Doubleshot Interview: Augusta Funds Management's Mark Francis explains how property syndication works and why its different from mortgage securitisation and finance companies

Doubleshot Interview: Augusta Funds Management's Mark Francis explains how property syndication works and why its different from mortgage securitisation and finance companies

By Bernard Hickey

Augusta Funds Management Managing Director Mark Francis came into our offices this week to talk about property syndication and Augusta's latest syndication.

I asked him in the video above and here to explain how property syndication works and why it's different from mortgage securitisation or investing with finance companies.

Augusta and Bayleys are currently offering 87 units in a 'Big Box' retail warehouse style building at 14 Birch Avenue in Tauranga that is tenanted for the next 9 years to the Carters Building Depot chain, which is owned by Graeme Hart's Carter Hold Harvey.

Francis explained how Augusta arranges for investors to group together to buy the building (in this case for NZ$6.6 million, including NZ$2.7 million of bank debt) in chunks of at least NZ$50,000 each. The property has a lease to Carters for 13 years from April 2008 and has rights of renewal for two periods of six years each after that. Rent increases of 3% a year are locked in for each of the next 5 years.

This is the 17th such syndication organised and managed by Augusta Funds Management, which is owned by Mark and his brother Chris, who also an executive director. Auckland-based Augusta manages over NZ$270 million worth of commercial properties, which typically carry bank debt of around 40-50% and offer pre-tax returns of 9-10% to unit investors.

"It's a mechanism that allows smaller investors a vehicle to get into large scale commercial property," Francis said.

Previous deals included 587 Great South Rd (leased to APN with a pre-tax return of 10% and a 50% gearing or loan), 8 Airpark Drive in Auckland (leased to Bendon with a 10% pre-tax return and 50% gearing), Countdown Fraser Cove in Tauranga (leased to Woolworths with a pre-tax return of 9%) and Countdown Westgate in Auckland (leased to Woolworths with a pre-tax return of 8.5%). Augusta tended to focus on industrial or bulk retail 'big box' properties with big name tenants. It had stayed away from typical office buildings.

Gearing or borrowing levels had dropped from around 50% before the Global Financial crisis to typically around 35-40% now, he said.

Augusta itself is charging a NZ$250,000 +GST fee to the investors in the 87 units in the Carters Tauranga site once the deal is done, plus an annual management fee of NZ$35,000 + GST from the second year. The offer statement for the syndication (attached here) states the total establishment costs are NZ$440,420, which includes audit, legal, accounting, valuation and brokerage fees. Augusta is projecting investment returns (after fees) of NZ$4,500 per year for each NZ$50,000 unit, which represents a cash return net of fees (but before tax) of 9%.

Syndications different

Francis said property syndications are different from investments in finance companies in that the unit holder owns a stake in the title of the building, rather than a debenture. It is an equity stake in a property, rather than a 'secured debenture' or bond with a claim over a first, second or third mortgage.

He said, as with any leveraged property investment, there was a risk the value of the property fell, reducing the equity held by unit holders.

"At the end of the day, syndication is an investment in property. Your number one risk is tenant risk, and that has the biggest potential to impact your overall value," he said. "It's an investment in real estate. It's not a bond."

"We use some conservative debt (levels). At 35-40% and with a tenant covenant like Carter Holt and with 9 years remaining, and with some growth built in along the way, that's a picture I'm really comfortable with in terms of how we see the valuation playing out," he said.

Francis said property syndications were completely different to mortgage securitisations, which have been blamed for the collapse of the US housing market and the onset of the Global Financial Crisis.

"Securitisations or finance companies are essentially an investor lending money to a finance company to onlend for whatever use, we don't know. Your security is a debenture and history has shown us that is not worth a hell of a lot," he said.

"Property syndicates simulate direct ownership of an individual buying a building. If you put money into a syndicate you are buying a building. You're buying land, you're buying buildings and you're buying a tenant paying you rent," he said.

"Unlike buying into a listed property trust, with syndicates that's all you're buying. It's a single asset. You're not going to be tapped on the shoulder later for a rights issue to buy another building."

Francis added that interest rates were hedged for 3 to 5 years and the management fees were locked. "Other than that, there's not a lot that can occur, while the property is tenanted."

Fees, liquidity and regulation

Francis said the estabilishment fee from Augusta for such syndications was typically around 3% of the value of the asset, which was in line with a commercial real estate agent's fee. Ongoing management fees were around 0.3%, which was around half what the listed sector charged.

Investors wanting to exit their unit could use the secondary market that Augusta ran for its 2,000 investors. Augusta has reported NZ$11.4 million worth of units had traded on its secondary market over the three years ended March 2011.

Francis said most of the secondary market trading of units was at the original 'par' price paid for the units, with some trading above and a few below par.

Property syndicators operate under the Securities Act regulated by the Financial Markets Authority. They operate under an exemption notice which means that each building syndicated needed to include a registered valuation and an offeror's document, but did not have to include 5 years of past results or 5 years of financial forecasts. The syndication must also be sold through an agent such as Bayleys for the exemption to occur.

For example, the full offeror statement (the offer closes on March 30) for the Carters Tauranga syndication is here while the full valuation is here. The offeror statement includes details from the building's Land Information Memorandum (LIM), which included notes that an internal office and two mezzanine floors did not have building consents and that council flood modelling indicated a possible risk of flooding in a storm, although there was no record of prior flooding issues.

More details on Augusta are here on its website.

Augusta Funds Management is transferring its business into the NZX-listed Kermadec Property Fund Ltd.

A shareholder vote is due to be held next Wednesday March 14 on the plan, which involves the internalisation of the management of Kermadec, which will be 17.8% owned by Mark and Chris Francis.

 

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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A dumb question , but why would anyone want to buy into a single tenanted commercial building with a  9% yield , ( with no secondary market to get out of the investment ) when you can buy into a good quality NZX listed portfolio?  (like Goodman Property Trust yielding 15% plus capital growth) 
The Goodman share price in $1,02 each with a pre-tax dividend of 18cents.
AND
What hedging mechanism exists to protec investors from wild interest rate fluctuations, which are almost inevitable , given the very long term non tradeable nature of the investment ?
And
The fee structure at $35,000 per year, (to collect 12 cheques and do 12 inspections)  paid to a related party,  is starting make our failed  Finance Companies look like saints and angels .
And
Which related entity/ party  is going to be doing the building  maintainance , and is there a retainer being paid out of a maintenance proviision sum ?
As an Insolvency Practittioner , I have seen some spectacular failures of property syndications , and like Finance Companies these syndications  need more regulation and governance oversight 
Dont say you weren't warned 
(Edited for legal reasons/bh)

Boatman
FYI Augusta says it runs a secondary market and has handled sales of over NZ$11 mln over the last three years.
And I'm not suggesting any arrangement on the insurance. You can read the full offeror's statement and/or contact Augusta to find that out.
All the details about related parties should disclosed in the offerors statement. You read it?
Here's the link.
http://www.interest.co.nz/sites/default/files/Offerors%20Statement%20Car...
I take your point on syndication failures. I'm trying to provide as much information as possible, and to be fair to Augusta, they have fronted up to explain there latest offer. They've done a bunch of them that are running as planned as far as I know. 
cheers
Bernard

Is Kevin Podmore involved with Augusta. If he is please ask when shareholders of Irongate will get a letter from somebody telling us what is happening?

Kevin Podmore has nothing to do with Augusta now or in the past.

 

People have been confused in the past because Podmore used to have a private investment vehicle named Auguste Ltd that is not connected to Augusta Funds Management.

Boatman,
Thanks for your comments. In response:
Goodman Property Trust is currently yielding 9% pre-tax and about 6.3% after tax. This is around average for the NZ listed property sector. None of the listed property trusts are yielding anywhere near 15%. 
We hedge all debt arrangements within our syndicates using a mixture of interest rate swaps to spread the future interest rate risk. 
The annual mgt fee of $35,000 is paid to us to do a lot more than collect 12 cheques. Our mgt duties include - arranging bank funding, arranging insurance, arranging building compliance, regular property inspections, arranging repairs and maintenance, maintaining a relationship with the tenants, serving rent reviews, renewals etc, arranging property valuations, investor relations duties including the payment of montly distributions to our investors and sending quarterly proeprty upadates. The annual mgt fee is more of a cost recovery exercise as opposed to a profit centre for us. 
There are no related parties carrying out any services for our properties. 
The offeror's statements which we provide to investors when establishing a new syndicate are a substantial document prepared in accordance with the Securities Act, and offer significant disclosure. 
I trust this answers your queries. 
Regards,
The Augusta team. 

Run as fast as you can in the other direction....Greek govt bonds would be safer!

That is a cheap drive-by smear Wolly. Patently untrue. Sure, we have found occasional issues with some of these in the 1990s, but there is just no evidence at present for what you imply. Some will be better than others. Investment involves risk, which you should research and understand. As always, investors need to use products that are suitable for their own circumstance.
Please keep the unresearched trash-talk to a minimum.

Cheap advice yes ...look what I found....
"Critics of syndication said financially literate people would run a mile from schemes. Only the promoters were keen, said one cynic.
Bosses of two businesses managing properties worth more than $2 billion raised questions about the syndication model.
Rob Lang of AMP Office Trust has been one of syndication's more outspoken opponents, questioning why investors were even remotely interested in these vehicles which usually had only one tenant and a solo asset when listed property trusts were paying high dividends.
"I thought those syndicates had had their day," Lang said, referring to the difficult history of the Waltus and Urbus property syndicates.
The syndicates now being widely promoted were only paying around 10 per cent, yet listed property trusts were yielding 11, 12 or 13 per cent.
Paul Duffy runs one of the country's largest property funds, managing assets valued at $900 million plus. Formerly Dominion Funds, his DNZ Property Group has now shunned syndication in favour of listing shares in its funds on the unlisted market.
Duffy said the business had deliberately moved away from the syndication model more than five years ago because:".....readers can look up the 'because' if they wish.
http://www.nzherald.co.nz/property/news/article.cfm?c_id=8&objectid=10569144

Wolly
Listed property trusts obviously compete with syndicates...and they have their own difficult track record.
A whole bunch are now internalising their managements because of concerns over extraction of fees.
cheers
Bernard

Thank you Bernard, yes they too have a poor track record and doubtless they all take pot shots at each other. So if I offended anyone...I apologise but....I would rather err on the side of extreme caution, especially considering the billions lost and or stolen from so many over the last decade...in many cases causing the early deaths of many...
Moms and pops should stay well clear IMO.
 

Securitization has been given a bad name , thanks to the antics of the Yank banks .....
 
.... a leetle tightening up of the lending rules is all that is needed , to re-balance the equation such that lending to non-finance industries  becomes as profitable to the lenders as creating exotic derivatives based upon house & credit card debts ....
 
 

Dear Mr. Chaston.
I find it amusing that after all this time you are, here, telling Wolly to "keep the unresearched trash-talk to a minimum".
A "cheap  drive-by smear"?
What is different about these comments to all the comments he has been putting on your site these last few years?
Why do you only now say something?
In my opinion one of the reasons so many in the finance industry think this site is full of nutters is exactly because you allow people like wolly free reign on it.
Seems to me you don't mind his sillyness when it suits you.
 

That's a cheap drive by smear Your Landlord...why don't you put some effort into countering arguments or is that too much for you to consider...?

Hello Wolly.
It was Mr. Chaston who described your comments as "unresearched trash-talk" and a "cheap drive-by smear".
I am pointing out to him that you do this often and asking why is he, on this occasion, telling you off for it. 
Please don't pick on me when Mr. Chaston is the one making the comments about you. Direct your comments to Mr. Chaston.
 
 

David – I think to be more sceptical/ critical and not just reporting what our government ministers and so called professionals publish, would be far more necessary from www.interest.co.nz – then criticising one of the best contributors here.
I also miss active participation of authors, especially when commenter’s write interesting articles or during a good debate. The blog is vibrant and alive, because of independent and fresh comments of bloggers, not because of stats and adaptability.

David....there is a lot of trash talk in here, true, just look at what most so called professional economists and Pollies are saying for the biggest land infill. They are blinkered....and dont want to see.....
Going anywhere near property is to me a huge no no at present, its simply hugely over-valued.......like 75%...and from what I can see syndication is highly illiquid?....and I personally think going any where near any "professional manager" is asking to get burned....NZ is very much buyer beware....you only have to look at the finance company sector and financial advisors too see how that can go......
regards
 

Thanks for the repsonse Bernard . There was no slight intended , and you do an excellent job of keeping everyone informed as to whats up in terms of trends , etc.
I had printed and read the 44 page Prospectus before commenting  , which gives a fairly comprehensive picture , but  for the life of me I could not get the arithmetic to add up to a clean ongoing yield of 9% after the first year , thats assuming there is no movement in borrowing costs, and no unforseen costs that dont get passed through, and factoring in a 3% escalation. 
The reality about syndications is that they are only for really sophisticated investors who know and understand the many pitfalls. The gearing risk is the biggest threat to these investments.
I am always startled by the levels of fees and commissions taken by promoters of these schemes. Its  similar to the excessive fees that Listed propety entities management Companies have had so much bad/ negative press about 

"The reality about syndications is that they are only for really sophisticated investors who know and understand the many pitfalls. The gearing risk is the biggest threat to these investments."
an excellent judgement Boatman....well said. Moms and pops are usually not sophisticated investors...