During my sophomore year at the University of Tennessee, I took an introduction to accounting class. Accounting 201 was required coursework for all business majors.
Like most of my peers, I went into the class not knowing anything about accounting.
But accounting is just a bunch of numbers, right? I expected to spend the semester doing battle with complicated formulas and complex math.
But on that first day of class, the instructor shifted my perspective when she said:
"Accounting is not about math. The math is easy, you can do it all on a 4-function calculator. Accounting is a language. It's the language of business."
She went on to say that like any language, words and phrases have established definitions in accountingland. Success meant knowing those terms, what they mean, and when and how to apply them.
Thanks to GAAP (Generally Accepted Accounting Principles), the terminology and definitions are consistent. You should expect revenue or net income to mean the same regardless of who you talk to.
But in the world of syndications and private placements, the terminology isn't always consistent.
In fact, it's common to hear two different people use the same word or phrase to mean two totally different things.
So today I want to share three terms that are commonly confused or that I've seen have multiple meanings.
All of these relate to fees in a syndication, an area that tends to be a hotbed of confusion on its own.
Let's dive in:
💰 Promote
Leading off with the word I despise the most. Promote can generally mean one of two things:
The sponsor's back-end share of profits in the deal. Also referred to as carried interest or just carry, it's the portion of the cash flow split that goes to the sponsor. For example, in a typical 70/30 split where 70% of the profits go to the passive investors and 30% go to the sponsor, you can say the sponsor's promote is 30%. In my experience, this is the most common definition of promote.
The sponsor's front-end compensation for assembling the deal. More accurately termed an acquisition fee or capital raising fee (see more on those next), it's how the sponsor is paid for the time they spent making the deal happen. It's usually a small percentage of either the purchase price of the asset or of the total amount of investor capital raised. And unlike the sponsor's carried interest, it's a one-time fee.
If you see the word promote in a pitch deck, always double check to confirm what it actually means.
💰 Acquisition Fee / Capital Raising Fee
There's a lot of front-end work for the sponsor before a deal formally closes, and it's fair for them to be compensated for it. After all, without their efforts, there would be no deal for passive investors to invest in.
As mentioned above, these fees are similar but distinct:
Acquisition Fee: one-time compensation for the sponsor's time and effort to find and acquire a property. A typical acquisition fee is 1-3% of the asset's purchase price. So if the sponsor is purchasing a $1M property with a 2% acquisition fee, the sponsor receives $20K at closing.
Capital Raising Fee: one-time compensation for the sponsor's time and effort to raise capital from passive investors. A typical capital raising fee is 1-3% of the total capital raised from investors. This fee is more common in blind pool funds, where capital is raised before assets have been identified and acquired.
It's fairly common to see both of these fees in funds (where there are multiple assets acquired over a period of time), but extremely uncommon to see both fees in a single-asset syndication (like an apartment building). Most single-asset syndications will have one or the other, and it's almost always the acquisition fee.
But again, never assume you know what a fee is based purely on its title. I've see deals with an "acquisition fee" that was calculated on the capital raised and not purchase price. Neither way is right or wrong, you should understand where the fee is coming from.
💰 Asset Management Fee
This is the sponsor's compensation for the strategic management of the property or fund.
It's an ongoing fee that includes tasks like:
Financial reporting
Handling investor relations
Overseeing property managers
Managing property performance
Business plan execution (e.g., renovations)
Making strategic decisions about refinancing or selling the property
A typical AM fee is 1-3% of either rental revenue or total capital raised. This differs among sponsors and deals, so it's important to know the fee's exact basis for any deal you're evaluating.
(And remember, like all fees, this is paid from cash flow of the deal itself. You won't be "billed" for a syndication fee.)
The asset management fee is not a property management fee. The property management fee is paid to an (usually) external property management company for the day-to-day operational management of the property. They handle things like leasing, rent collection, and property maintenance/repairs on behalf of the sponsor and investors.
The Bottom Line
When you're evaluating any investment opportunity, make sure you understand the fees involved and their impacts to your potential returns.
If the sponsor is vague or unclear in their fees, ask for clarification. And don't assume that just because you know Sponsor A calculated a fee a certain way, that Sponsor B will calculate it identically.
Unlike in accounting, it's possible Sponsor B is talking about something entirely different.