Experts pick a few holes in vulture fund

The fund wants to buy distressed-sale blocks and eventually pay 12 per cent returns annually. Photo / Supplied

Investors considering a newly launched vulture fund should demand its bosses back it financially, says Shareholders Association chairman Bruce Sheppard.

Sheppard said he would avoid investing in funds which asked the public for money but whose directors did not contribute large sums themselves.

He was responding to the launch of the Blacksmith Property Fund, whose prospectus was registered this month, aiming to raise $20 million to $50 million buying mortgagee or distressed-sale blocks and eventually paying 12 per cent returns annually.

"The golden rule is to ask where the promoter's or directors' money is. Is it in this fund or somewhere else? If they are not eating their own porridge, don't expect me to eat it. Don't tell me I'm eating porridge when they're sitting out the back eating strawberries," Sheppard said after reading the prospectus.

Blacksmith is chaired by ex-AmTrust and ex-Multiplex boss Peter Wall, sitting on the board with Jack Porus of lawyers Glaister Ennor and syndicator Bryce Barnett of KCL Property.

Wall said yesterday the three would invest their own money but he could not say how much.

"We have not specifically spelt out how much each will commit but it will be substantial. The nature of the fund will mean that our contributions will be ongoing in the same manner as investors," Wall said.

Craig Tyson, investment chief at ING, was more scathing about the fund.

"It looks like a bit of a fee grab to me. It has high fees, it is unlisted so there will be little or no liquidity or transparency and investors may or may not get a dividend, which is at the discretion of the manager.

"The fee structure incentivises the manager to grow the size of the fund so that they can grow the management fees and clip acquisition and project management fees, so I wouldn't be holding my breath for a dividend if I were a yield-hungry investor.

"Maybe it is an opportune time to be setting up something like this but this structure is likely to create significant value for the manager with investors taking all the risk," Tyson said.

Risks listed by the fund include the inability to lease vacant space to tenants, further deterioration in economic conditions, a tenant's inability to meet their lease obligations, competition, the non-liquidity of shares which will not be listed on either NZX or the Unlisted market, financing and interest rate risks, loss of special PIE tax status, loss of key personnel, problems raising money, law changes and insolvency.

Wall said Blacksmith offered counter-cyclical investment and capital appreciation after under-performing properties were upgraded and retenanted. The offer closes on April 14.

"Blacksmith focuses on the public/retail investor being able to subscribe," and was not just for habitual high net-worth investors, he said.

"There are no property or properties under our control being placed into the fund and it can be regarded as completely independent of any other interests directors have.

"The power of our strategy is to be able to commit to the purchase without the need to borrow. We will then go about active asset/property management to restore the value to the property and then raise mortgage finance to prudent levels based on a solid income stream and property value.

"The fund is focusing on opportunity and there will always be an element of risk but we will reflect the risk in the purchase price, recognising we will be buying from a position of strength; cash, limited competition and an ability to act quickly.

"The 12 per cent return is simply the hurdle rate of return payable to investors before profit share formulas kick in. The surplus above the 12 per cent is applied 80 per cent to investors, 20 per cent to the manager up until the investor receives 20 per cent when a 70-30 share will apply. The rewards are potentially significant with the key risk being the entry price, that is, the original purchase price paid for the property.

"Only a small element of the fee is a fixed fee, the majority coming from the percentage of net rental flow which will ensure there is a focus on creating and preserving rental income. The fixed fee is designed to cover overheads associated with operating the fund and will be transparent and open to independent audit and will be reviewed annually," Wall said.

Sheppard said the prospectus showed no evidence that Wall, Porus or Barnett were putting their own finances on the line to give investors confidence.

"I want to know how much these guys are putting into this fund. If there's not money from them, I'm not interested. You need people running funds to suffer when you suffer and win when you win.

"If they have no skin in the game, don't put your skin in the game. I do the same with financial planners - ask them where their money is," Sheppard said.

Other industry observers were yesterday questioning Blacksmith's fees, saying these appeared high, more than in the listed real estate sector and structured in a series of tiers which got higher the better the fund performed, enriching the manager but not the investors.

Sheppard is also worried about fees, saying a business which charged a percentage fee based on the value of funds under management incentivised the manager to buy more property but not to buy better or do better.

Investment expert Arthur Lim said vulture funds could be extremely profitable vehicles but he questioned why Blacksmith's management was external when the listed real estate sector was moving towards an internalised management model.

He recalled the early 1990s when Richard Didsbury and Ross Green, founders of Kiwi Income Property Trust, used Canadian seed capital to buy cheap buildings which formed the basis of a successful business with assets today of $1 billion-plus.

Zoltan Moricz of CB Richard Ellis said research on the property recovery indicated commercial would be the last sector to rise. But that did not mean individual office blocks were a bad investment, particularly those which were tenanted.

A riskier strategy was to buy buildings where leases were expiring because of the uncertainty.

Market research indicated Auckland and Wellington investment property markets had bottomed out in some sectors but others were still not in the recovery stage, Moricz said.

He expects to release new research this week.


Blacksmith Fees

* Share application fee: 2.75 per cent of funds raised.

* Establishment fee: $125,000.

* Management fee: 0.75 per cent of fund.

* Acquisition fee: 1 per cent of property bought.

* Project management fee: 5 per cent of work costs.

* Performance fee: Payable on 12 per cent return goal.

* Director fees: $30,000 annually to Peter Wall.