The real estate community can’t seem to get enough of real estate crowdfunding; endless media coverage, conferences, and general chatter professionals. It’s all for good reason, crowdfunding is going to disrupt both the equity and debt sides of the business. I caught up with Darren Powderly, founder of CrowdStreet, a leading real estate equity crowdfunding platform. Darren is in the trenches everyday which makes him the perfect person to provide a simple overview of real estate crowdfunding today, and discuss the challenges, opportunities, and where it’s going in the future.
Take it away Darren:
What does the future hold for real estate crowdfunding?
Real estate crowdfunding has been praised as “the next big thing” in real estate investing. But, what exactly does that mean to everyday investors and sponsors/owners of real estate projects? Where will real estate crowdfunding be in five years? This blog post aims to give readers insight into where real estate crowdfunding is today and where it will be in 2020.
For those of you who have not been closely following the birth of this trend, the idea behind equity crowdfunding is to raise capital from a large number of individuals or entities to invest in a given project. Think of it as a modern twist on syndication. This method of fundraising has actually been in existence for hundreds of years. Yet thanks to the power of the internet and a federal law called the JOBS Act, which passed with broad bipartisan support, equity crowdfunding has established itself as a powerful force. Crowdfunding is accelerating across various industries including the arts, consumer products, education, healthcare, tech – and perhaps most powerfully – in real estate.
Crowdfunding is the buzz word. The simplest way to describe the process is online fundraising of a private offering. What’s revolutionary about real estate crowdfunding is that it decentralizes and democratizes the real estate investing landscape by providing equal access to investors no matter where they live or who they know. No longer do investors have to rely solely on REIT stocks and mutual funds to build their real estate portfolios. Investors can now add direct ownership in real estate equity or debt secured by real estate via crowdfunding portals to the alternative asset portion of their portfolio.
The Early Adopter Years: Business Model Risk Assessment
Is it safe to invest via online crowdfunding portals? Like a good attorney, my answer is “it depends”. First of all, not all real estate crowdfunding portals are created equal. There are dozens of “crowdfunding” portals with different business models. Some, such as CrowdStreet, are like eBay or NASDAQ and serve as online financial intermediaries between two independent parties. Other portals are akin to lenders who allow the “crowd” to invest in their loans. There also are traditional investment companies that are experimenting with the online channel to raise money for their own investment products, such as privately traded REITs.
As an investor, it’s critically important to understand the role and responsibility of the investment portal you choose. Therefore, vetting portals and sponsors is the most important step a real estate investor can make. Sponsors are those individuals or companies that are offering the investment. The sponsor is the responsible party for identifying the investment opportunity, preparing the legal documents, raising the capital, closing the deal, returning capital back to the investor, managing the project and maintaining investor relations. Investment-worthy sponsors should aim to create an alignment of interests between the investors and themselves by financially engineering the offering with an “investors first” structure and making all offering information readily available to the investor.
It is important to recognize the risks of any investment – crowdfunding included. Noteworthy risks in real estate crowdfunding include illiquidity of the investment, execution risk, investing too much in a single offering and macroeconomic downturns. My apologies for hammering the risk topic here, but I think it’s important. At the end of the day, it’s the sponsor that will protect (or not protect) the investor if something goes badly in a deal. Great care should be taken to vet the sponsor of any real estate investment offering.
The Critical Growth Years: Building a Strong & Healthy Foundation
At CrowdStreet, we strongly believe in an “investors-first” approach to the business. After all, we conceived the idea for the company in April 2012 in large part due to our own investing experiences. We were individual investors with a desire to build a diversified portfolio of real estate investments with best-in-class real estate sponsors. The only problem was that we could not write too many $250,000 checks, which are typical for private “club” real estate investments. Instead, we wanted to provide equal access to the same type of investment opportunities to a wider audience of investors who could write multiple $10,000 checks. We wanted to democratize and simplify real estate investing for the masses.
We see many potential benefits in crowdfunding for individual investors that include:
- Access to deal flow
- Transparency of information
- Real estate portfolio diversification
- Lower minimum investment amounts
- Lower transaction fees, independence
- Social proof of sponsors’ reputations
- Pre-vetting of sponsors by platforms
- Impact investing
- Community improvement
- Opportunities to “invest in what you know”
The Future: Live Long & Prosper
We are experiencing a wave of innovation in the crowdfunding space. New portals enter the space every month. Portal business models are being tested. SaaS technology is improving. Third party rating agencies are emerging. Regulatory compliance is advancing. Legal frameworks are maturing. Crowdfunding campaigns are breaking new fundraising records. And, perhaps most importantly, the American people want more freedom and independence to build an investment portfolio and grow their wealth in a simple, cost efficient way.
There is no question in my mind that real estate crowdfunding will be a prolific, global investment process by the year 2020. With the proper SEC regulatory guidance and responsible business practices of the leading portals, online fundraising for private real estate offerings will thrive and surpass today’s traditional, high-cost offline process. Every major real estate sponsor will incorporate crowdfunding into their business model. The caveat is that we may not call it “crowdfunding”. It will simply become a common method of investing. Just as Charles Schwab reinvented stock investing in the mid 1990’s by introducing online transactions, crowdfunding portals like CrowdStreet are reinventing real estate investing today.
What do you think?