Please find below the extended version of my new column "Cover Your Assets" in the Journal of Property Management.
When Silent Partners Attack!
Upfront Tales From a Partnership Guru
By: Nicholas A. Dunlap, CPM
“Of course you know it all, that’s why I do it professionally and you do it passively!”
It can be trying to say the least. And for some reason, it just doesn’t happen this way in other fields. Can you imagine: a Surgeon in the middle of an operation when all of a sudden, a banker walks in with a briefcase and a cup of coffee, sits down, opens his briefcase and begins to correct the Surgeon on his procedures and practices? Oblivious to the specifics of human anatomy, the Banker begins to instruct the surgeon on the precision of the incisions, tissue repair and ultimately the stitches to be made. Then, almost as abruptly as he had appeared in the operating room, the banker slams shut his briefcase and exits.
The scenario depicted above seems strange if not unrealistic. And that’s because it is. Oddly enough, when roles are reversed it is not uncommon for a Banker to be interrupted by a Surgeon and advised as to the financial outlook or prospectus of an investment. For real estate financiers or general partners in group investments, this meddling can in some unfortunate cases be par for the course.
I’ll Drive, You Follow
Mind you, there is a big difference between watching closely at home and becoming a backseat driver. It is important to review and highly scrutinize the financial documentation that corresponds to any of your investments. Email or telephone provide great avenues of communication between limited or silent partners and the general partner of a group investment. These questions include or typically involve operational or financial concerns about a particular asset or the tidying up of personal matters such as estate planning.
But then, some people just don’t get it. A partnership agreement should clearly list the duties, responsibilities and authority of the general partner to act on the partnership’s behalf with regard to the day-to-day management duties, including their ability to approve expenditures of a certain dollar amount and ultimately prepare and approve a budget to further the advancement of the property. It is equally important for the general and limited partners to understand and respect this agreement. Violating the agreement for the general partner could result in lawsuits or unnecessary headaches. Unfortunately, there is no such recourse for the general partner against nuisance silent partners.
The Heir Unaware
Your partner, yes, the one whose sole goal in life was to save his money, invest in commercial real estate and live off of the cash flow. Well, he died and left his interest in the properties you own together to two sets of children: his own children and his step-children. Of course, they’re not children now, they’re grown adults. Unfortunately for you, your silent partner was also silent when it came to explaining to the kids who gets what. Just add attorneys to the equation and you now have the makings of a bad, made-for-TV courtroom drama. So after you sit through depositions and hours of questioning from both sets of children, you are more than acquainted with your new equity partners. And even though market values are down, they want to sell so they can buy a time share, a vacation house, jet skis and a new BMW or maybe because they heard real estate wasn’t a good investment. Fortunately for you, your Partnership Agreement clearly spells out your authority and actually protects the heirs from themselves. As per the Agreement, the General Partner (you) must agree to sell the property or be bought out at market rate. And if they had the money they would have bought the toys already, so it looks like they are stuck with the property for the time being.
Whether they realize it or not, your new partners will one day thank you. It can be difficult to rationalize the thoughts of the uniformed or unaware, but it is times like this that your expertise and counsel is even more necessary. Do not let sibling rivalry become a partnership nightmare. Working through the irrational or maybe even emotional decisions that people can make can be done through establishing a rapport, keeping your cool and presenting timely facts on the market. Remember, just because they have an opinion does not mean they understand why. These people inherited their interest and may or may not have an understanding of real estate as an investment. Help them understand why they should or should not keep this property as part of their portfolio.
Cast a Wide Net or Filter With Care?
It is important for the general partner to consider the prospective clients previous investment experiences, current goals and strategies to help ascertain whether or not they will be the right fit for a particular partnership. Someone looking to receive supplemental income through cash flow generated by a property will be less interested in speculating or repositioning and should be made aware of the proposed plans ahead of their investment.
Of course, when both the sponsor or general partner and limited partners are on the same page, not only is the investment platform streamlined for the passive investor or limited/silent partner, it also enables the general partner to focus on maximizing the true value of the subject asset as well as locating additional investment opportunities. As with any business, the potential to market one’s experiences and successes can be appealing; however it is important to realize that in casting a wider marketing net, the general partner will often find it difficult to maintain the same relationship with each individual investor and can encounter issues not previously experienced with investors well known to the general partner. Thus, one must determine whether a bigger client base is in fact more important or more fitting than perhaps a smaller, perhaps more well-groomed investor pool.
Real Estate is a relationship based business and relationships are built on trust. The ability to underwrite and acquire a successful investment can in some instances prove easier than establishing and maintaining these relationships. Protect yourself as the general partner by truly knowing your partners and their interests, having solid written agreements in place and most importantly, by remembering that you are the expert! Use your knowledge and experience to counsel and advise, even if it means receiving bad advice in return. Just like the Surgeon to the Banker, we all know when to listen and when to act like it.
You can view a cleaned up version of the article online in the Journal of Property Management by clicking here: http://www.jpm-digital.org/jpm/20120304#pg28