Investment opportunities come in many types and sizes. Technology start-ups, commodities, corporate stocks, land development speculation – all of these investments offer a different slice along the risk/return spectrum. The recent trend toward the online “crowdfunding” of investment opportunities has started to make some of these investment sectors available to investors through their laptop or tablet computer, so that a broader base of potential investors can be reached.
To date, though, most crowdfunding investment sites have focused on peer-to-peer lending opportunities or speculative start-up company investing. The lending opportunities often offer continuous interest payments, but usually revolve around making unsecured loans providing lower interest rates to borrowers than might otherwise be available on their credit cards. The speculative investments, on the other hand, typically offer no immediate cash flow at all; rather, all of an investor’s chips are placed on future appreciation of the asset. These are among the most risky types of investments, and usually only people who are closely involved with the high technology world are in a position to make educated bets on such early-stage investments.
Real estate investing offers investors a chance to “have it all” – ongoing cash flow and, with equity investments, participation in potential appreciation. Crowdfunding sites offer investors a chance to participate in rental payments from various types of real properties – hard assets that won’t disappear if (for example) a company’s product turns out to be a dud. This can occur via loans based on real estate, or equity stakes in properties that are already “up and running” – in either case, providing an investor with regular “cash on cash” returns. These recurring cash distributions can occur either through the receipt of loan payments or through “preferred” payouts on equity investments.
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In the case of loans, real estate has a distinct benefit; real estate loans are usually based on some form of collateral – a deed of trust, mortgage, or some other security arrangement — based on the underlying property. This is a clear advantage over unsecured lending (such as credit card debt), where banks or investors may initially get some assurance from a borrower’s income statements and credit scores but later (after the loan has been made) have no real recourse if a borrower defaults on the loan. The cash flow available from real estate loans is usually straightforward; it’s the interest rate payable to the investor. Generally these payments will be payable on a quarterly or even monthly basis, so that investors will enjoy relatively frequent recurring payments.
With equity investments, the cash flow derives from the “preferred return” that is typically part of the financial structure arranged by investment portals like Realty Mogul. This return, usually paid out on a quarterly basis, derives from the cash available from the net operating income of the property. The payments of this return are not as dependable as loan interest payments; the preferred return depends on the property’s actual income and expenses, and on there being sufficient distributable cash after those are accounted for. Generally, however, sponsors and investors in the project give a lot of forethought to the anticipated amounts of those revenues and costs, and the parties expect — at least at the outset — that the project will generate sufficient income to periodically pay the preferred return out to investors.
The other feature of equity investments is, of course, the chance to participate in the property’s appreciation at the time of sale. Equity investments are typically held for longer periods than loans, but with the prospect for appreciation the ultimate potential return on them can be substantially greater. Projecting this potential appreciation is difficult, but educated guesses can be made by calculating it as a multiple of the property’s expected operating income at the time of sale.
Crowdfunding as a source of financing is a growing phenomenon, but many investors are seeking an option between unsecured peer-to-peer lending opportunities (on the one hand) and speculative investments with no immediate cash flow prospect (on the other). Everyone likes when an asset appreciates, but cautious investors often place less emphasis on an asset’s anticipated future value and more on the current cash flow that it can throw off. The approach reflects a straightforward strategy; if there is strong cash flow at the outset — or the imminent possibility of it with some quick “value-add” changes — then the appreciation potential will always be there.
