The Private Equity Real Estate Podcast – Show 1
Today we focus on Value-Added Real Estate Investing. We’re in the studio with Tony Grosso, one of the co-founders and managing partners of First National Realty Partners. Today he helps us to navigate the different types of commercial real estate deals as well as breaks down the various types of value-add deals and strategies that he and his firm are constantly working on every day. If you are a passive investor looking to place capital in a value-add deal or an active investor looking for tips and high-level thinking from one of the industries leading firms, this is the show for you.
Voice Over: (00:03)
You’re listening to the private equity real estate podcast, brought to you by First National Realty Partners, where investors learn from private equity experts and insiders. We share our own real-world experiences so you can know exactly what it takes to be highly successful at investing in passive commercial real estate opportunities.
Nick Cucci: (00:23)
Hey, everyone, you are listening to the private equity real estate podcast brought to you by First National Realty Partners. This is the ultimate resource for passive real estate investors. I’m your host, Nick coochy. And today on our show, we have one of the founders and managing partners. The first national Realty partners, Tony Grosso, Tony, how you doing?
Tony Grosso: (00:40)
I’m doing great. Happy to be with you.
Nick Cucci: (00:42)
All right. Good to have you here. So, to give a little bit of background, Tony and First National are one of the country’s leading real estate private equity firms. And today what we want to focus on, we want to focus on value-added real estate investing. And that’s something that you’ve got a plethora of experience in. And, before we dive in, this is the first show that we’ve got going on and you’re going to be joining us on a bunch of these. So I’m hoping you can give our listeners just a little bit of background into who you are and how you got started.
Tony Grosso: (01:10)
Sure, absolutely. So the name of our firm is First National Realty Partners. As you mentioned, I am one of the co-founders and currently serve as a managing principal at the firm. We are an opportunistic value add investment, private equity group. We looked at all product types, the major food groups, office, retail, industrial, multifamily. And, you know, as you kind of touched on, we’re going to be talking about value add investing today, which is near and dear to my heart. It kind of sits at the centerpiece of our whole entire acquisition strategy. FNRP I think as we speak has about 30 employees and just over 3 million square feet and, you know, I’ve been fairly active over the last couple of years.
Nick Cucci: (01:49)
Yeah, that’s great. You absolutely have been. And you know, you had mentioned that it’s near and dear to your heart and something that you guys tend to focus on is the opportunistic, value add arena. Now, why is that? Why do you focus in that area?
Tony Grosso: (02:04)
Well, I think before we touch on that, I want to just kind of talk about, you know, the four kinds of commercial real estate investing strategies that institutional investors adhere to. And the first one is more of an opportunistic slash development type vein, where you’re taking a piece of raw land, you’re improving it, you’re building on it. You can also do heavy, heavy value add where I can kind of be down that spectrum as well. Second phase on that spectrum is what we’re talking about today. And that’s value add investing and that’s taking a property and then repositioning it and trying to increase the value of it. The third would be kind of a core ad strategy, which would be not as much heavy lift as an in a value add transaction, but there is some upside in the deal. And the final would be more of a core strategy where you’re just looking for exposure to a particular, uh, you know, maybe just real estate overall as an asset class. And you’re not looking to tremendously increase the net operating income of the property, which increases the property in kind.
Nick Cucci: (02:58)
I’ve got you. Yeah. Thank you for taking us across that spectrum. And when it comes to value add deals, I know they can, they can be broken down a bit further. There’s the fixers and the add ons. Can you kind of help us understand, you know, take us through those types and which you prefer there?
Tony Grosso: (02:59)
Yeah, absolutely. So in the value add vein, you kind of have a whole spectrum of different strategies and ways, but at the end of the day, what we’re trying to do is increase our net operating income, which is our net income on a property, uh, after we pay our expenses and have taken our gross rents. And, you know, it can range from taking a, let’s say an old abandoned old turn of the century factory, and to say new and updated loss, which would be more of a heavy value add, it can be changing, uh, you know, office to residential, you know, changing the product type I would say is really more on the, on the heavier value add, the heavier lift of the spectrum.
Tony Grosso: (03:53)
And then you have situations that are much lighter where literally you’ll buy a building, you’ll increase the tenant’s lease. And on a 30 minute phone call, you can significantly increase the value of a property because the strength of the tenant played that big of a role saying a single-tenant deal. You’ve got stuff on the multifamily front where you can add amenities, you can add washers and dryers. I mean, there’s really no end to the amount of creativity that you can use in the real estate process. And that goes from heavy construction projects, complete major overhauls and rehabilitations to, you know, just simple things that you can do. Like I touched on the lease and different other things as well, just to increase the value of the property. But at the end of the day, we want to take the net operating income higher than where we bought it to increase the value of it.
Nick Cucci: (04:35)
And that’s, that’s great. And that’s, that’s one of the most beautiful things about real estate. Isn’t it? Its that, you know, there really is, there’s no end to the creativity, you know, it’s, whenever you can find the highest and best use of a, of a piece of property, you know, the, the limit is really just your imagination. And, you know, you were just touching on, you know, kind of how to create value in a deal. And I’m curious, what are some of the strategies that, that you find work best for the firm and the, and the type of deals that, that you close on?
Tony Grosso: (05:02)
Yeah, I touched on a couple in the last question you asked, but I mean, really it ranges the gamut based on what we’re going after. So if we’re going after an under-monetized, uh, say B class apartment building, you know, the strategy there is going to be completely different than if we’re going after say a 50% occupied industrial complex, where all we really need to do is leasing. You know, if you want me to get into each specific product type I’m, I’m, I’m happy to go there, but it’s really, there’s a broad stroke of different strategies and techniques you can use when these properties, uh, you know, when you’re going after them, ultimately though each property has its own business plan and, you know, for the product type, you know, for how much of a heavy list that you’re going to be doing, maybe you’re more of a core ad guy where you’re getting in and you’re just taking advantage of, uh, you know, rent is going higher over time, but, you know, ultimately the value add strategies, run the gamut, you know, simple stuff, adding washers and dryers to just leasing space out. There’s a million different strategies that you can get into. So you’ve got to kind of steer me what you want to hear about.
Nick Cucci: (06:04)
Sure. Well, you know what, I bet we could, we could spend an entire show on strategies. So we’re talking specifically, you know, just about, uh, about the value add kind of from the, you know, the, the 20,000 foot level today. So let’s, let’s keep going on that. And you know, one of the questions that I have for you is it’s just when it comes to the risk associated with value add deals, you know, in your, in your core deals, you, you know, they’re, they tend to be a bit, a bit more stable and some investors can get deterred from the risk that’s associated with, you know, value add or opportunistic deals. So, you know, what can you do to mitigate the risk in the deals so we can move forward confidently for everybody that’s involved.
Tony Grosso: (06:41)
So when you’re talking about these four types of investing strategies, opportunistic value add, core add and core, the thought is that a core asset is going to be your least risky situation. It’s a hundred percent occupied. It’s got longterm leases. There’s no major deferred maintenance. It’s really humming on all cylinders. I actually come from a slightly different school because that very well may be the case. If you do your homework if you go out and you look for a single time at Walmart, who’s got 20 years on the lease. Uh, they got a great credit profile behind them. It’s a good location from a performance standpoint. They’re probably not going anywhere. They’re probably, you know, it’s a pretty secure deal. But the thing is, is when you’re looking at core deals, a lot of the time, they really have nowhere to go, but down in value, and that’s from a pure NOI stream standpoint. People perceive more risk in a value add deal, because you have to go in and do this work and there’s risk and implementation of the business plan.
Tony Grosso: (07:36)
And maybe you’re doing some work from the construction standpoint to rehabilitate the property, but the beauty of a value add deal is you’ve got some room, you’ve got some lifts. So in my opinion, you know, opinion, we kind of look at it the wrong way. We kind of think that, Oh, it’s a core deal. It’s got no risk. Well, actually in a core deal, uh, you know, if you buy an office building with say 15 different tenants, and it’s a hundred percent occupied and you, and you’re buying it at a market rate cap rate, you know, you might have some natural market appreciation if you bought in the right areas. But ultimately, yeah, that thing’s got nowhere to go really, but down. Whereas if you bought that same building and it was 66% occupied, and you got in there and did work, now there’s risks that you don’t implement the business plan, but if you were able to get that list, you’re actually taking risks off the table because it’s got some runway to go higher. If that makes sense.
Nick Cucci: (08:21)
I, yeah, I really appreciate the way that you guys think about it and approach it there, because it seems like you’re saying, in some instances, the core deal is almost the riskier deal because you don’t have anywhere to go where the value add deal. You, you know, th the sky’s the limit.
Tony Grosso: (08:36)
Yeah. Yeah. I touched on that. On that Walmart example, that’s probably a bad example because that’s like a deal that, you know, it sounds like at first glance, I hate to even say these words, that sounds like a deal you may not lose on because that sounds like a home run. You know, that’s a real core deal, but that also the example that I gave, that’s a very real scenario and institutional investor, 1031 buyers, they may be out there and they’re just looking to put, and they just need to get exposure to the asset class. Well, you know, multi-tenanted assets, you lose tenants, areas, you know, go by the wayside. And before, you know, you’re building that you bought for 30 million is now worth 20 million and it needs some work and it’s got some deferred maintenance and there’s a tremendous amount of fit-out costs to do new deals and you’re undercapitalized.
Tony Grosso: (09:19)
So, yeah, I mean, look, there’s definitely nuances when you’re underwriting these fields, but you know, the value add strategy, value add and core add kind of fits into what we do as a firm, which is strong cash flow out of the gate, but definitely an upside profile. We’re not guys that are doing these ridiculously heavy value adds where you’re completely repositioning and 50% of your costs on the whole deal is going into rehab. We’re more light value add/core add guys because we’d like to have cash flow out of the gate and then reposition the asset over time to increase value.
Nick Cucci: (09:51)
So, you know, I wanted to, I wanted to talk to you about two questions here. And the first question is, you know, when it comes to the value add deals, you guys are very, very close to it because of the structure of the firm it’s vertically integrated. And I’m wondering if you can kind of help us understand, you know, what that means and, and what that means for an investor.
Tony Grosso: (10:14)
Yeah. There’s guys that are not vertically integrated that are very successful. I’ll preface this by saying, you know, there’s guys that do certain parts of the real estate investment process really, really well. And they partner with other groups that may handle the property management, or maybe the actual operator and asset manager, and maybe somebody who’s bringing capital. But, you know, when I think about a vertically integrated real estate company, I think about a group, um, that can handle everything from the acquisition of the property, all the way to the disposition. So that includes the asset management. You know, we’re vertically integrated in the standpoint that we source our own capital. We manage our own properties in house. We do the high-level asset management plan, and then execute the business plan. We do all of our accounting in house. We do, you know, for most of our properties, I’d say we do all of our leasing in house internally.
Tony Grosso: (11:02)
And we do do some third party in that vein, but basically we are vertically integrated from the standpoint that we can handle everything from acquisition to disposition, every single loan, you know, the real estate spectrum. And what that allows us to do is have more control then maybe non vertically integrated operators. So, you know, the guy who handles our acquisitions, he’s two doors down from me, the guy who’s running the entire portfolio is down the hall. So we’re heavily involved in, you know, really every facet of the real estate process. And I like knowing that because I know, uh, you know, our team is really competent and we’re not relying on a third party who may do a great job or may not do a great job. I know my team does a really good job.
Nick Cucci: (11:43)
Yup. And thanks for, thanks for breaking that down for us. And you know, the second question that I had that you had mentioned, you had mentioned, uh, you know, a few minutes ago that you like cash flow right out of the gate. Um, and in evaluate deal, I’m wondering, can you always plan for cashflow on day one? And if you can’t, is there a, is there a timeframe that you have to put in place where, you know, however many months that you would need until you’re cash flow positive, otherwise the deals just doesn’t work for you.
Tony Grosso: (12:10)
Yeah. I think that really goes back to what your investment thesis is and what you’re trying to achieve as a real estate investor. There’s guys that do these real heavy, opportunistic type value at where they’re doing a tremendous amount of work, and they’re not going to cash flow until, you know, these already ended the other deal and they may make tremendous internal rates of return. And then there’s guys that are, you know, maybe more of a core add type of a player, and they’ve got cashflow out of the gate and they lose on a deal. So it’s not to say that our strategy is right for everybody. It works for us. It works for our equity partners, our lenders, all of our employees. And that’s kind of the vein that we’re geared up to work in. Um, but you know, for us, we like to have cash flow out of the gate.
Tony Grosso: (12:53)
And whenever we invest, we’re investing for cashflow and ultimately whether you’re doing raw land and building the ground up, everybody’s ultimately building to a cash flow stream. Um, and that’s one of the most important things to understand is that all business, even tech startups, that aren’t going to be cashflow positive for five years or whatever are being modeled out to some cashflow stream of some revenue that they’re eventually going to generate. That’s the same thing in real estate. I like to get cash flow out of the gate. I’m just a cash flow oriented guy. Um, you know, we’re, we’re willing to accept lower cash flow up front. If we’ve got more of a list and we’re going to have a bigger IRR, but I want to see something out of the gate. And that’s just kind of how we’re, we’re geared as a company and what our partners like.
Nick Cucci: (13:35)
Yeah. I appreciate that. I’m from an investor standpoint, you know, I’m, I’m of the same mind, you know, it’s, it’s great to see the cashflow right out of the gate. And if not, I mean, I’m, I’m not really, I wouldn’t be comfortable with anything unless it was within six months, you know, if you, if you can’t receive anything for six months, okay. Maybe, but, you know, I, I appreciate the cashflow right out of the gate. So you mentioned that you guys, you know, there’s, there’s a, you know, for each, for each property that you have, there’s a plan for every property. You know, there’s, there’s a roadmap in the asset management plan for execution, but I’m wondering, you know, and this kind of calls back to strategies a little bit. We don’t have to dive too deep, but I’m wondering if there’s any, any quick wins, you know, like when you get a property, it’s like, Oh, well, what let’s, let’s do these two things right away. Cause it’s just going to give us an immediate lift,
Tony Grosso: (14:21)
I would say, and this is happening in underwriting. So whenever we’re analyzing deals, we’re looking for ways that we can either increase revenue or decrease expenses. That’s how you run a successful business. Real estate business is no different. We’re looking for NOI growth and that’s the way you achieve growth is you either increase your gross rent or you reduce your expenses when we’re underwriting these deals. We’re looking for maybe operators of properties that aren’t as efficient as we are saying from an expense standpoint, I’ll give you one little example. So we pool all of our insurances for the most part. So we basically have one policy for our entire portfolio and then we allocate it to each property. What that does is it gives us tremendous savings from an insurance standpoint because we’re able to have one point of contact, uh, and it just gives us cost savings.
Tony Grosso: (15:13)
So a one-off property owner, they have a policy that’s $70,000 a year. And because we’re pooling our insurance with whatever carrier, you know, we’re now at 35,000. And if it’s a triple net property great, because now we’re going to pass along those savings to our partners. I mean, to our tenant, excuse me, which is going to increase our cam charges, which is going to increase how much we can charge from a marketability standpoint. Or if it’s a gross deal, it’ll flow right to our pockets. If it’s an apartment building. It goes right to our pocket. So, I mean, there’s literally like we could sit here for 200 different things that we look at when we’re underwriting a deal to save where we can, where we can, or we see what we can save on expenses. Revenue, ultimately, some guys, maybe their collections process is flawed and there is a quick win that you can get in there and correct it. But that’s really, you know, there’s, there’s two ways, you know, sometimes rent or below market. And that’s more of a management flight where you’re just getting in there and as tenants start to roll, we’re going to increase rents to market rate. Um, but ultimately that’s what it comes down to those as those are the areas, how do I increase revenue and how do I reduce my expenses? And we have a guy or a gal who’s analyzing every single one of those line items to make sure that we maximize for our partners and ourselves.
Nick Cucci: (16:22)
Yeah, that is great. And it makes perfect sense as well. So, you know, I’m curious when it comes to investor communication, you know, when you have, when you have a, a value add deal or an opportunistic deal, and there’s a, you know, it’s perceived as a potentially riskier investment, you know, do you have to change communication with the investors at all? Do you have to communicate more frequently or how does that work? Is it a different communication?
Tony Grosso: (16:48)
That’s a great question. And, you know, from the outside looking in, you would say, Oh, we need to communicate more because we’re doing a heavy project lift, we’re doing a huge renovation project and there’s all these construction dollars, or we bought a property that’s vacant and now we’re going out with leasing it out. So there’s going to be more updates. You know, I think that there are, as we have, you know, you know, good news that we want to keep our guys up to speed. So we’ll do, you know, an email blast or a letter just letting guys know on progress. But historically speaking, the only, what we do change is the quarterly updates that we typically do are going to be more robust for a value add deal where there’s more moving pieces than they are for say a core single-tenant deal. And we, you know, I’ve done it all in our portfolio.
Tony Grosso: (17:29)
We have core deals. Um, you know, so we’ve kind of run the gamut here, but let’s say you go out and while I was talking about that, single-tenant Walmart deal, let’s say we bought that property. Right. And we want to update our partners. I mean, what are you going to do every quarter? Well, Walmart pay their rent three months in a row. You know, there’s just, there’s not a lot to report on. So there’s definitely, I would say isn’t is an uptick in the frequency of which we communicate. Let’s say we, whenever we do a new lease and one of our commercial deals will let our partners know. So if there’s more leasing going on, we’re going to let them know. But the reports are definitely going to be a little bit more robust on a value add deal than they are pretty straight forward down the middle of the fairway deal or deal.
Nick Cucci: (18:08)
Yeah, that’s great. So this is a, is there, we’ve kind of covered the gamut on the value adds, you know, is there anything else you would want to add? You know, that, that investors should know about a value add deal before we hit you with three quick questions,
Tony Grosso: (18:24)
You know, the value add is a very, very powerful strategy. And there’s a lot of shops that are set up just to kind of catalog capitalize on it. What I like about it is all these things that we touched on, you know, the deals that we’re doing, we have cash flow out of the gate, but we’re still able to materially increase the value of the property, you know, and just to keep up with inflation, you’ve got to have that ally growth, even if it’s a core deal, just to keep pace. So I think the value add is a great strategy to put equity into a deal, earn a cash on cash return, but ultimately also be able to have some type of equity multiple when you exit that deal via sale or refinancing after a predetermined period of time. So it’s very powerful and, um, you know, a lot of guys have used it successfully.
Tony Grosso: (19:09)
And as long as guys are messing up real estate or not managing real estate properly, there’s always going to be opportunities for guys that are more opportunistic to get in there and unlock that value and make sure that that property is being operated to its highest and best use. In the real estate business, that’s all it is. It’s taking a piece of property, whether it’s raw land, apartment building or a shopping center and increase the way you make money on the back end is by materially increasing the scope of that property and repositioning it so that you have a higher net operating income, which increases your back end value and increases your equity investment. That’s the theory.
Nick Cucci: (19:46)
Well. Oh well, that’s great. And I appreciate all the insights that you’ve shared with us today. And before we leave, we’re gonna, we’re going to ask you three quick questions. What’s your favorite business book?
Tony Grosso: (19:57)
There’s this book probably rich dad, poor dad, which I read when I was like 13 or 14 years old. And it probably changed the trajectory of my mindset for the rest of my life. So rich dad, poor dad on the business book.
Nick Cucci: (20:09)
And that actually also answers the second one. I was going to ask. What’s your favorite real estate related book?
Tony Grosso: (20:14)
No, no, no. My favorite real estate book is my book, the art of commercial real estate. The second favorite one is value-added real estate. That’s better than Rich Dad Poor Dad. No, no, no. That is a great real estate book as well,
Nick Cucci: (20:27)
Without a doubt. And you know, and for anyone who’s listening, you know, I’ll put a, I’ll put links to Tony’s book below. I haven’t read the art of commercial real estate yet, but I have read the value-added book and it is a fantastic read for anybody who wants to jump in and really understand the, you know, the, the value-added real estate world. And, third question. What’s your favorite food?
Tony Grosso: (20:48)
Man, I like all the good stuff. I like Italian. I like seafood, steak. I don’t know. Let’s say, you know, I’m a steak guy, I’m a sucker for good steak.
Nick Cucci: (20:59)
Anything good. I appreciate that. And then a final question before we leave for the day, when did you first know that you wanted to be in real estate?
Tony Grosso: (21:09)
You know, I, I kind of always knew when I was 13, 14, 15 years old. I wanted to own apartment complexes. This has always kind of my game plan. I just always thought about it as like, you know, came up to my career, you know, in an investment banking and whatnot always wanted to kind of do apartment buildings ever since I was young. And that kind of did stem from this idea of passive income and all that stuff. And, you know, I could go into a million reasons why my mindset has kind of, not that I don’t like apartments. My, my thought process on what passive income actually is, has changed significantly as I’ve invested as a passive investor, but also running my own a shop. Uh, my, my sort of passive income has really changed, but the idea of accumulating a real estate portfolio and building, I guess, an annuity of cashflow was always something that was intriguing to me, even as a kid. And, um, I’m lucky and fortunate that I’ve been able to do it in my professional career and, uh, you know, bring a lot of my partners along for the ride.
Nick Cucci: (22:07)
Yeah. That’s, that’s great and good on you for being able to, to bring it to life from a, you know, a dream you had from when you were 13. So, so Hey, you know, Tony, we’re going to close it up for the day, but, uh, thanks so much for sharing some of your time with us and for talking about value added investment and we’ll hopefully get you back on some of these pretty soon.
Tony Grosso: (22:26)
You got it. Appreciate it. Pleasure speaking to you as always,
Nick Cucci: (22:29)
All right. You as well, and Hey, thanks again to everyone who’s listening to the private equity real estate podcast. The show is brought to you by First National Realty Partners, one of the top syndicates of private institutional-quality commercial real estate in the country. If anyone is interested in learning more about FNRP or would like to get access to our private offerings, please click the click the link in the show notes or visit FNRPpodcast.com. We’ll see you next week.
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