blindsided, mostly new investors because they haven’t been through it, but also a lot of experienced ones were somehow mistakenly thinking that they were going to stay low forever or only go up a little bit.
And if you look at averages, we’re kind of at an average. We’re at a normal rate right now. So to not think that things would sort of buoy back up to normal was just poor foresight is the best I could say. And so when rates are low, it drives prices up because people can afford to buy a higher priced property and have the numbers still work. But as soon as the rates go up and they have to refi, well, the values come down because now people can’t afford it. So in a lot of cases, these multifamily properties are 30% lower than they were in value, maybe even 40% in some areas. It’s going to take a long time for those values to go up again, and they may never. It may have just been a moment in time where it was a bubble, that bubble has burst, and you have to understand the current value of that property.
If it’s gone down 30%, why put more money into it? You’ve lost your equity. What are you going to sit around and wait for a couple decades for the values to come up? So that would be the first thing I would do is really try to understand what the current value of the property is. I mean, what would you suggest for people to understand the value of the current investment that they’re in?

James:
Well, you want to look at the current cap rates in the market and each market’s going to offer a different cap rate and what actually building you’re in. And typically right now, rates, they’re high. They’re five and a half, 6%. And so your cap rate in theory should be around five and a half to 6% or higher, really. It should be actually higher than that. And so a lot of these projections of performance, you were talking about overpaying, people were running their exit caps at four caps.

Kathy:
Oh, I know somebody who did a syndication in Houston and they bought a one cap, a one cap. And again, now a lot of people might not understand what that means, but that basically means that you think you’re going to improve this property enough that it goes up in value. A one cap means you’re getting a 1% return. I mean, there’s no room there for improvement. And especially in a place like Houston. I mean, San Francisco, that’s kind of normal to find a building like that. But Houston, no. So there was no chance of that ever going up in value. You don’t have much room when you’re at a one.

James:
Well, that’s what you want to check out for is if you get these projections, you’re invested in a deal and someone says, “Hey, look, we have a capital call. This is why. Rates went up and we need more cash to bring in to keep our balance low so we cover our debt service and get to our NOI.” Now, you want to look at those projections. So if you get the projections from your operator and it comes in at a five cap right now and go, “Well, the building’s worth this based on a five cap.” Well, I don’t believe the market’s trading at a five cap right now. And that’s what you want to do is look at what is that market trading for in today’s market? It could be a six cap, it could be a seven cap, it could be an eight cap. The higher the cap rate, it’s going to bring the pricing down and the value down.
That’s the first thing I would look at from the offering is what are they projecting this building’s worth based on what cap rate? And if they’re giving you pie in the sky cap rates that aren’t doable today, it is not a good investment.

Kathy:
And that’s why if you don’t understand it, get someone who does. There are so many commercial brokers out there that would love to just help you with that. Just take a look at your project and give you a rough estimate of what they think it’s worth. The easiest way to describe it is if you and I were to buy a single family home for $100,000 and we put $20,000 into it, you put 10 and I put 10 in, and then we finance the rest, and then values went down. Now the property is worth $80,000 and there’s no equity left.
And then you come to me and say, “Yeah, but we need to fix it. We need to pay the mortgage. We don’t have the money for the mortgage.” Well, okay, but if I give you money now, what about next year? Are we still not going to have money to pay? I mean, at what point do you walk away? Or you might come to me and say, “You know what, Kathy? I know we’ve lost our equity in this moment, but if we put another 10,000 in and add an extra room and we increase rents, we’re going to be okay. It’ll be worth it. Then we can save this and over time it will go up.” I would look at that plan and say, “Yeah, you’re right.” I’d look at the rent comps and okay, if we increase the value here, we’ll get through this difficult time and eventually the values will come back.
We paid 100,000. At some point it might be worth that again. That’s what we’re talking about here. In most cases, there’s no equity left. So you have to determine is any more money going to go into improve the property such that rents will go up or is this just trying to kick the can down the road? Are we just trying to make payments? But then what about next year? Because a lot of people, a lot of multifamily operators took the income from the rents to pay the debt. They didn’t make distributions or to execute their plan. Maybe they bought this apartment, paid way too much for it, but thought, okay, we’re going to improve it. Now, in many cases, improving it wasn’t still going to increase rents. So many of these business plans were, okay, we’re going to buy this, we’re going to improve it, and then we’re going to raise rents and everybody’s going to make a bunch of money.
But then rates went up and they could no longer make the payments, so they had to use all the money instead of improving the property just to float, just to be able to survive.

James:
Because the capital call is supposed to fix the income issue and the debt coverage issue, and that’s what you want to look at when you get your capital call. What is the money being called for and how is this money, like Kathy said, fixing the issue, not putting a bandaid on the issue because a bandaid is going to require more cash and it’s going to require more cash probably in 12 months. So you don’t want to keep feeding a deal bad money, but you also want to see, is it the right move to actually invest in it because sometimes it is. When capital calls happen is because a lot of times the bank, you got to have a certain debt coverage ratio and it’s inside your loan docs. And the bank audits a lot of multifamily or almost every property every year going, “Hey, let me see your income.
Are you covering the debt coverage?” And the reason they’re doing that is they want to protect their loan because a lot of times they’re financing at 1.25 DSCR. That’s where the NOI is at 125% of the expense. If the debt goes up, property taxes have gone up, insurance has gone up and the income has gone down, it can be detrimental to a deal.

Kathy:
Yeah, the bank wants their safety. They’re going to want more money from you. They’re going to want to see their LTV come down. And so that’s not fixable. Again, it’s a situation where are we feeding this property monthly? How long are we going to be doing this and why and how? Are we going to have to be doing these capital calls every single year? That’s the question. Show me the new proforma and show me how this is going to work.

James:
Yeah, and see where the money goes because that’s going to tell you whether it’s fixable or not. Are they cutting their expenses? There was a couple syndicators I knew they ran into issues on a deal and they did get their management fees down. They actually brought it in-house. They didn’t bring in third parties. They shaved it from 10% down to about 6%, and that was a big solution for them. They shopped out their insurance. They got their insurance down. So they’re coming up with solutions on the deal. Okay. Well, we have to bring up our income, so we got to cut our expenses. Can we cut them in a reasonable way? And are they giving you a detailed plan of how they’re cutting them and what the strategy is? And then can they create more income? Like Kathy said, are they adding units? We had a multifamily project where we did a small capital call because we wanted to add units to the building because we could spend 25 grand for something that would bring in 2,500 a month in rent.
That’s a no-brainer for us that’s going to naturally kick the deal up. So we could add four units.

Kathy:
That’s opportunity capital.

James:
That’s opportunity, but that’s the plan you want to do. You don’t want to keep feeding it. And so where we’re seeing a lot of these capital calls is just aggressive performance and people were not realistic on their projections. It’s like they were building in appreciation. They had cap rates for their value of the building that were not reasonable on a long-term basis. I mean, Kathy, you’ve been buying multifamily for a long time. How long has multi-family been trading in a three and a half cap?

Kathy:
Depends on where you are. In San Francisco, New York, that’s just how it is. But that’s big city cap rates
That you’ve got to understand the market that you’re in. And too many out-of-state investors were coming into markets they though they understood, but they clearly did not. Especially areas like, I’ll say Houston. A lot of investors went into Houston and didn’t understand that one street might perform really well and the street next door maybe has higher crime or a different kind of tenant and it’s going to be dangerous. I’ve seen so many people lose their shirts in Houston. You’ve got to know the market and you’ve got to understand, like I said, this person buying a one cap in Houston is laughable and sad for the investors who just trusted.

James:
A one cap though? I wonder what that projection, what were you going to do to. You know what? Actually, I bought a one cap on existing before, but they were vacant dilapidated buildings and they were bringing no income. You’re in

Kathy:
Seattle and you’re going to find that in Seattle, but you would make it work.

James:
But it’s a heavy lift, right? And I think if you’re buying something with that bad of income on the building, it’s because it’s gotten major problems. You have lack of income coming in, there’s serious issues with the building, and it’s okay to buy it on a one cap because it’s not painting carpet and raise rents 10%. It’s we’re rebuilding a whole new shell inside the property. And that’s really key is where’s the money going and is it adding value? And I think where people got clipped is they weren’t really adding much value. They were throwing paint and carpet in and then go, “People will just pay more for the rents on assumptions based that liquidity was loose.” Now, inflation’s high, people’s expenses are high. The first thing they want to do is cut their housing costs. People don’t want to pay premium rents, especially if they’re not getting a premium product.
Those are the things you want to look at as you get that capital call. Are they putting more improvements in? I saw one capital call recently and I was like, “Oh, that’s a big capital call.” But they switched their entire strategy. Originally, they were going to go in and do new flooring, paint, appliances, put it back to market. Now their new strategy, the reason they were calling the capital call is now they were putting in all new cabinets, upgraded countertops, upgraded amenities, new doors, new millwork. They were adding entities to now the building. So they were going with a completely different plan, but it guaranteed them that rent that they were shooting for, and it made sense for them to call. It was like an average of another 15,000 per unit at a hundred units, but the 15,000 got them to the rents that they projected that had fallen so much.
In that case, their debt was locked for another five years. It wasn’t on float, and the deal made sense to put the money in. But if you don’t know where your interest rates are going to be in the next 12 months on the deal you’re in, and you don’t know how this money is going to fix the issue by either cutting expenses or adding value, you got to bail from the deal. We’re stopping one more time for a quick break. When we return, more with Kathy Fettke.
Welcome back to the On the Market Podcast. Let’s jump back in. Kathy, you said no on the development deal. Have you ever had any other deals where you’re like, nope, this is a hard no, and this is why?

Kathy:
Yeah. Yeah. I was in another deal where it was a hard no because it was, again, development and it was COVID. And so the syndicator lent the money. The syndicator believed in the project enough and lent the money that was needed to the project, earning a 15% return, by the way. So again, read your documents to make sure you understand, can the operator do this? So he came in with the rescue capital. It was over a million, and we’re like, oh boy, he just took priority to us. But guess what? It worked. He understood the project well enough and that capital was needed, got us through that difficult time of COVID, and the project has performed incredibly well. The investors have received their return of capital, they have received their preferred return, and now it’s going into profit split. So in that case, the syndicator knew what he was doing.
He also did pretty well. He put a million dollars into the project and got a 15% return on it, but it worked.

James:
So Kathy, when you’re vetting these operators, what’s the three most important things that you’re looking for?

Kathy:
For sure, track record. Now, there’s a lot of young people or famous people who can sell stuff, right? They can raise money. You see it all the time. It’s okay to be famous, but just make sure that whoever is actually operating the deal really knows their stuff. Sometimes it’s not the front person, it’s not the face of the company. Find out who’s really underwriting this stuff and who’s operating it, what their track record is. A lot of times people will say that they have this track record, but what was their actual involvement? Did they just work for the company or were they heading it up? Were they responsible? What’s their own personal portfolio look like? Do they have deep pockets? Again, if they don’t have money, how are they going to get you through the hard times? In the case that I talked about earlier where the operator put a million dollars of his own rescue money in the deal, that saved the deal.
So make sure they have deep pockets and they can do that kind of thing and get you through difficult times if the other investors aren’t able to put up a capital call when needed. So first and foremost, track record, and I’m completely fine with somebody new and young and really good at marketing, teaming up with somebody more experienced. But when I say more experienced, they need to have at least 15 years experience because that shows they’ve been through several cycles. That’s the problem with a lot of the operators who are feeling the pain right now is they had never really gone through a down market. Now they’re experiencing it. Now they’ll be much better in the future. They’ll be more aware and experienced, but look for that person on the team who’s guiding the show, who’s really Running it and guiding it, that they have that experience.That’s number one.
Number two is to make sure you understand where you are in the capital stack. So what’s your priority? Usually the way it works is the lender has first priority, first position. We understand this. They get paid first no matter what. Second might be a short-term loan. What are their terms? Because they can foreclose too, and they’re often more expensive because they’re coming in second position. I was actually in a deal, a multifamily deal where we paid quite a lot for the property, but the business plan was to tear down that building and it was maybe a hundred units and build four to 500 new units. So kind of a riskier deal, but we brought in a very low first lien lender. It was like five, 6% loan, normal, good, and especially for a deal like that, construction. But then the second lien, the mezzanine lien was like 15%.
It can often be much higher, that second position loan. We bought the property in Mountain View next to Google for $150 million, sold it for 220 million. You’d think that all the investors were jumping for joy. Well, guess what? That second lender took most of that profit because the project took a little longer than expected, which almost is always the case, especially in construction. It almost always takes longer. So the second lien lender got a lot of money and the investors didn’t make much of the profit.

James:
You got to see where you are and whether you should keep putting money in. And there’s always going to be a projection for whatever position you’re in, whether it’s second position, if there’s someone in front of you, you need to see all those expenses and to tell you whether you should put the money in or not.

Kathy:
Yeah, because if you don’t understand who’s in front of you or who could be, because again, that’s what’s happening. I mean, this is really quite a business plan right now is a lot of rescue capital coming in. I just heard recently though that the rescue capital’s in trouble now because they came in in second position thinking that rates would come down and looking at the business plan and not understanding that it hadn’t bottomed out yet. So now a lot of the rescue funds are needing rescue.

James:
Yeah. So there was a capital call and they borrowed. And then I was seeing some operators too raising debt for their deals rather than going to an institutional.

Kathy:
I see it all the time.

James:
And they are getting swiped because – They’re getting

Kathy:
Wiped

James:
Out. That’s a very risky loan to be doing because you already had all the investors in the deal go, “We’re out. We’re a pass or a portion of them.” And then you’re coming into a second position for a high rate. But again, you have to make sure those. It comes down to those core mechanics. Is the money going to solve the problem? Are they reducing expenses, increasing income and getting you to the cap rate that you’re supposed to be at and getting you to the debt coverage that you’re supposed to be at? And if it’s not a permanent solution or it’s based on speculative rates and speculative rent growth, do not do the deal. You just have to give up at that point and move your money somewhere else or let the rescue capital come in and you might get diluted. It’s better to be diluted than to increase your bet and to be betting on the wrong

Kathy:
Thing. A lot of people think, “Well, gosh, I lost my money. I’m going to sue them.” But again, you need to read your documents. It usually explains the risk that’s involved. If there was fraud, then maybe you have something. But if it was just the market or even mismanagement, you can’t really sue for that. It’s going to be very difficult. So make sure, again, it’s your money. Get an advisor to help you. Get somebody to help make sure that you’re making good decisions. Some people like risk and that’s okay. James, we know you love risk, but you also know when you lose money, it’s like, “Oh, well, that one didn’t pan out. I’m just going to do well on the next

James:
One.” I don’t mind risk. I get a little thrill off it, but at the same time, I don’t like when I’m in a bad spot because I’ve had to do capital calls when I’ve been passive on people’s flip projects too. It didn’t have to be a big syndication where the flipper gave me all the information, we saw the projections, they couldn’t manage costs, they couldn’t run a job site. There’s kind of two options. Either I can take the property back and finish it myself or I have to invest more money with that operator. But again, it comes down to those core questions. Where’s the current budget at? Show it to me. What’s the current schedule? When’s the completion? And then what can we sell this for now and should I put more money in? And also what kind of debt do we have on the property?
Is there a guarantee on the property? Because if you’re personally guaranteed on that loan, you want to make sure you pay that loan off. And so there’s all these factors in when people get capital calls, they get emotional and they need to just step back and look at the numbers and get the right guidance. Hiring attorney to review your docs. It’s

Kathy:
Worth it.

James:
It’s

Kathy:
Worth it.

James:
It is worth every penny. What is your position? What is their authority for that capital call? Do you need to make that capital call and what happens if not? They need to properly explain that to you. A CPA, what’s the financial impact of this? Someone that knows the numbers and can give you a third party advice because you’re taking projections from the operator, they need to be verified. A CPA should walk you through those things. A financial advisor, is this the right decision? Are you putting in more money to make a 1% return whereas you should just eat and take the loss and put the money elsewhere? Time, value, money. And a broker, always talk to a broker. Is this property worth the money? And the four people are worth every penny, especially when you get that capital call. Don’t call your buddies, don’t talk to everybody.
Go, is this deal worth saving or not? And if it’s not worth saving and you can put your money elsewhere, then just do it and let the operator figure it out.

Kathy:
And finally, I know we’re running out of time. I did mention fraud and I have been hearing, and I don’t know if it’s true, but that some of these syndicators would state to the investors the purchase price of the property and the actual recorded price was much lower. So check that out. Find out if you were invested in an apartment and you were told the purchase price was a certain amount, talk to a broker and find out what the actual purchase price was because I’ve heard that there was some inflation there where the investors were told the purchase price was say 20 million, but it was actually 15 million and the operators pocketed that five million.

James:
Was it on an assignment or just

Kathy:
Straight? I don’t know. I’ve just been seeing stuff like that online and that would be fraudulent. Investors are supposed to know every detail. If I’m a syndicator and I’m also a real estate agent or broker and I’m making a fee by purchasing a property, I have to tell my investors. If I’m making any fees, if I’m taking any money at all, that has to have been disclosed in advance. The entire budget needs to be shown to investors in advance so that they know where the money’s going. If I suddenly took some of the money from a syndication and wanted to pay my own expenses with that, that would be illegal. You can’t do that. Unless I told my investors, I’m going to use this money to spend on my expenses, then I could do that. So just I would look at that and look into it because I’ve been seeing some things about that and it’s concerning to me.

James:
Yeah, everything should be disclosed. I mean really most syndications, especially multifamily, they’re standardized fees. A lot of them are very similar and that’s where if you see the random fees in there that don’t make any sense, dig in a little bit deeper. But yeah, capital calls are not fun, but it’s a part of investing. Businesses, real estate, stocks, if you’re buying a margin, you got to bring more money in. That’s a capital call, but it comes down to is it the right decision? Take those steps, hire professionals, and then go look at your original proforma and is there anything wrong there? Were they just bad assumptions or was it bad information? Those are two different things and that’s what an attorney’s going to explain to you. But I don’t think this is over. I think this is just the beginning of the capital calls.

Kathy:
Oh yeah, it’s going to be a bloodbath in the next year, which also means opportunity. Oh my gosh, we just got an insane deal. Such a good deal in multifamily because of everything we’ve been talking about. So on the flip side, even if you lost a bunch of money in past deals, look for the operators who are still standing, who are still going because wow, the deals are incredible. We’re so excited about this one finally for our fund. We have a multifamily fund and we’ve been looking for a year and haven’t been able to get anybody to come down to the price that we need it to be. We just saw it now. So I agree with you. This is all coming to roost. Just know if you lost a bunch of money on a former deal, you might make it up in the next deal where you’re buying even the same property for much, much left, maybe half, which is the deal that we’re getting now.

James:
Ooh, I love half off. Love

Kathy:
It. I love half off too.

James:
Well, Kathy, I’m excited we got to talk about this because I know that you are the queen of this and you understand this well and there’s a lot of capital calls going off. I get calls and messages on this all the time now. They’re like, “Hey, I got this.” I’m like, “Wait, what happened? What deal are you in?”

Kathy:
It just means you need more information. If you don’t know, you just need more information. If they’re not giving it to you, don’t do it.

James:
Yeah. And before you make that decision, vet that operator. Experience, experience, experience, and then get third party advice. And then who knows, you might invest in a good deal like Kathy’s at 50 cents on the dollar. No, I’m excited about that. Well, Kathy, I loved hanging with you, talking capital calls.

Kathy:
Always fun.

James:
I agree. Could be a blood bath. Get the popcorn ready and see if there’s any deals out there. And I’m sure we’ll talk about it more and I’ll see you next time on the On the Market Podcast.

Kathy:
Can’t wait.

James:
Make sure to follow the On the Market Podcast wherever you get your podcasts. And if you’re already listening, check us out on YouTube for more analysis. I’m James Dainard and I’ll see you next time.