You can’t buy real estate with at least some cash for a down-payment. But what do you do when you exhaust your personal money yet still find deals to buy and need a source of the capital to get the job done? In this Self-Storage University podcast we’re going to explore the different types of capital partners and what their benefits and disadvantages are.
Episode 88: The Different Types Of Capital Partners Transcript
So you're looking at buying a self-storage facility. You've had X number of dollars in the bank. You find one that costs more than your budget will allow, and suddenly you're faced with finding some type of capital partner. Or perhaps instead, you already bought a self storage facility and you wiped out all the money you have for a down payment. But now you've come upon a second one, the deal looks really, really attractive, but you don't have the money for the down payment. Once again, you're thrust into looking for a capital partner. But which capital partner? How does that system work? Which one would be the right one for you? This is Frank Rolfe, the Self-Storage University podcast. We're gonna talk about capital partners, how that works, what works, what doesn't work, the whole thing from A to Z. So let's start off with friends and family.
Now, what are friends and family? Friends and family are people that you know, they're close associates to you. And what's good about them as a base of potential capital partners is they already know you and trust you. So you don't have that hurdle of trying to explain to someone, oh yeah, I know what I'm doing. Here's my background. They already know your background. So there's a huge shortcut to the whole learning process. And also they often want to help you because they've already bonded with you. Bonded means basically people who like you and believe in you and want to help you, even though it's maybe not the best thing for them, even economically, they'll still do it because they want you to succeed. And so this is a group that really wants to help you. They really want to be your backbone. And because of that, they're not as focused on the return of capital.
So what the issue is now, they will not press you as much to follow up with, Hey, how's it going? Is my money safe? What's going on? And additionally, they may allow you to get by with a lower amount of preferred return. That's the return you give people as a return on their money. So that's favorable. But the problem with friends and family of course is, if things don't go according to plan, you're gonna be racked with guilt because they trusted you, they know you, they're your friends. So if you don't do a great job, then you're gonna be very, very unhappy. 'cause you'll feel like you let all these people down. So that's kind of the plus, the minus of friends and family. Well, then you have another group, and that's like-minded individuals. These are not people you're related to, not personal friends of yours, but instead people who all are thinking the same thing they're thinking they want to invest in self-storage.
And the good part of this group is they understand the risk because unlike friends and family who really didn't know much about the industry, these are people who do, they've studied it, they understand it, and they inherently know what could happen if they invest in it. And also because they know what they're doing, their opinions can be very helpful to you to decide on certain deals, whether to go forward or not, because they're gonna throw out their opinions. And their opinions are pretty good opinions, unlike their friends and family who don't really know anything about the business at all. Now, at the bad side of though is that they want market levels of return because they are sophisticated. So they're gonna say, okay, well I understand the risks inherent in self storage, and for me to put my money in, I've gotta get a return level of X because that's what you would get if you went to any other form of sophisticated investor.
So they're gonna be a little more demanding of the terms. And also they're going to be more concerned about power and how the power is held and whether you make the decisions or may make the decisions or effectively how they can get rid of you if they don't like your decisions. So the good side of like-minded individuals are that they're not friends and family. So they're much more familiar with the risk and the potential downside. And they're much smarter about the industry because they actually care and have learned about it. So they have really good opinions on it. But the flip side is they're a little more demanding than friends and family would ever be. And then you have a third type of investor, which are the passive investor who's just in it for the money. They know nothing about the business at all, no interest in the business at all.
They simply are gonna put their money in because they want a certain high rate of return. And that's it. And the problem is that obviously, number one, they don't know you. There's no bonding with you. They don't really care about you in the least. All they care about is how much money is gonna go to them. So it's all about me, me, me. And that's how that part of the industry works is that's, that's the way it is structured. It's all about them and their return. Also, they have no understanding at all of the business. Zero. They know nothing about self-storage. They don't know how it works. They don't know how it rents or what the costs are or anything. So basically you have people who don't have any clue as to how the business works or what the risks in the business are at all. They also want even higher rates of return than like-minded individuals because again, this is nothing but them wanting to maximize their money. They don't care about the industry, they don't care about you. It's just all about the money. Since it's all about the money, they're gonna demand the highest return that's possibly out there. You know, if you look at CD rates right now, for example, if you notice banks are all different. Some... One bank has a CD rate of 3.75. The next one is 4.5, the next one is 5.5.
And yet you may get the CD at some bank because you like the banker, you've always gone there or they're in your community and you wanna support your community and you're willing to forego not hitting the highest yield, but the highly sophisticated passive investor, they just want the highest yield period. There's no other attribute that matters to them rather than the highest possible number. And finally, they can drive you nuts because this group, because they don't know you or know the industry, and yet they're probably gonna put in larger amounts, they're gonna be obsessed with trying to understand where they stand. Are they doing okay? Are you doing okay? Are they gonna get their money back? What's going on as far as their regular preferred return on the money? So those are basically your three main tranches of getting investor capital. Now, of those three, which is the most attractive?
Well, you can't just say one is the most attractive over the others. If you're trying to raise vast sums, if you think that you've got a $100 million opportunity, you're probably gonna start a Reg D 506 under the Jobs Act. That's the common way most people harness that type of fundraising today, you can look it up on the internet. So to the jobs act, J-O-B-S, it's called a Reg D 506. And then there's different designations of that. There's a B fund and a C fund. And the C fund allows you to advertise unless they've changed it. But as a result, you can only have a certain number of Under-credited investors. You need to study up on all this. Don't just jump into it, read up about it. You'll definitely need to get an attorney to write the documents and to give you even further information on it. But if you're looking for a really, really big raise, well that's probably the best way to do it.
If you're looking to not raise as much capital, but still a significant amount, you're probably gonna be looking more towards like-minded individuals. Now you need to learn up on how many people you can have in a partnership and at what point the partnership segues into needing to be a Reg D. So you need to understand all those laws. You can't just go out and find a bunch of like-minded individuals and say, Hey, let's get together you and you and these 90 people who all want to invest in storage. You gotta legally understand what the requirements are on that because there are limits of how many people you can have in a partnership like that. So you gotta get that figured out. And then if you're looking for a much smaller raise, you know, friends and family may just be fine and dandy. Of all the groups I've mentioned easily, friends and family are the happiest, friends and family are the most fun because it's all people that you know and you care about.
And it makes it more fun when you do great things because these are people that you will see and will pat you on the back 'till the end of time. The bottom line to it all is if you find something that outstrips your capital, don't just give up. Don't just say, well, I can't buy that. I got no more money, because that's not necessarily the truth. You may still have access to money from other people and if you've got a really, really good deal and the numbers make a whole lot of sense, there are lots of investors out there who are trying to find things to invest in that do well. If you had not noticed. America is a very troubled place today. Most of our conventional investment options are no longer working. Look at the stock market it's... For this whole year now it's negative territory. It isn't at anything, the last five years average is only like about five or 6% per year. There's a lot of people who wanna earn more than that. They wanna get 10%, 15, 20%. And if you can help them achieve that, you'll be a hero. This is Frank Rolfe, the Self Storage University podcast. Hope you enjoyed this. Talk to you again soon.