The Nuts and Bolts of a Real Estate Joint Venture
Most real estate investors desire to amass a significant portfolio of income generating property. These days however, mortgage qualification is becoming ever more stringent making it near impossible for the average income earner to add to their portfolio past 1 or 2 properties.
Many investors have been known to give up at this juncture and let traditional lenders dictate their destiny based on their limited risk tolerance and narrowing lending guidelines.
Conversely, many high income earners have been typically involved in stock and money market driven vehicles with a relatively small amount of real estate in their portfolios. Why? Quite simply, many lack knowledge or skill and most certainly the time to create the successful team needed to provide viable deals and the time to manage those deals effectively, but have finances and mortgage qualification ability.
The Perfect Recipe
This appears the perfect recipe for a great symbiotic relationship…or does it? Almost everyone knows of someone who had partnerships in real estate which have been created on a handshake and have been incredibly successful. However, many have heard of handshake partnerships which have ended up in disaster. Real estate is a contract driven business, but is also a people business so creating a successful partner relationships requires some forethought and planning.
Joint venturing is a great “buzz word” to throw around at parties and networking events, but just like any facet of business or real estate, you need to understand the process and want to fully protect yourself. As part of your selection process, you want to be certain the person you are joint venturing with is who they say they are, will provide what you agree upon which will produce the results you expect. Let’s break down the joint venture and outline the components which create a successful venture.
A joint venture sometimes involves two or more parties who can pool their expertise and resources in order to achieve a goal which would be difficult or impossible to achieve singularly, where the risks and rewards are equally shared.
A more common scenario is where one or more people invest in a project, contributing both finances and the mortgage qualiication ability with the intent of earning above average returns on their investment. At the centre of this project is an experienced real estate investor who finds the deals, manages the deals, and has expert teams\ members in place to make the project profitable.
A question you may ask yourself is: what expertise, skills, resources or time can you offer to the project? You may also ask: what do you lack? Realistically consider your strengths, weaknesses, time availability and financial capabilities in the self-examination.
Once you identify these specifics, you can look for someone who possesses strength in your weak areas and weakness in your strong areas who is also looking to achieve a similar goal, in this case doing a deal. Perhaps you have little experience and no time and just want to participate in real estate because you recognize real estate as historically being the best weath creator. That’s where most people are.
Once you think you have found a person or entity that is the “yin” to your “yang” or the person who is the ‘conductor’
and you have each agreed in principal to enter into a joint venture, there are a number of factors to consider regarding this other party prior to making the partnership official. Here are a few orders of due-diligence to consider before “inking” any JV contract.
1. What have their previous successes been? Have they any personal references or examples of other deals they have been involved in? If they haven’t, that’s OK…every successful person has to start somewhere. If they have done previous deals, you need to understand the deal(s), what this person contributed and what the outcome was.
2. Do they share the same level of commitment? Is doing a deal with you and seeing it through to the end sound as important to them as it is to you? If they are providing the “hands on” role, you must be secure in knowing whatever service they provide will be an asset to the progress of the project.
3. Are they financially secure? Do they have any credit issues? It may be prudent for you both to pull your individual credit bureaus and exchange them to acknowledge that each party is in good shape. That said, if one party does have credit or financial issues and is requiring a joint venture because of that reason, it should be addressed in the initial meeting.
4. What is their reputation like? Ask the potential partner for references if you don’t know the person really well. Trust is obviously a huge component to joint venturing with someone and you need to do everything necessary in order for you to be comfortable and protect your own interests. Perhaps consider having one of the initial meetings at their home and another at your home. You can derive a lot from seeing someone in their home and meeting their family. In fact, even the suggestion of doing this can be very telling.
5. In keeping with the above suggestion, do their values compliment yours? It is important to understand this as if there are opposing values uncovered during a project, then this and other aspects of the project can become most uncomfortable. Remember, you want to make money but you want to enjoy the process as well.
Overcome challenges early
Many challenges can arise if the objectives and expectations are not clear and fully laid out which is why it is key to create a business plan which outlines the strategies involved in the venture, the expected outcome, the team, financial projections, ways to measure the progress of the project and timelines.
Secondly, recognize what each party will contribute. If there is an imbalance of what is being brought to the table in terms of expertise, database or finances, this must be addressed perhaps through the negotiation of compensation splits.
Thirdly, there must be a clear understanding of management of the project. The phrase “too many cooks can spoil the broth” is never more prevalent than when working with someone who you have not worked with in a real estate deal. Some people have differing management styles and there can also be cultural differences which can catch people off guard when certain situations arise. Perhaps neither party is a great manager/leader and a third party may need to be hired. It is best to understand this upfront as it can be awkward and even expensive to remedy in the middle of the project.
Fourthly, if you are considering doing business with family or friends you should still go through many of the above processes to be sure you are not assuming anything. Murphy’s Law often comes into play in these situations (what can go wrong usually does). It is easy to let your guard down and take friends or family at face value and quite often they can misrepresent themselves. This is often where relationships are broken.
Remember; you are entering into a business relationship. When money is involved, the friend or family bond can be ignored and you can be left holding the proverbial bag. My suggestion is to be as equally stringent with your family/friend qualifications as you would a stranger.
Check out The Nuts & Bolts of a Joint Venture – Part 2, where we discuss what should be included in the joint venture contract.
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