How to Evaluate a Real Estate Track Record

“Past performance does not guarantee future results” is seared into every track record distributed for all investments. This phrase is so omnipresent in the investment community that it loses its effectiveness as a disclaimer. With this statement ever true, what good is a track record if an investor can't look to the past to evaluate the future?

A track record is a starting point to begin a conversation with a manager. Next time you are reviewing a track record, instead of focusing 99% of your time on returns and responding, “these guys are good” or “this firm is terrible”, change your emphasis to these areas:

Completeness of information

Using a real estate track record as an example, one should see multiple columns detailing items like property name, address, unit count, purchase price, sale price, IRR, equity multiple, CAPEX spend, occupancy at purchase and sale, NOI at purchase and sale, going in and exit cap rates.

The more information the manager voluntarily provides up front, the more confidence an investor should have in a manager.

History

Ask managers if all of their deals are on their track record. Although not always nefarious, some managers will have different business lines and strategies.

Look for any irregular time gaps between deals, a short track record without an explanation of why it is not longer, a simplified track listing deal names and returns only without other basic deal information, or hypothetical full cycle returns for assets still owned by the operator.

If a manager is unable to communicate effectively when he is trying to sell you a product, how is he going to communicate with you after he has your committed funds?

Bad deals are not red strikes / Great deals are not green flags

Would you rather fly on a plane with a pilot who has been through severe weather and had some rough flights or the new pilot with a crisp, new uniform issued by the academy?

The concept is the same with managers. A manager who battled through tough deals and survived has the wisdom and experience to fare better in similar situations in the future.

When talking with a manager, focus on at least three deals: Their best, worst, and at least one in the middle of the pack. Ask what went well on the worst deal, and what went poor on their best deal. Ask why their middle-performing investment performed the way it did. Look for the manager to take responsibility for their mistakes or place blame on external events.

This is not an inquisition. You are trying to understand how the manager perceives risk and opportunity. Believing in a manager’s experience is the crux of any investment.

Battle wounds are to be expected

No one is perfect. If a manager has been around long enough, they have had at least one loss. Maybe it is a loss on a single asset in a fund or a loss at a previous firm. Claims of “never having lost investor money” are often another way of saying “never realized a loss of investor money”, “losses are embedded in SPVs and overcome by good deals in other SPVs”, or “we had a couple of bad deals which we didn’t record on the track record because [insert manager’s reason]”.

Investors should always ask if there are any deals which are not included in a track record.

Tenure of manager

A gray-haired manager with a track record only going back a couple of years should produce questions to the effect of: What were you doing before you started building this track record? Maybe the manager was at a different firm and branched out to start his own shop. Did the manager run his own firm which imploded in fire and brimstone, causing him to launch his new firm with a clean slate? Use the track record as a reason to further understand the manager’s background and test his ability to execute on future business plans.

Recognizing Style Drift

Look for any type of drift away from the original investments. It is to be expected that managers expand their footprint for geography and deal size, but this growth should be gradual and not dramatic.

A manager who excels in one asset class does not guarantee the magic touch in any other class, similar to how Michael Jordan was an outstanding basketball player, but was a mediocre baseball player. Look for managers who become the masters of the asset class.

Valuation

Ask the manager how they value their assets. We covered valuation methods in depth in this white paper. The ideal answer is to use a fair-market valuation technique instead of holding properties at cost with an audit to support the valuation.

Many alternative vehicles are highly illiquid, making quarterly, or even annual, valuations impractical for effective valuation, so the valuation chosen by the manager should be the most accurate method used by other peers in the same asset class.

Pay particular attention to unrealized returns. How were these calculated? Does the underlying asset performance support the unrealized returns, or is the manager using idealized modeling to show unrealistic unrealized returns? What is the ratio of unrealized investments to realized investments?

Summary

A strong track record should show potential investors the manager’s experience across the asset class, deal size, and business plan. This story ultimately gives the investor the knowledge to make an informed decision on the likelihood of a manager executing the proposed strategy or project.

A track record should not be viewed as a report card. It should be viewed as a roadmap for additional investor due diligence. Returns matter, but understanding how those returns were generated, and how managers responded when investments underperformed, often provides greater insight into future decision-making than the numbers themselves.

The best managers are not those who have perfect track records. The best managers are the ones who have exhibited sound judgment across multiple market cycles in their asset class.

Past performance does not predict future returns, but past performance can demonstrate a manager’s likely ability to execute future deals.

Important Information

This article is provided solely for educational and informational purposes. The views expressed reflect general observations regarding investment analysis, private markets, real estate investing, valuation methodologies, underwriting practices, due diligence considerations, and fund structures.

The information presented is not intended as investment advice or a recommendation regarding any specific investment, manager, property, fund, security, or strategy. Readers should conduct their own independent due diligence and consult their professional advisors before making investment decisions.

Investments in private funds and alternative investments involve substantial risks and are not suitable for all investors. Such investments are generally illiquid, may involve leverage, may have limited transparency, may be difficult to value, and may result in the partial or complete loss of invested capital.

Certain statements contained herein may constitute forward-looking statements. These statements reflect current assumptions and expectations regarding future events and market conditions.

Actual results may differ materially from those expressed or implied due to changes in economic conditions, capital markets, interest rates, tenant demand, property performance, financing availability, governmental actions, and other factors beyond the control of Valoran Capital Management.