Foreign CRE Investors Face Higher Risk in Down-turning Market

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U.S.-based private equity funds have more than $300 billion waiting to invest in commercial real estate. That’s a lot of money chasing quality deals, while some experts—including Bank of America/Merrill Lynch—warn that we are coming close to another recession.

What can that mean for foreign investors looking to invest in the U.S. market? Possibly higher risk, since flush domestic investors will have pushed up the price of quality investments, perhaps even above the asset’s inherent value. An investor not fully knowledgeable of the market—both locally, regionally, and nationally—may end up paying above top dollar just as a market decline hits, which could be disastrous. Foreign investors often take a much longer view in terms of the expected ROI, making them attractive partners for U.S. developers. However, given the situation, foreign investors need to be acutely aware of some of the pitfalls facing those who are willing to invest in the United States. Recent examples provide some perspective.

One Israeli investor who closed upon a parcel of land didn’t understand that commercial lenders in the U.S. were only willing to provide financing of 55 percent to 65 percent loan-to-cost with limited recourse, less than the 70 percent to 80 percent LTC available in Israel. The need to provide additional equity lead to higher costs that reduced the expectation of returns. A domestic partner would have been able to provide a clearer financing picture for the Israeli investor.

In a separate example, a Canadian investor substantially overpaid for a project based upon the expectation that additional public infrastructure would be provided. Unfortunately, the additional infrastructure did not materialize, and the investment value fell flat. The investor’s failure to understand and appreciate the local community resulted in paying too much for a product that could not provide sufficient returns to justify the investment. A savvier investor would have brought on an in-market, local partner for precisely this type of knowledge.

As these examples show, foreign investors should seriously consider looking for local partners in today’s tight investment environment.

In another example, we recently encountered a Middle Eastern investor who wasn’t interested in acquiring individual assets. Instead, it was seeking a stake in an experienced real estate property company with a track record of resilience, having sustained one or two market downturns.

The thinking for this investor was that an experienced local company would be ready to exploit opportunities that may become available if a downturn does hit. At the very least, the entity will avoid the mistake of the Israeli and Canadian investors previously mentioned by relying on the local partner to understand the financial and local landscapes.

The key for foreign investors facing well-heeled domestic rivals in a market that may be heading down: Local partners who understand the nuances of the marketplace, who can help source opportunities and can assist with moving capital at the right time.

Joseph A. Panepinto Sr. is founder and president of Panepinto Properties Inc., a real estate development and asset management firm headquartered in Jersey City, N.J.



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