Just want to share a few other considerations that I’ve seen other investors used in screening Sponsors. Here are just my personal thoughts with respect to some of them:
Some investors order check on all principals (or members of the executive team), essentially the big cheeses that run the show, regardless of what titles they give themselves. The checks could reveal criminal records, bankruptcies, foreclosure, DUI, etc. The background check databases aren’t perfect and only get at things that went to court not disputes or matters settled outside (e.g. most governing/operating documents on private placements I have come across have provision that require LPs to settle disputes with Sponsor through mediation then binding arbitration, both of which are non-court processed). You also need to make sure you are looking up the right persons (as there could be 10 people with the same exact names) and go to Sponsors for clarification in case of false positives. So be prepared to more leg works. Perhaps the mere mentioning of conducting background check would cause some Sponsor to fess up on things its trying to hide?!? Worth a try but don’t equate “clean” record to integrity.
Investor Relations (“IRs”) and marketing materials
I used to prize good IRs but not at the expense of the Sponsor delivering returns. Don’t get me wrong, I value them greatly but I’ve learnt to live with lesser ones to the extent the Sponsors meet or exceed expectation on the returns department and are willing to respond to my inquiry when probed. I prefer to have both from a Sponsor but when push comes to shove, return wins. ALWAYS. Sure my eyeballs are bedazzled by the pretty graphics, charts, maps and logos in well laid-out presentation but the more rational side of me prevails (or at least try) to remind me to focus on the merits of the investments. I don’t mean to discount presentation that are well-done and well dislosed but after all it’s a marketing tool. Marketing doesn’t necessarily correlate to value or return so see it for what it is.
However, Sponsors’ willingness to respond to questions can also give some clue if you want to work with them and their level of transparency. I don’t mean to ask basic questions that one can easily glean from materials that are already made available or ask for the sake of asking. Investors should be sensitive to the fact that Sponsors are bombarded with questions from other investors, lender and deal parties all at the same time as they are working to close so do your homework and respect everyone’s time. But the Sponsors I want to do business with are those tell me “ask as many questions as I want”. I was once asked by a Sponsor to “sit out” on a deal because “it’s not a good fit for me” after I asked it to clarify whether the preferred returns were cumulative or non-cumulative as they were inconsistently described between the Operating Agreement and the PPM. If a Sponsor is unwilling to address a simple legitimate question from an prospective investor is going to hand over money for it to control, the least it can do is to answer instead of dodge. There shouldn’t be discrepancy in the first place on such key terms but I am willing to overlook that if the Sponsor is at least willing to clarify. If it isn’t, than I seriously doubt its transparency on other fronts. I am happy to take my money elsewhere! Next!
Invest in larger offering or with bigger Sponsors
It’s a lot harder to deliver outsized return at larger deal size. For instance, it’s probably a lot harder to find value-add efficiencies that would move the needle on a $50M offering than a $5M offering. The higher the market cap goes, a Sponsor would be facing off with a different tier of competition whose investors’ return hurdles and cost of capital are a lot less. I would rather have a Sponsor that stayed small to mid-sized as opposed to grow at my/investors expense. If I want mid single-digit returns, I know other options that offer better risk profile and better liquidity than having my money locked up for years.
I’ve heard some investors will do on-site or surprise visit of every Sponsor before investing to catch them off guard to see if they are organized or not. If I happen to have a trip that goes to where the Sponsor is, sure I can make a beeline over but otherwise I haven’t gone out of my way to “drop by”, either scheduled or unannounced because I don’t know if it’s worth the time and expense. There’s the chance that the Sponsors are out-of-office on due diligence trips or inspecting portfolio properties or tied up on conference calls. I would be a bit weary if a Sponsor can spend a good chuck of time with me if I just show up at the door. Does it not have better things to do? I guess it depends on if you are investing a meaningful amount, and definition of that varies from person to person. If it makes you sleep better at night, go ahead and schedule it. But I don’t see visiting Sponsor’s office is essential telling a good Sponsor from a bad one.
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