The Strategic Use of Preferred Equity in Private Real Estate Deals: Key Insights and Benefits

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Key Takeaways

• Preferred equity presents investors a means to obtain priority returns and extra safeguards in private real estate transactions, thus providing a commendable alternative for risk-averse investors.
• Preferred equity allows sponsors to fill gaps or augment project capital, enabling more flexibility in deal structures.
• Doing this can help bridge interests between investors and sponsors, as preferred equity holders often have fixed returns first, before common equity investors.
• Investors should still beware of deal terms and potential risks, including limited upside and the risk that payments are delayed if the property performs poorly.
• Preferred equity can serve as a valuable instrument for broadening real estate portfolios with an added dimension of safety and stable returns.
• Knowing the nuances of preferred equity will allow you to make the right investment decisions in global real estate markets.

Strategically deploying preferred equity in private real estate deals is to insert a layer of capital between common equity and debt.

Preferred equity offers investors fixed returns, typically carrying less risk than common shares.

Real estate sponsors utilize this to plug funding holes or mitigate risk for lead investors.

Most deals utilize preferred equity for more flexible terms and faster closes.

The following sections explain where and why this operates in reality.

Conclusion

Preferred equity gives real estate pros an additional avenue for filling holes in deals. It’s great for buyers who want to maintain control and for supporters who want robust returns. Real estate groups use it to attract new capital, negotiate better terms, and stabilize risk. Deals use it for large projects or periods with scarce loans. Some use it for speedier deals, others to expand with less leverage. Every group has its own use. To extract more from your next transaction, consider how preferred equity aligns with your objectives. Look at the terms, the risk, the upside. Contact a reliable real estate consultant or participate in discussions with your peers to find out more.

Frequently Asked Questions

What is preferred equity in private real estate deals?

Preferred equity is a middle investment class between debt and common equity. They get priority over common equity holders for returns, but not after any debt holders.

How does preferred equity benefit real estate investors?

Preferred equity provides investors a defined return and payment priority. This mitigates risk relative to common equity and provides more upside potential than debt.

When is preferred equity strategically used in real estate transactions?

Preferred equity is typically used when loans don’t fill the full funding requirement. It fills financing voids and sustains property purchases or rehabs.

What risks are associated with preferred equity investments?

Risks involve possible loss if the project underperforms and limited control over management decisions. Preferred equity holders are more protected than common equity investors.

How is preferred equity different from mezzanine debt?

Preferred equity holders typically have no recourse if the borrower defaults, whereas mezzanine lenders can have foreclosure rights. Both fill funding holes but have different legal rights.

Who typically invests in preferred equity for real estate?

Institutional investors, private equity funds, and high-net-worth individuals are among those that typically invest in preferred equity. They want a little bit of the higher return and lower risk than common-equity.

What are the typical returns for preferred equity investors?

Returns differ, but preferred equity investors typically seek somewhere in the 8% to 12% annual range. The actual rate will vary by property, market, and deal structure.