Andrew Jacobs ’96, managing director and partner at Metropolitan Real Estate Equity Management, focuses on identifying, evaluating, and overseeing real estate private equity fund managers and investment opportunities in the eastern United States and Latin America. Prior to joining MREEM in 2008, he worked at Angelo, Gordon & Co., Hines, and Campbell Soup. An adjunct associate professor in the Finance and Economics Department, he teaches the Real Estate Project Class, where students design and execute projects of professional scope and quality with a company sponsor. In a recent interview with Diego Banos Garcia ’13, he discussed his firm’s business, opportunities in the current economic climate, and his teaching.
What do you think are the most important characteristics and backgrounds successful fund managers should have? Have you found your real estate development background to be particularly advantageous as a manager?
My two fundamental requirements are (one) asset level real estate and (two) capital markets experience. Let’s start with capital markets. In the old days you went to friends and family, your local bank, or an insurance company, you got a loan, and that was it. Today, real estate capital markets are much more complicated. Related to that is institutional equity capital experience, meaning the ability to go to an opportunity fund, endowment, pension fund, or foundation to invest equity capital for a deal or a co-investment. Not only does the developer have to convince these groups to invest, but the developer must provide the detailed and frequent reporting that an institutional investor is going to need. As for having their own discretionary fund, most entrepreneurial real estate investors don’t realize how difficult it is to operate a fund until they do it.
If you’re going to be in any part of our business, whether it’s on the equity, debt, agency, or principal sides, you need fundamental operating experience. Specialization is also extremely important. Even value-add real estate is such a general category. Just because you are good at leasing industrial buildings in Chicago doesn’t make you good at running resorts in California. Geographic and, more important, product-type specialization is crucial if you want to create alpha. But, if you only invest with one specialist, you will only get exposure to that one property type or geography. So the trick (this is very self-serving as a fund-of-funds manager) is figuring out how to get that diverse exposure in our high-yield, high-risk business.
My first job in real estate was being a leasing broker in my native Philadelphia. Think of all the variables that drive commercial real estate. What could possibly be more important than revenue . . . i.e., leasing? Everything else is secondary! I think some of that gets lost in New York, where we are such a finance-oriented community.
You have to know what tenants need. Take retail, which is has its own set of variables—e.g. co-tenancy, street access, relationships with retailers and knowing their current strategies. If you want to work in retail real estate, the best background would be to have experience with either a retail developer or a retailer. If you have worked at a great office investor like Beacon Capital Partners, and you’ve done commercial office space for your entire career, it gives you no qualifications to buy and redevelop a retail center, and vice-versa.
When sourcing managers, we obviously want individuals with strong real estate track records, who studied at the right schools and worked for the right firms. But, equally important is the team and knowing how well those individuals work together. Imagine that you have a new firm led by David Simon and Sam Zell. Obviously, they are both great real estate practitioners. However, I would be concerned whether or not those two strong personalities would be effective as a team. So, it is not only individual track records that matter, but team track records as well.
What advice would you give to students wanting to become fund managers or enter the industry? Would you do it all over again if you were about to graduate from Columbia Business School in the current economic climate?
Get the experience and exposure that you need as we previously discussed. You don’t have to be an expert at everything. You need to grow into a fund. You could not raise a fund without the experience that I talked about. Your first job should be friends and family equity with a manageably scaled company . . . the proverbial “two guys and a phone.” You can get very attractive promote structure and fees with friends and family equity. The next step is working with institutional money, partnering up. An opportunity fund is a good example. Through those joint ventures you will also learn a lot about institutional capitalization and you’ll need to grow your back office—e.g. CFO. If you’re an emerging manager (i.e., first discretionary fund) you should consider using a placement agent. They usually charge a 2 percent fee (of capital raised), but they not only provide the investor access that you need, they can steer you through the whole process.
I am very reluctant to encourage managers to do a new fund in the current environment. There is one huge plus—discretion. However, the negatives are material. It is very time consuming to raise a fund. Today, the average time to successfully raise a first-time fund is around two years. Fund-raising is incredibly distracting. The amount of back-office, regulatory requirements, and disclosure is huge. Another huge issue is that all of your deals are crossed. As a GP, you will usually get a 20 percent promote over a certain hurdle. If one or two investments turn out sour, your promote disappears. All the hard work you did in those other nine deals can get wiped out with one bad one. This is an enormous concern. You have to have great confidence in your abilities or have a low-volatility strategy. To have an opportunity fund where you’re out shooting for 20-plus percent returns is a very challenging business. Real estate is not a 20 percent business.
I love my job and I would do it all over again. But, if I had wanted to pursue a career as a real estate entrepreneur, I would have done it differently. After Columbia, I went to work for Hines as a real estate developer and it was great because I got the development experience that I needed. When I left Hines to work at Angelo Gordon, I was 32 years old. I think that would have been the time to pursue entrepreneurship (if I wanted that career goal).
What is the role of a real estate fund of funds in this current environment? Is there reluctance from institutional investors to pay fees over fees, or is the vehicle more in vogue as a result of investors wanting to deal with fewer managers? Are the fee structures changing? Is there a general consolidation in the industry?
Diversification and specialization, as I mentioned earlier, are extremely important, especially in this environment. As a fund of funds, we have the ability to very carefully craft portfolios with desired volatilities, market correlations, and target returns, within asset classes and geographies. It is very hard for individual investors, even ones with deep pockets, to achieve this. We have a very sophisticated infrastructure of professionals with capital markets and real estate operating experience. Frequently, real estate investment decisions are made by very capable investors with private equity or hedge fund experience who have never worked in real estate. We add a lot of value when these investors invest with us.
Today, as a reaction to the “anything goes” pre-Lehman era, investors are looking for more involvement in the investing process. They are not comfortable giving managers too broad a mandate. They want to use separate accounts, be a part of individual deal investing decisions, co-invest and consolidate into fewer fund managers. This creates a greater need for funds of funds and it is a great place for us to add value. Especially if, for example, they want to invest in the East and West Coasts of the United States, we know the fundamentals and industry participants (e.g. rent, population growth rates, occupancies, deliveries, developers, brokers) in California, Seattle, Boston, Atlanta, New York, and Miami. Most important, we know the best operators and fund managers in those markets. Although funds of funds are quite new for the real estate industry, they have existed for a long time in the private equity and hedge worlds.
We do charge fees on top of what our managers charge. However, the funds-of-funds model is actually cheaper, unless you (i.e., pension fund investor) have the resources to achieve proper real estate portfolio construction in-house. Even then you would have to compare the costs of those additional in-house resources with the cost of the funds of funds. Compared to an allocator fund, we are also less expensive since the operators are being paid a promote in both structures, but our fees and promote structure are quite a bit less expensive than the allocators.
What are your thoughts on geographic allocation? Are there any emerging markets you find particularly interesting? Would you advise students to seek job opportunities abroad?
We are big proponents of international markets. I’m a big believer in emerging markets. Everything is risk adjusted so you have to be very careful. Geographic diversification is extremely important, even within the United States. Traditionally, U.S. coastal markets have performed better than places like the Midwest, Southeast, or Texas, where there are no barriers to entry (Southeast and Texas). At Metropolitan we like coastal U.S markets.
Internationally, we are investing in Japan, China, Northern Europe, and Brazil, to name a few. Again, returning to risk adjustments, in today’s market, if we can get our desired returns in Tokyo with existing product and an in-place rent roll, why go to Guangzhou and take lease-up, construction, and sovereign risks? We are taking advantage of distressed owners more than distressed real estate. That said, you have to be where the growth is, and it is happening in emerging markets. I think Sam Zell would agree with this.
How do you consistently make 20 percent returns in the United States? It is certainly not by buying a widely marketed office building and counting on rent growth and cap rate compression to produce returns. I just talked to our partners in São Paolo and there is such office-space demand now in Rio (not only from Petrobras) that you can see those kinds of returns without a lot of asset restructuring/repositioning. In those high-growth markets, it’s the macro play that makes sense, but it’s certainly not for the faint of heart.
What real estate sectors within the United States do you think present interesting opportunities given the current credit market conditions?
Risk adjusted, the debt plays are very compelling to me, whether it’s “loan-to-own” or origination of high-yield debt. There is a lot of deleveraging that still has to occur. I’m not talking about loans on core assets in New York, but the small, transitional assets, usually in non-gateway U.S. markets.
In terms of property types, that is harder and it depends on where you are. We are still making money on multifamily because even though it’s expensive, there are still ways you can add value through operating leverage. If you can buy a building from a local mom and pop, and add this operating value, there is a lot of money to be made. That said, it is hard to make our kind of unleveraged returns when you are buying multifamily in California at 4.5 percent caps.
On the other end of the risk spectrum, there is an argument for suburban office. It is scary, probably more so than emerging markets. There are 25 percent vacancies, low or no barriers to entry, and you have short three- to five-year leases. But, if you can buy a good building for $50 per foot and everybody else’s basis is $150 per foot, you are going to get your building leased and make money, even if the market doesn’t get better. Again, this is not for the faint of heart. I can make an argument for any property type. Opportunities need to be analyzed on a case-by-case basis.
Industrial never gets too crazy. There is such a narrow band there. The fundamentals are very strong right now. It is hard to get high yields unless it is in areas like development. If you are able to build to core and take advantage of the arbitrage, that is a good business. We have managers that are doing this in growth markets within the United States where demand is strong.
I love retail, but you have to know what you are doing. It is a very risky business. There are many subsectors within retail—e.g. malls, necessity-anchored strip centers, lifestyle centers, power centers. Few retailers have good credit right now. A lot of big-box centers were built on the outskirts of cities, and who knows when those things will come back. So many B malls in the United States are going to die. There is an opportunity there. You can buy a B mall and re-create it into a lifestyle center. One of our managers did that very successfully in Utah. There are always good opportunities in retail for those who are good at it.
How did you come to join the adjunct faculty, and what do you enjoy or gain most from your teaching?
It is because of Professor Lynne Sagalyn that I ended up teaching. I first started teaching individual class sessions for people I knew at Penn and Wharton. I would usually come in to teach a private equity class within a real estate course. I have always loved it. Finally, after enough years, Professor Sagalyn gave me the opportunity to have my own class at Columbia Business School. I’m very grateful for the risk that she took. The first couple of years I co-taught the Real Estate Project Class with other professors from whom I learned a great deal. In the third year, I started teaching it on my own and made it what it is today.
There are several rewarding aspects about teaching. The thing I love the most is watching my students excel in the real world. Jane Yang [’10] sponsored one of the class projects last semester. She has amazing experience and has become a big part of our industry. She was in your shoes just three years ago.
What book(s) are you reading right now?
Since I have a young family and two jobs, I don’t have a lot of spare time. I also have a lot of hobbies—e.g. wrist watches, wood boats, car racing, I used to be a pilot. I could keep going. A book I recently read is called Conquering Gotham. It is about the building of Penn Station and the tunnels underneath the Hudson River. I just started reading a book called Devil in the White City about Chicago in the World’s Columbian Exposition in the late 19th century.
What has been the most rewarding take-away for your professional life from your MBA days at Columbia? How advantageous is the New York location for real estate-focused students? In what ways did it help your career?
I was an undergraduate art history major. So, I really learned a lot at Columbia. The school gives you so many “tools.” Additionally—and everybody says this, but it is so true—the relationships you forge are priceless. I am in contact with my Columbia classmates all the time. When I bump into Columbia alumni in a business situation, there is an instant bond.
I am a huge believer in New York. I think if our school were elsewhere, we wouldn´t have the opportunities to have fantastic speakers come into class, walk deals, etc. If you think about it, even the profile of the students that want to live and study in New York is different. For our business, what is a more quintessential real estate environment than NYC?