On this webinar, Origin Co-CEOs Michael Episcope and David Scherer share plans for the opening of Origin QOZ Fund II. The two discuss what made Origin QOZ Fund I so successful, review the second Fund’s strategy, projects in the deal pipeline, and answer questions from attendees.
Webinar: New QOZ Fund II, Transcript:
Welcome, everybody. Thank you for attending the Origin QOZ Fund II webinar. I’m Michael Episcope. I’m here with David Scherer. And we are your co-CEOs and co-Founders of Origin Investments. This is our first QOZ II Fund webinar. This is the launch webinar.
And today we are going to go over the details of QOZ law, tell you a bit about Origin and why we are uniquely qualified to execute this Fund. We’re going to go over an exciting, Fund pipeline. Talk about the Fund details and attempt to answer all of your questions.
The webinar will be around one hour in length. David and I will spend roughly about 40 minutes on the presentation. We’ll try to keep that and then we’ll open it up for Q&A for about 20 minutes. The webinar will be emailed to everyone who registered.
So don’t worry if you have to drop off during the webinar at all. Today, we have more than 600 people attending this webinar. So that’s really exciting. A lot of interest in Origin and QOZ investing. If you are an existing investor.
Welcome back. If you are new to Origin, welcome. Thank you also for the questions submitted in advance. They really help us tailor the presentation. And we’re going to try to answer almost all of those questions throughout the presentation.
We try to anticipate what those questions could be, but we also sometimes get curveballs along the way. And we want to make sure that you get what you want out of this presentation. Let me get one detail out of the way before we start, because this is one of the most frequently asked questions, and it’s when will the Fund open? And we know that a lot of people out there have expiring gains, and we want to make sure that you’re able to invest those in a timely manner. We are on track to open this fund for investment the week of October 18th, could be the 20th, could be the 19th. We want to give our team a little bit of flexibility. Everybody is working hard to make that happen. If your gains expire before October 18th, if you are on that much of a timeline, please reach out to somebody in Investor Relations and we might be able to accommodate you sooner than that.
I’m going to spend about five minutes giving you a brief background about origin. And this is really for the benefit of new investors, I think, if you been here for many years, you’ve probably heard a lot of these things. It doesn’t hurt to have a refresher either. We’ve been around for about 14 years, the company was started by David and me. We were the first two investors in the beginning. I like to describe it as more like a family office we wanted to grow our own capital, produce income.
We both came from previous careers, high net worth individuals. And in 2007, the world looked very different. There weren’t nearly as many opportunities as there are today. There weren’t webinars. There weren’t these online investment forums to go share ideas and investing opportunities. And candidly, there just there weren’t a lot of great options at that time. So, we decided to build Origin as a means to invest our own capital. And I know that there’s probably a lot of business owners on the webinar today, and they can resonate with that and relate to it, because you build a business, because you fundamentally believe you’re solving a problem in the market. And the idea for us was to build an institutional quality platform for individual investors like ourselves, because what we found out there was that the market was really a barbell.
And on the one hand, you had institutional platforms that were built for large checks for 30, 40, 50 million dollars. And on the other hand, you had retail platforms and they were built more for the retail investors but were very fee heavy because individual investors don’t have the same negotiating power as somebody who comes with a large check. And so, it’s really that notion that we want to take the best from the institutional world, the fees, the purchasing power, the team, everything that goes into that, but geared towards the individual investor. And that’s really what has guided us from day one.
And David and I would say we have a unique position of viewing the world as both an investor and an investment manager. And it’s a big reason for our success because we built Funds. We want to invest in, and we approve deals. We want our own money. And we sit on both sides of the table constantly. And in the beginning, that resonated with our investment partners. And our first Fund was 30 investors. And those were very tight knit friends, family in that Fund. Fund II grew to 65 and then Fund III, grew to 450. We’ve had a tremendous amount of growth today. We serve more than 2,000, excuse me, investment partners across our seven funds that we have opened. And they include individuals, high net worth, ultra-high net worth, and family offices. And today our fastest growing segment is in the RIA space. We have more than three dozen RIAs who come to us for their real estate needs across our different products, whether that’s yield or growth or tax efficiency, the QOZ Fund as well.
We’re extremely proud of our results that we’ve been able to generate over this time period. We are ranked as a Top Decile Fund Manager by Preqin. That is a third-party rating agency. And this ranking is really because of our consistency across multiple Funds, not because we hit one or two out of the park, but we’re ranked as a top decile because all of our Funds have either fallen in the top decile or top quartile. And so, when we think about our performance, we not only look at it on an absolute basis, we’re trying to achieve a multiple and creating wealth and high IRRs. But more importantly, against our peer benchmark. And that’s what that rating represents, as a top decile Fund.
They look at us against our peers for vintages, strategy, et cetera. We’ve generated a 2.2 multiple on invested equity. 28% gross IRR across our realized opportunities. And I use gross in this, because that’s actually the right way to measure your IRR, because these are all opportunities that happen underneath the Fund and the fees happen at the Fund level. Our Funds though, are the ones that are being ranked, not our individual deals. That just happens to be the success of our individual deals. Now, I will caveat these historical returns by saying we don’t underwrite to these returns or market those returns on the front end and never have, and certainly for those of you who’ve been with us for many years, you know this when we miss on our return forecast, we almost always miss to the upside because that’s how we want to be wrong. And we’re going to market what we believe is realistic and then do everything in our power to outperform those projections.
One metric that we’re super proud of, we’ve never had a loss in any deal in any of our funds. So, we’ve lived the #1 rule of investing, which is don’t lose money. And that’s not by accident either. Risk management is at the core of our business. It’s at the core of my DNA. It’s at the core of David’s DNA from day one. This is what we considered ourselves as risk managers. And we use moderate leverage. We don’t guarantee loans. We buy high quality real estate. We underwrite conservatively. And we’ve sort of used this recipe over the years as a winning formula. And it’s what we will continue to do going forward. My point of telling you this is when you are evaluating different opportunities, the least important metric is forecasted returns, the track record, team, strategy, risk management, those variables are far more important, and I believe Origin shines in all of these areas. I also believe that one of the driving forces behind our success is how aligned we are with our investment partners, and our team.
And I alluded to this in the beginning. David and I have invested 60 million dollars of personal capital across our seven Funds, something that we’re proud of. But we also said that we built Funds we want to invest in, and then we do. And that’s a significant amount on a personal level. We’ve obviously been rewarded for those investments. And I’m also proud to say that we’re still the largest investors at Origin And alignment matters because it impacts every decision we make.
And I think the biggest decision it impacts that was really how we should go the firm. And early on, David and I both realized that hiring talented people is the key to finding and executing great deals, which is the crux of any investment firm out there. So, none of this would be possible without our team. And I know many of them are listening today from various offices around the country. So, thank you for listening. We have 32 team members. Most of them are here in Chicago. This is where we’re headquartered. We also have offices in Charlotte, Nashville, Dallas and Phoenix. And those offices are occupied by our deal sourcing professionals, which gives us that local presence in all of our markets, because real estate is still block by block.
It’s relationship driven and it’s important to have people in their markets. So, our team is truly the heart of Origin. And what makes it all happen. And for those of you listening today. Thank you very much. Slide three, let me let me jump into now kind of the details of QOZ investing.
For most of you, you’re probably very familiar with this law. But I have to go into this because I know there’s a lot of new investors as well. What is it? Well, quite simply, there are more than 8,700 qualified opportunity zones across the country, and these are areas that have been identified as generally low to moderate income census tracts based off the 2010 census. Though in each state, though, the governor has some discretion in painting some lines. And these lines can be drawn. And sometimes you might see a QOZ area and scratch your head and you don’t really understand why it’s a QOZ area.
And those are exactly the areas we’re looking for. Why this program was created was simply because they wanted to get money to flow into these neighborhoods. It was a jobs program that was created out of the 2017 Jobs Act, and it was really about getting money from the wealthy and going into the neighborhoods that needed it the most. The history of this is really part of the new market housing tax credits, it’s been around in one form or another for a long time, but this is the latest iteration. But again, I don’t want to give you the impression that these are blighted neighborhoods.
There are certainly a lot of blighted neighborhoods in QOZ areas. But where we are investing, these are transitioning neighborhoods in growth cities. And if you think about it, most cities in in the Sunbelt have changed drastically since 2010.
When you look at places like Nashville, like Denver, they’re unrecognizable today compared to where they were in 2010. And that’s where we’re looking and we’re investing in those up-and-coming neighborhoods. So, what money qualifies to invest in QOZ?
Well, quite simply, capital gains, and it can be from any source, it can be from stocks, bonds, real estate, cryptocurrency, and it doesn’t matter if it’s short or long term. Now, I could spend an hour on taxes. I’m not a tax expert.
We’ve certainly had webinars in the past where we’ve spent a tremendous amount of time on this. But if you want more information, you can actually ask for those webinars from somebody in IR and they will send you that as well.
Non-capital gain money can invest in the Fund, but it does not reap any of the QOZ benefits. We get this question a lot. And so, I just want to cover that here. Zero benefits from non-QOZ money. Now, another important element of the qualified opportunity zone investing program and the capital gains is that you have 180 days from the realization of the capital gain to put it to work in a Qualified Opportunity Zone Fund to receive the tax benefits. If you don’t and your gains expire, there’s really nothing you can do. However, if your gains are from partner, from a partnership, an LLC, K1 gains, it’s not as straightforward.
There are multiple periods by which you can invest. The first is from when you realize the gains, you can invest those gains within 180 days. But candidly, a lot of people don’t know when they’re in a partnership what those gains are, when they happen.
So, they’ve also made a rule that it’s there’s a lot of rules, but it’s 180 days from the tax year as well. So, you know, 12/31 is actually a very, very important date because this is the date it’s considered.
180 days from the end of the partnership tax year. And so, if you have gains in 2021 that you believe expired, but they’re from a partnership, chances are that on 12/31/2021 of this year you can still invest those and you can invest those for the next six months. So, there are some nuances around this. Again, I’m not a tax expert. It’s a really important date. And I’ll tell you why in a second, because it has to do with the step-up in basis. Now, another question that we got that I want to answer here is that does the capital need to be invested or does it just need to be committed? It absolutely needs to be invested in. The nice thing about our Fund is that when you are ready to invest, we can take 100% of your capital at one time. So, it’s not a called capital Fund.
You’re investing 100% all at once. And another nuance that you should understand about this Fund and really all QOZ opportunities is that these are ground-up development projects, because the program requires the developer to make what I call substantial improvements, meaning they have to put in more than 50% of the base rate, double the basis of the property after they buy it. So almost everything in Qualified Opportunity Zones is going to be ground-up development. And that makes sense because you’re not really creating jobs. You just go and buy an existing property.
And this is a jobs creation program. So here are the three benefits that are important. Now, the first one is you get a tax deferral. So, let’s say you have a capital gain of a million dollars, and you invested today.
Well, generally, you would be paying that gain in 2022. Oops. Sorry, my camera went off for a second. You would be paying that gain in 2022. Now you don’t have to recognize that gain until tax year 2026 payable in 2027.
So, you can view this like a low interest loan, a zero-interest loan from the government for the next four to five years. That’s the first benefit. The second benefit is that you get a tax reduction or what’s called a step up in basis. Now, you only get it if you invest funds in 2021, that step-up in basis is going away in 2022. So, the last day that you can invest and get that 10% step-up in basis is on 12/31.
And the tax reduction here, the 10% step-up in basis is important because if you believe the taxes are going up in the future, and that’s likely, this 10% step-up in basis mitigates some of that tax increase, because if you have a million-dollar gain, you’re only going to be recognizing 900,000 dollars in 2026. The last thing, and this is the greatest benefit of the program is tax forgiveness. So, if you are in the program for 10 years + 1 day, in the Fund for 10 years + 1 day, you will pay 0 capital gains on whatever your gain is.
And that’s the most powerful part of the program. And the way we’ve designed our Fund is you have optionality. If you want to get out in 10 years + 1 day, you can if you want to stay in 20 years, 30 years for the program and reap the benefits, you can until the end of the program as well, because we know that some people, everybody has different time horizons, and some people are investing for the next generation. They don’t want to get out of something that’s just going to grow tax-free forever. So, we’ve designed the Fund with some flexibility.
And one of the really cool things about this program is that you still get the benefit of depreciation and tax-free refinancing program. So, all of the reasons that you would invest in real estate in the first place, none of that stripped out.
So, what I wanted to say, 12/31 is that that’s sort of magical date by if you have capital gains this year through a partnership, you can invest those on that last day 12/31, because it’s 180 days from the end of the partnership tax year. Please consult with your tax consultant as well on these items. But that is going to be a very busy day for us. It has in the past. And this step-up in basis has been reduced from 15% to 10% as well.
You know, we’ve done the math on this as well. And I know a lot of people are concerned about rising taxes. And even in the face of rising taxes, the math works out to be incredibly favorable. Investors are, first of all, getting a tax-free loan for 4 or 5 or 6 years.
You’re only paying taxes in 2027 that you would have to pay really today. And the gains are tax-free. So, the after-tax wealth created by investing capital gains in QOZ is about 75% greater than in a non-QOZ investment.
And here’s what I tell people all the time. If you have capital gains and you want to invest in real estate, right, tail never wags the dog. You have to want both. Right? There’s no better place to be than in a QOZ Fund. But it doesn’t make sense if you want if you have capital gains and you want to be in real estate to pay your taxes and then invest in real estate, because the wealth that you will create through qualified opportunities zone investing, is just so much greater.
My partner David coined the term, this is business as usual for Origin. So, love that one. But QOZ II is a repeat of QOZ I, and QOZ I follows the same strategy we’ve been executing for the last 10 years. We’ve always been investing in transitional neighborhoods. This is where we believe the greatest opportunities lie.
We want to be where the cities are growing, not where they’ve grown necessarily. And you see changing neighborhoods all the time, and it’s where we’ve had the most success. And when we originally decided to go into QOZs, this goes all the way back to 2017 when we were kind of researching the law and looking at it.
And then in the QOZ, in really 2018, when we got serious about it, well, we were deploying capital for our 3rd value-add fund. And when we really started researching it, because we approached this in in a skeptical way, look, this isn’t where we invest, et cetera, et cetera, but it turns out that it is where we invest. And it happened that several deals in Fund III were actually in qualified opportunity zones. These were transitioning neighborhoods in cities that we knew, we understood. And the challenge was that we weren’t getting the tax benefits because Fund III wasn’t a QOZ Fund.
So, it made all the sense in the world for us to be launching a QOZ Fund. Also, when you combine it with the fact that our entire capital base is made up of taxable investors. So, it was an easy decision.
So, we launched QOZ Fund I in ’19. We raised 265 million dollars in total. We closed that Fund out about a month and a half ago. That Fund, when all when all the money is deployed, will have 11 investments, you know, in around 9 cities.
And you can see those cities on the page, Colorado Springs, Nashville, Houston. So, a lot of great cities. And I’m sharing Fund I with you, because a lot of people wanted us to compare and contrast with Fund I. They’ll be identical in the make-up. They’ll be identical in the strategy. We’re looking at the same markets. We’re looking at the same projects. The terms are the same. The fees are the same. So, this is just a carbon copy.
But I will say that Fund II investors, they benefit greatly from our Fund I activities, because our team has spent the last 3 years building a pipeline of opportunities and we’ve been incredibly prolific in the QOZ space.
Our Fund I actually ranks in the top 2% of Funds in the QOZ space. And I think if you go back to when this was announced, there were a lot of companies who came out and announced 300-million-dollar funds, 500-million-dollar funds, 1-billion-dollar funds.
We actually didn’t have a target on our Fund because we weren’t sure how big the opportunity set was at that time. And those Funds have since come and gone. And there have been very few that have actually succeeded in this market today.
And we are one of them because we’ve taken our time and been very disciplined. And now, with all the competitors sort of leaving the market, we have our pick of new deals. So, this next bond will be 300 million dollars in total size.
And we will be raising capital between October 18th and all the way through the end of 2023. So, it’s the sooner of the end of 2023 or when we hit the cap as well. So, I’m really excited about this Fund.
Dave is going to go over the pipeline deal and a few slides. And I think that really brings to life how much how much effort, you know, in stride we’ve made towards making this next Fund successful as well.
In terms of alignment, because he brought it up, it’s really important, Michael and I and our Fund II and III investors, we’re realizing a lot of assets this year and they’ve been very good returns.
And so, we’re going to be redeploying those capital gains because importantly, that’s what you can invest in QOZ into QOZ Fund II. And we’re super excited about partnering with those investors in QOZ Fund II, obviously I believe Michael, you and I invested 9 million in QOZ Fund I, if I recall correctly. I’m going to add a couple of things before I jump in. The first is Michael mentioned our team. I also want to give a shout out to our team. It’s not just that there are best in class team, but just to give you an example, when you’re vetting any manager, at the end of the day, there are other options other than origin as well. One of the things, Michael, I would recommend you do. Take a look at how long the team has been together, especially the most critical elements of the team.
Michael and I are important to Origin, but so are our senior leaders. So, our acquisition officers here averaged 7 years in those positions. Our head of accounting, our controller has been here 12 years, our general counsel 7 years, our head of investment management, Marc Turner, 7 years.
This is really important because, you know, Michael mentioned we’re a Top Decile Manager. We’re actually the top 2% manager. We say decile because we always tend to be conservative. But we’ve beaten 98% of the real estate managers, but with that team.
And so, if we had a lot of turnover. That would be a red flag. And I would encourage you to do that level of diligence on Origin, but also other firms as well in terms of Fund I, II and III, in particular, Funds II and III, as well as the IncomePlus Fund.
Michael mentioned this will be our 7th Fund and our 2nd QOZ Fund. But what I’m driving at is we have a tremendous amount of development experience. Even before QOZ Fund I we invested in Origin’s Growth Fund II, Growth Fund III.
We’ve done a tremendous amount of investment in our IncomePlus Fund and sidecars. And that’s important for two reasons. One, we’ve achieved an 18% IRR and 2.0 multiple over 5 on average in those deals. So, we’ve proven on over a billion dollars of development that we’re able to do the things that we’re talking about doing. And the other reason it’s important, and Michael mentioned this is the way that you become really the first call, whether you’re a land seller or joint venture partner, is by being in your markets, living in your markets and being active in your markets.
And all that activity has resulted in what we have now, which is a really prolific deal pipeline. I’ll say one more thing in terms of a QOZ investment. We’re diversified investment, as you saw on Fund I, as well, an investment fund, it will be similar. We’re diversified geographically, but we’re only in one asset class multifamily. That’s all we do. That’s all we buy. It’s all we own. That’s all we developed. That’s all we managed. That’s all we think about.
And so, at every phase in this development, you have 32 people who are solely focused there. A lot of diversified QOZ funds will be multi-strategy. And so, they’ll have you in office, multi, industrial. It’s not necessarily better or worse, but it’s just something to think about.
Do you want your manager to be solely focused or do you want them to be a generalist? All right. We’re going to move to the slides and I’m going to move quickly because I do want to leave 15 minutes for questions.
Ground-up development, when you think about ground-up development, as I mentioned, we have a tremendous amount of experience there throughout the last 10 years. But ground-up development really is it’s an exercise in risk management and margins. And so, what I’m driving at here is we generally are trying to build to anywhere from a high 20s to high 30s margin on our development.
And you’ll see that our cash flow analysis in a few slides. But everything we’re doing starts with defensible inputs in terms of starting rents, building costs, cap rates on exit refinance rates. And the level of our activity allows us to be really good at understanding every unit of those costs being defensible, which then segues into when you have a core asset, when it’s built; how much and why are you getting and that’s a function of revenue and obviously the expense ratios, which when you do it as much as we do it, you know, we own just under 10,000 units.
We have thousands in development. We’re underwriting hundreds of deals a year even to sort of the deal level. You get to that that space of understanding things very deeply. And I think there is an advantage to focusing. In terms of path to growth, we made this decision 8 years ago to move from a model where everyone was housed in Chicago. So, our regional model and Michael mentioned the offices, but I’ll do it again. We have an office in Charlotte. We have an office in Atlanta, that is investment management only. We have an office in Nashville, Dallas and Denver.
And so, all of those offices serve as the strategy, which is firs, regional. And the regional needs, we want to follow population flows, and the population flows are driven really by two things, quality of life and cost of living.
And so, what we’ve seen is people leaving the Northeast and Midwest and California into what I would call the smile, which sort of starts in the southeast states, then through Texas and winds up in the southwest. We made that strategic decision years ago and invested in these offices, which then built the relationships and the deal pipeline.
We’ve proven to be right, but I don’t think that it’s close to over. I think those population trends will continue to move in that direction. I’m driven by lower state income taxes, quality living, and importantly, the more people that move to these super regional cities, I’ll name a few Austin or Charlotte or Denver or Phoenix.
The more those cities can compete with your sort of gateway cities. So, the spread in cultural offerings, for example, or sports or, you know, universities or connectivity, meaning transportation, those they were quite large 20 years ago, but they’re not so large anymore in Charlotte and Denver.
You know, they both just finished laying light rail all over the city. So, if you used to think that New York and Chicago an edge there, I would actually say that they have a deficit because those light rails are brand new.
They’re beautiful. The Chicago light rail is quite antiquated. So, we like to first select cities, then we move to some markets. And so, in every city we’re in, there’s really only an investable third of the city that we really want to understand block by block, building by building.
And then, of course, with QOZ, we have to overlay the QOZ map, because there’s only certain parts of cities that fall in a QOZ map and those have to intersect where we want to with this build-to-core, as mentioned before.
But if you if you’re envisioning what QOZ investment is, it’s development. And I think Origin is well-positioned to find and execute and deliver the margin in that phase. And then in year 4, sort of 4 to 5, it segues into a core-asset, because I’m sure that you have to hold it for 10 years now.
It’s completely built. It’s completely rented up. It has cash flow. We refinance it and now we’re running it as a core asset. And that’s what’s interesting about QOZ, is you have two investment profiles, a development period where we know we’re looking at high teens, even 20s IRRs, and then it moves into sort of that 8 to 10, maybe 12% range, depending on market appreciation in the years 5 or 10. The total of which were target IRRs of 10 to 12%, that’s on a net basis. In other words, deliverable to you after all these.
And then in terms of the target net multiple of 2.25 to 2.50x multiple, I’ll define multiple. For those that don’t understand that concept, it just means that if you’re invest a million dollars, you’ll get back 2.25 million to 2.5 million after the 10-year-old.
And of course, the tax benefits, which Michael mentioned before, that’s not factored into any of these returns. That’s simply the return itself. If you think about what I said initially, we’ve averaged 2.0x multiple over 5 years on the developments we’ve done.
That’s over a billion in development. So, I’m pretty confident in our ability to deliver a 2.25 to 2.5, because we have 5 more years of appreciation and a lot of cash flow. So, I believe that’s a very achievable goal.
Boots on the ground are really important. This is a geographic map of where this fund will invest and importantly where QOZ did invest and where we’re investing in our other Funds right now. There’s incredible synergy between our QOZ Funds and our IncomePlus Fund I.
And we’re going to also be launching a market-rate development Fund because we have preferred partners and preferred brokers. People really understand that all of these cities and so markets were hit. But we’re a very active player, that we’re an educated player, that we are an honest player.
We deliver to the market a lot of value. So, the regional presence of being able to execute quickly really helps. I’ll give you an example to sort of jump ahead to an anecdote that actually isn’t on our deal pipeline, but it’s becoming likely that there will be in this Fund.
We represented a deal in Atlanta about a month ago. And Michael and I were down with Mark Turner and Dave Welk, Tuesday in Atlanta to tour this deal, and their investing style right now. This would wind up being at least 150 million, maybe 200 million of development that would go into this Fund and QOZ. I can’t mention much of the specifics because it’s still being marketed. But the reason that we were able to move so quickly is because they’ve well, actually underwrote this deal for QOZ I, 2 years ago.
And what’s happened since is the neighborhood is gentrified incredibly and rents & comps are supporting the level of this deal in a way that maybe wasn’t 2 years ago. So, it shows our patience. We didn’t do it for a while, but we know this site.
We know this neighborhood; Dave has been covering Atlanta for over 7 years from our regional office in Charlotte. We’ve done thousands of units in Atlanta. So, we’re very well, you know, both those developments. Core, core-plus, value-add.
It’s just gives you an example of our competitive advantage and how we can responsibly and as a risk manager, still be agile. And that’s an incredible advantage over our competition. The last thing I’ll touch on is proprietary machine learning that we’ve developed over the last 18 to 24 months.
We have two data scientists that are working here to essentially what they do is. When you have experience in real estate, you develop a feel of what value is and where growth will be. Michael mentioned, we really like to invest in the growth submarkets that exist.
But what the AI can do is use data in this case, we have 3.5 billion unique data pieces that go into a model, and without us having any input, it’s unbiased, it will corroborate or not corroborate what we think.
And it’s not a decision maker for us. It’s a tool. And most of the time, it agrees with our field, but sometimes it doesn’t. And if it doesn’t, it warrants more research and deeper dive. So, I’ll give you an example if you believe the neighborhood’s going to gentrify.
Wouldn’t it be useful to look at the neighborhoods around it, because typically you go to the gentrifying neighborhood because it’s cheaper and lower cost than the slightly better neighborhood next door. And so, you’re going to want to see the slope of growth increasing not only in the gentrifying neighborhood.
And when I say growth, ultimately, I’m talking about rent growth. But rent growth starts with people. People drive growth, drive demand. And so, there’s data that’s public and private. That’s predictive. So, if people are moving into the area, demand was increasing, wouldn’t there be more cell phone use when there would be more move-ins?
All of these things are measurable. And so that’s where I mean unique data, it’s a combination of public data that we have from our own portfolio that we have from licensed providers, and then data that you can actually purchase.
And so, we’re super excited about this. We’ll probably do a webinar solely on our own machine learning, because it’s something that we use for this Fund, but also all of our Funds at this point. Next slide, please. I mentioned the life cycle of QOZ investment, which is a juxtaposition of a development period and a core asset hold period. And so, when you look at this cash flow analysis, we get this question a lot while we’re developing and there’s no cash flow. And so that’s years 1, 2, 3. And then at about 2 or 3 and a half, 4 that’s when you can expect the first cash flow, 20 to 25%. And that comes through a refinance. And typically, we refinance the construction loan with a 65% loan-to-value based on a stabilized asset. And that that’s that assumption coming out of that period.
You’ll have an annual cash flow from operations at 6 to 7 percent, which amounts to about another 40% over the next 5 or 6 years of that whole. And so, once we get to year 10, you should have 60 to 65%, possibly 70% of your money return.
And then, of course, the rest of the return comes on sale when you’re selling the asset and realizing the last 35% of your equity plus gain at that point, if you have any questions about that, we get that a lot.
I could go into a deeper analysis of that. But that’s the art to expect. If you want to be an investment, the cash flows, they want development. Can’t do that. And this is a development fund. Next slide, please.
I’m really excited about our deal pipeline. I’m going to start with the Nashville Mixed-Use. I can’t give addresses or a tremendous amount of data on this because some of these are going through entitlements and we’re still not completely public.
I will say that the Nashville Mixed-Use site, you see it is an area Nashville, that it’s actually not gentrifying. It’s already probably the best area of the whole city. Nashville’s an interesting city because, as Michael mentioned, all QOZ maps are based on the 2010 census and 2010 Nashville didn’t have downtown apartments at all. They literally have built up over the last 11 or 12 years. And so, these areas actually qualified as QOZ. Subsequent to that, they’ve changed a lot of this site, in my opinion, is the best site, not only in QOZ in the country, but also the best site in the southeast period, whether it’s market rate or nonmarket rate. But it also qualifies as QOZ site. We’ve already received. So, this is a site that’s under control. It’s actually clear due diligence at this point. It will be in the Fund.
And we’ve received the initial height that we need. Actually, it exceeds what we wanted to build, a minimum of 500 units, maybe up to 700 units. And so, this will be a really, really large part of this Fund. And I, I believe that we’ve already both de-risked this deal and average I’m sorry, increase the value significantly on our land basis through this higher paid designation. The demand in this neighborhood it’s immense and even for, you know, we might wind up putting in a grocer on a site to which there will be tremendous demand for that as well, given its transportation connectivity and the need for that use in the neighborhood at this point. So, I can’t, really stress how excited I am about this deal. I think it’s unbelievable opportunities for this one.
The Phoenix multifamily that’s in due diligence, this I can at least mention the partner, because we’re super excited about working with them on multiple deals. And this is what I mean about how it’s synergistic. Jackson Dearborn is a partner that we’re really excited about building the relationship with further we’ve already approved and we’re due diligence on 2 other deals. And this would represent a 3rd, it happens to be in a QOZ. 296 units. It’s in the West Valley, which is growing very, very quickly. So, we’re really excited about having this deal in the Fund.
And when I say due diligence, by the way, I mean. A term sheet has been sent; they’ve accepted our terms. Now we’re vetting all of the inputs into the deal that include costs, rents, rent growth, cap rates, environmental, title. All of those things happen in a 60-day period. And most of the time deals do make it out of due diligence, but not always. So, I can’t represent this deal is going to happen, but it’s very, very likely to happen.
In the interest of time, I’m only going to go over the next deal. But the 3rd deal is our Colorado Multifamily deal. This would represent our 3rd deal that we’ve done, 2 already with Greystar. And so, this would be our 3rd.
And again, tremendous partner. We really like working with their team. I think they like working with us as well. We have the benefit of already taken to these deals through pre-development of groundbreaking and the first, I would say 40% of development on one of the deals and 20% on the other.
This particular deal is in an area of. Well, I’ll just say in Colorado Springs that we’re really bullish on our machine learning corroborates that there’s just not enough housing relative to the units of demand, it’s in a QOZ. And the city of Colorado Springs is offering 10-year tax credits which reduce your taxes anywhere from 65 to 75% for 10 years. So obviously that supplement your cash flow significantly. But most importantly, we love Colorado Springs as an investment. We love Greystar as a partner and we’re long-term believers in the Spring’s. It just so happens that it’s also in a QOZ and you’re getting tax credits and that’s what’s really driving it.
It turns out I’ll do one more. I could. And by the way, these 5 deals, there’s another 5 deals that are bidding. I could keep going. I mentioned the Atlanta deal that will be on a best and final call tomorrow for the broker to secure a very interesting land site in Atlanta.
But these other two Phoenix deals, one of them is a build-to-rent, which is what we’re really excited about this segment. The build-to-rent is its townhome product attached 2-car garages, again, huge demand.
It gives you a flavor of what we’re doing. We’re extraordinarily busy and we know that we can allocate this money in a judicious way and in a high expected value way for our investment partners. So with that Michael, I’m kicking it back to you for terms.
A summary of terms, so I’ll go over these really quickly. I mentioned already that this is a carbon copy of Fund I. We haven’t really, we haven’t changed anything.
The annual asset management fee is 1.25%. We have a 50-basis point acquisition fee. We have a 15% performance fee. That’s after a 7% preferred return. And then that’s subject to a 50-50 catch up after that.
The minimum investment in this fund is 50,000 dollars, and it will be audited as well. So very straightforward on that side. Next slide, please. So, if you are interested in investing, the first thing I want to say is that this webinar will be emailed to you with sort of next steps, information we will be keeping everybody informed of when the fund will be open for investment. If you also want to just be proactive and shoot our Investor Relations team and email. You can do that. Let them know you’re interested. Let him know the amount.
Let him know when your gains expire so they can prioritize you if you have expiring gains or maybe you have control over those gains as well. But be sure to just be on the lookout, because I know we spend a lot of stuff out.
Sometimes it gets caught in clutter, unfortunately, junk, spam, things like that. But we’ll be proactive in our communication efforts as well. Let’s jump. Oh, and by the way, if you’re an existing investor, you probably know who your contact is.
And if you’re not an existing investor, we pair all of our investment partners with a dedicated contact person in Investor Relations. But if you don’t have one, then you can email Investor Relations at origininvestments.com.
Let’s move to the Q&A.
The first one was emailed before the before the webinar. I want to get to this because this is an important one. So, for any existing Fund I investors, if you’ve already made a contribution to Fund I, we will recognize–we have different tiers of fees that you can read those on the summary of terms. But if you’ve made a 500,000 dollars investment in Fund I and you’ve made, you’re making a subsequent 500,000-dollar investment to Fund II, we will recognize that for the purpose of fees, to tier you down into that fee structure.
So just as a nice way for thank you, to invest across both Funds. So, thank you for that question. Does the Fund plan to use a REIT blocker to limit K1s, the answer to that is no.
I talked to our investment, our general counsel today about that. And the reason is, is it just adds a layer of complexity to the accounting and the reap benefits disappear. And they don’t actually do much good in this Fund because there won’t be any taxable income due to the depreciation and the expenses in the fund and et cetera. So, we’re not going to actually get any benefit, but we would add a tremendous amount of complexity to the fund. So, there could be multiple K1s from this Fund as well. All right, Dave, you got any questions that jump out that you want to answer?
Sure. There’s a question from Bill about Colorado Springs. It sounds like he’s familiar with Colorado Springs. Thanks for your question, Bill. His question is a lot of people who are investing there, how do you feel about that?
How I feel about it is this our first of all, the supply relative to demand just in general. A lot of people focus on supply without demand. I’m not saying, of course, Bill, you’re doing this, but population flow creates the demand curve.
And generally, what happens is you can factor in 30 to 40% of people moving up in multifamily, and that forms your demand curve. And so, when you when you juxtapose demand with supply in the Spring’s, there’s going to be a housing need even going forward relative to supply that’s coming.
And by the way, we’re a big part of supply, we will be one of the largest donors there through QOZ Fund I, QOZ Fund II. And that provides operational skill, of course, for us. And we get to lower that side as well.
So, I’m a huge believer in the Spring’s with the same sort of logic. If you think about a city that has enduring demand can be applied to Austin and it can be applied to Nashville. I can tell you that Michael and I went to Austin 10 years ago and we said, wow, it’s really appreciated a lot.
I wish we could have gotten in earlier. It was really early, really early. I mean, it’s done, and it’s done nothing but go up and up and up and up. So that’s my answer. But the other is, Bill, we spend a lot of time in the markets, but also with the data.
And so, our machine learning is very, very bullish on the Spring’s And that takes into consideration all the supply factors in demand in addition to the things I mentioned earlier. Please reach out if you want to talk to me in more detail.
Yeah, that’s a that’s a great question, and certainly one on the supply side when you and I have wrestled with for many years, and it’s kind of. A little odd to think that supply can create demand versus the other way round.
So let me let me answer this question. I answered this before, but it deserves, again, are non-cap game monies accepted. The answer is yes, they are accepted. But no, they do not get the tax benefit of investing in qualified opportunities zone fund. However, we are launching what we’re calling Growth Fund IV in January. So, if you’re interested in a development type return and you have market rate capital, that is likely to Fund for you. And the reason why we’re doing that is because all of our activities in Qualified Opportunity Zone Funds are also uncovering great market rate opportunities that just don’t happen to be in qualified opportunities zone funds as well. So that’s coming down the pipeline in early January.
I’ll take your question on this question on our view of the multifamily investment in Phoenix. I’ll go back to our machine learning model. It’s not one model, by the way, it’s 11 models. And one of the 11 models focuses on long term growth of cities, which equates to rent growth over time, which is really the biggest determinant in any of our models and investing. And so, what’s really interesting about our machine learning is we can test it based on data. 5 years ago, 4 years ago, 3 years ago. And how predictive was that? In other words, how right was it?
And what it was saying and what we found is it’s unbelievably predictive. It’s almost scary how predictive it is. And 5 years ago, it suggested Phoenix would be the strongest growth market in the country. And it was right, Phoenix’s absolutely exploded.
I always shake my head because it’s so hot there in the summer. I don’t almost understand it, but it is what it is. It’s still suggesting Phoenix is a Top 3 city in the country for the next 5 years.
And this was an extraordinarily active model has been. So, I’m bullish. I’m very bullish on Phoenix. And that as an investment, there’s a nuance with property taxes in Arizona where they can’t go up based on new sales more than the capital now.
So, the cliff notes are that is it equates to really high cash on cash yields relative to other states that that reprice immediately if you get the full tax burden in the next year. And so, when we’re looking at margins on deals, the Phoenix deals, they still they still look really attractive.
All right, I’m going to knock out about 4 or 5 here in a row that are pretty simple, but I’m going to start with the top one, one of them, Kitman David, ask this question. Do you expect the Fund to remain open for deposits through the end of the year?
Absolutely. We have a target of 300 million dollars. We have a ginormous pipeline. So, they will be open. And I think this is probably in reference to Fund I, because there was a time that we actually closed the Fund down for six months because our capital got ahead of our deal flow.
I don’t see that as a problem with this Fund at all. Next question is, what is what LTV you use? 2 to 1, debt-to-equity. So, if we finance a project round numbers, 100 million dollars, we’re going to use about 65 million dollars of debt, 35% of equity. And that to us is moderate to conservative. The amount of leverage, those are non-recourse loans. We don’t cross collateralized debt in this Fund either. And keep in mind, over a 10-year period, multifamily, institutional…multifamily real estate has never lost money over any 10-year period.
So, we feel very comfortable with that level of debt in our capital, our money is in this Fund as well.
Yeah, Michael, that’s a great point. That’s why we focus on multifamily for a reason. It’s been the highest returning asset class in real estate over the last 30 years and the lowest standard deviation. Again, we follow the data.
People need a place to live. And in a recession, they cut back everywhere else, but not here. They pay their rent. We saw it again and Covid. I’m going to answer a question about depreciation. That’s a great question.
And I think I was going to say the name of the investor, but now I don’t see who it is. Do you see that or? I think is it, Jason? Anyway, yes, we can depreciate, but only after these assets are built.
So, you know, in years 1, 2, 3, 4, you can’t depreciate while you’re in construction, but once they’re built, you can. So, the answer is yes, but not for the 1st period of construction. And then you’ll enjoy those depreciation benefits and years 5 to 10.
Another question we have. Well, go ahead, Michael. You take one.
So, there’s two questions that really have to do with tax, tax flow. So, one is about the cash flow and taxes. And so, in this Fund, David went over the slide. If you think about each and every project being built at the time that it takes about 24, it takes about 36 months to build the lease and stabilize and in about month, 38 to 40. That’s when we do a refinancing. And so, each project, as we’re executing this Fund, if we buy 1 project every 3 months, there will be a nice trail of refinancing in the future.
And that’s how that goes. So, we expect anywhere conservatively, 25 to 35% of capital coming back to investors in the form of both refinancing processes and cash flow. And yes, we get all of the depreciation benefits. We don’t see any tax consequences for any income in this Fund whatsoever during that during that time period.
Jason has a good question about labor and construction costs, and I would add, Jason, volatility, construction inputs, lumber, steel, etc. How does that affect development, this sort of unique time of Covid supply chain disruption? We’re really experienced in dealing with this because we’ve been building throughout Covid for QOZ Fund I and for IncomePlus.
So, we’re used to doing it. What we see, Jason, is if you’re if you’re able to execute and mitigate risk, which we believe we are, the margins are actually higher now than they’ve been pre-Covid. And the reason for that is there’s 3 inputs that really affect the margin that I keep talking about.
The 1st one is rent growth. Rent growth is actually really high right now in all of our markets. How high? Anywhere from 6 to 10% year-over-year, which is extraordinary in terms of a rent growth rate.
And it’s predicted to be quite strong. And all the deals we’re looking at, certainly not there. I mean, we underwrite rent growth 2.5 to 3%. We don’t trend rents during construction. So, we have lots of sort of conservatism throughout our models.
But that’s one input, the other input are construction costs, those are up, but not as much as people think, because labor really isn’t in the same level. The construction costs are soft. Costs aren’t up in the sense of, you know, those inputs are probably up 12 to 15%.
But then cap rates are also lower or so you’re talking about. Cap rates used to be 4.25. Now they’re sort of 3.8 to 4. So, our multiples on earnings are much higher when we’re looking at our margins.
This is actually an extraordinarily good time to be building. We do mitigate construction costs by, remember what I mentioned about the due diligence. We don’t sign off on a deal until we have a GMP which locks in costs.
So, we’re not exposed to that. And we know that we have our margin when we actually take that that decision to go all in. Please reach out to me if you want to talk more in detail.
Yeah, here’s a question from Darryl. What will the unit price be? So, this will be a unit-size Fund. It will remain static at 10 dollars for the life of the capital raising period, which will end again at the end of 2023 or whenever we hit the 300 million dollar cap.
And then after that, we will float it to fair market value. And what investors get in the meantime is they start earning a profit when their money comes into the Fund. In that preferred return, again, is 7%.
So that would be one of the advantages of getting in the Fund early, that you would be earning that above investor who get in late and also obviously locking in your tax benefits at the time you invest.
Michael, I think we’re over. Do you want to answer any other questions, or do you want to sign off? Yeah, why don’t we why don’t we take another few minutes to answer some questions if we see some? And again, you know, let me let me get rid of this questionnaire that I just answered. And since we I think we were a little long on the on the presentation, so I don’t see the questions just keep flowing in and, you know, apologize in advance that we don’t get to your question. We do want to keep this limited to an hour where you can always reach out to us by email to get them answered.
All right, I’ll answer one. There’s two questions that are sort of unrelated to Kumar, Ricardo. Thank you for your questions about cap rates. The gist is where we think cap rates will be the next 5 to 10 years.
What cap rates are we assuming? So, I’ll just take you through our process. I mentioned before what we do with rents, we don’t trend rents during construction. So essentially, we’re assuming zeroes for years, 1, 2, maybe 3, depending on the construction site.
And then we start to trend or where we think rent growth will be in terms of cap rates. What we do is we take the market cap rate, and we drift it up 2% per year throughout the 1st, 5 years.
And so, my answer to your question, Kumar’s, I don’t know where cap rates are going to be in five to 10 years. I also don’t know where interest rates will be in 5 to 10 years. But what I do know is we are we are pricing in a 10% cushion to where they are now.
And so generally, we’re starting our cap rates at 4%. And it’s assuming when we get our model in year 5 on the development sort of ending and it’s settling into the core investment, we’re assuming a 4.4% cap rate and we sell it.
I don’t know where cap rates will be in 5 years, but it’s another way that we’re conservative. And I would challenge everyone that you’re investing with a manager or in a deal. These assumptions are really important to understand, you know, how that manager is getting to their returns that they’re showing it.
So, these questions came in back-to-back, people wondering the same thing, so John, Jonathan, and from an anonymous but how much are David and I investing in Fund II? And we just had this conversation today, so it’s hard to say until we see what our capital gains are.
If this were a market rate development fund, we could easily say 10 million dollars. But the reality is that we have to wait to see what our capital gains are. I can tell you that is our intention to invest even in Fund I.
We’ve invested, I think, somewhere around 9.6 million dollars in that Fund. And it was over a period of time, because personally I’ve used this Fund just like David has, to defer and reduce and eliminate taxes and anything that comes on my K1, I just put everything into the Fund.
So, this is a tax strategy that we use for ourselves, that could be 4 million dollars. That could be 12 million dollars. It just it’s a matter of what shows up on our K1 and through our realized gains over the next few years.
But I’m excited about this Fund and I do want to invest in it, so, and I’m confident that I’m going to have a lot of gains over the next couple of years, because right now we’re divesting of a lot of properties in Funds II and Funds III in Origin.
And we’ll keep you updated on that. We’ll have other webinars and we’ll let you know as we do it. We’ll be investing this year because I want to get the 10% step-up, which is a huge benefit that expires December 31st, so that that will be a big part of the strategy as well.
And I would encourage, you know, like I said something earlier that I really agree with. If you’re interested in multifamily development and you have capital gains, this is a really easy choice. It doesn’t have to be Origin, that you should be investing in a QOZ.
If you believe the developments are just as good as market rate, which in this case they are. That’s what will govern my strategy in this particular front on capital gains. And we’ll keep you updated on the exact amount. Thanks for your question.
I think that’s a great place to end if you want to sign us off.
Absolutely. First of all, you know, for the people that have partnered with us over the last 12 years, we really value our investment partners. And I think you see that through our transparency and candidly just our investment in our team, because those are the people that that make your investment everything it is in terms of reporting the returns. K1s all of it. So, thank you for your true partnership. And if you are interested in your new client or if you’re entertaining, here’s the investment. You know, we’re one of the largest funds in the country. I think we’re in the Top 2%.
We’re the only Fund that I’m aware of that’s both geographically diversified, but also only in multifamily. So, if that’s an asset class that you want exposure to, I think that you should strongly consider it and have a great day.
And thanks for your time.