Investors are voicing their dissatisfaction about the cost of investing in private real estate. Nearly three-quarters of institutions polled for PERE’s Perspectives 2020 Survey either agree or strongly agree that fees charged by managers are difficult to justify internally. That is up from 63 percent last year, showing a growing bone of contention in the investor-manager relationship.
Further, when asked which terms of the limited partnership agreement caused the most disagreement with managers when conducting due diligence, 49 percent of respondents cite management fees.
Investors have also become more concerned by other fees and expenses outside the management fee and carry. Such fees are usually charged at the investment or property level by vertically integrated managers – those not just focusing on asset selection and investment management, but that also provide property management services and/or brokerage services. They can fall into two categories. The first is fees associated with services from third parties or affiliates hired by a manager. The second is related to services previously carried out by the manager and charged as part of the management fee, but which are now outsourced to a third party for a fee, such as reporting or fund administration.
Investors also continue to push for better disclosure around fees. About 60 percent of investors polled say they have asked for greater fee transparency and disclosure from their managers, although this is down slightly from 65 percent in the 2019 survey.
In the US, however, regulators, and to some extent investors, have tended to be more comfortable around the fees and expenses issue since the Securities and Exchanges Commission asked real estate fund managers for greater disclosure.
“The SEC has been examining real estate managers,” says Matt Posthuma, a real estate funds partner at Ropes & Gray.
“A few years ago, they looked closely at fees and expenses issues. As a result, managers have a much more robust and wholesome disclosure about what exactly they can charge the fund for.”
Ways to increase disclosure and transparency can include detailing the property management fee in the LPA, for example. Some investors, such as New Mexico State Investment Council and California State Teachers’ Retirement System, have also increasingly hired consultants and sought external help to analyze and recalculate fees.
“My sense is that when the fees are disclosed, generally speaking investors have not had problems with it because if the investor is familiar with the real estate industry, they know that’s how it works,” Posthuma says.
“The charging of property management fees and expenses has not changed, but the disclosure has gotten more robust. Some of the fund admin and reporting fees were fees that managers were not passing through to the funds 10 years ago, and now they are. That’s become accepted.”