Realities of a horrendous market

A growing number of large private equity real estate fund managers are aggressively competing on incentives as they fundraise in order to land a large first close quickly. Offering major discounts on fees to land a first close isn’t just something the boutique private equity real estate shops are doing; it’s a game the big firms like The Blackstone Group, Starwood Capital and Morgan Stanley Real Estate Investing are playing too. John Cahill, a partner in the real estate practice of the law firm Paul Hastings, recently spoke with PERE to discuss this growing—yet unsurprising—trend.  

PERE: Recently, there have been a number of private equity firms that have offered fee concessions for their real estate funds. It seems that it’s something not just the startups are doing, but also the big players. Why do you think that is? 

JOHN CAHILL: Capital-raising has been a little anemic over the past few years. So, fund managers have been giving an incentive of a quarter of a percentage point to 35 basis points if investors come in during the first round. I don’t think that’s unusual. In the heyday in 2006, 2007, all boutiques did it, and the big boys didn’t. Now, even the big ones are doing it. They’ll want to do it for the first round. 

PERE: How have these current concessions compared historically to real estate fund concessions?

JC: In order to get market share, boutiques always gave concessions, especially if folks put big money with them. Now, the well-established funds are doing ‘sliding scales’. Many funds are giving one-time incentives for investors coming in for first closes. In general, we’re now seeing offerings where a fund manager will put a sliding scale right in the offering memorandum, where it says right off the bat that investors that commit between $75 million and $100 million will see fees as low as a single percentage point. 

PERE: How essential are these fee breaks for a successful first and final close?

JC: Over the past four funds I’ve been involved in, each one has offered fee breaks and every manager has seen it as a success. Many investors are interested in putting their money in funds, because the money will stick. But for some reason, no investor really wants to be first. But once a reputable investor puts in a reasonable amount of money, the dam breaks and the money flows. These incentives are a way to accelerate that first close.

PERE: Do you think these aggressive incentives are the start of a major trend?  

JC: Until we see ourselves in a robust economy, yes. Private equity will be very powerful in the next three to five years. People want to put their money out and fund managers want to stay in business. But everything’s cyclical. Right now, even the big boys are offering incentives because they want to stay in business. It’s the economic realities of a horrendous financial market that we’re in.