REPORT FROM THE U.S.—The concept of crowdfunding has pushed into the real estate sector as an innovative way to fund new projects, including hotels.
The Jumpstart Our Business Startups Act was signed into law on 5 April 2012. The Act removed some restrictions set forth by the Securities and Exchange Commission, including constraints on crowdfunding, a technique for entrepreneurs to raise equity from a large pool of small investors who might not be accredited by the SEC. The Act enables companies to use up to $1 million from investors without registering with the SEC. If the company provides investors with audited financial statements, it can pool up to $2 million from investors. However, individuals can only invest in companies the lesser of $10,000 or 10% of their annual income.
“(Crowdfunding) tends to be what I would call ‘gap capital,’” said Bill Sipple, executive managing director for HVS Capital Corporation.
“What I’ve seen in the few deals that have attempted this has been a situation where they had maybe a certain amount of debt lined up and a certain amount of equity but they had a gap between the amount of equity that they needed and the amount of equity that they had, so they were looking to raise some gap capital. It’s difficult to do from a timing perspective,” he said.
Kickstarting a hotel
Shel Kimen, founder of Collision Works, has firsthand experience when it comes to crowdfunding a hotel. Her concept, a 45-room boutique hotel built from shipping containers, has been an evolving project that is still in its financing stage.
Kimen said the project, as it stands now, will cost $5 million and will be located in Detroit’s Eastern Market, which she said is the city’s epicenter of culture. And that’s exactly where the idea of the hotel generated interest.
“Eastern Market gave us an opportunity to do a prototype,” Kimen said. “That’s when we went to Kickstarter.”
Kickstarter is a website where concepts are posted to entice would-be investors to pledge money in exchange for various incentives. Kimen’s shipping-container hotel concept raised $41,000 in two and a half weeks, Kimen said. The prototype, First Container, was designed as a mini lobby and took nine days to construct. It stayed in Eastern Market for six months to high praise from visitors. And now Kimen is in search of a developer or operator, with a goal of opening the Collision Works hotel in summer of 2015.
Brad Korman, co-CEO of Korman Communities, also has caught the crowdfunding bug. Korman’s joint venture with Shorewood Real Estate Group LLC and Prodigy Network in November acquired a property in lower Manhattan to convert to luxury-serviced residences under its AKA brand. The brand caters to extended-stay guests who rent out the residences for up to month or longer, with an average daily rate of $275 to $300.
AKA owns and operates nine properties, but Korman said the Manhattan project marks the first time his company has crowdfunded. Of the $110 million for the project, $25 million was crowdfunded by foreign investors from six different countries. Prodigy Network, which has experience crowdfunding for real estate, took charge of the process.
Prodigy has had some success crowdfunding. Its first project was a 108-room hotel in Bogotá, Colombia, which drew funds from more than 800 investors. The company crowdfunded three more projects in Bogotá, including a mixed-use property with a 364-room hotel. That project attracted 3,500 investors who contributed more than $200 million. Now the company is bringing its expertise to the United States.
“Prodigy approached us. They had a lot of investors interested in our concept, so we put it all together,” Korman said.
From an operational and management standpoint, crowdfunding hasn’t had an effect, Korman said, adding that Prodigy handled mostly the entire process.
“For us, it really was no different than doing a typical deal with an institutional partner or with our own capital,” he said.
Korman said he did not see any negatives when it came to the crowdfunding process and that his company looks at it as just another way to capitalize a deal.
“We’re talking with Prodigy about some additional opportunities,” Korman said.
A representative from Prodigy Network could not be reached for comment as of press time.
Is crowdfunding worth it?
Sipple said he thinks it’s difficult to crowdfund a hotel, adding it takes too much time.
“If it’s a new development deal—a new construction project—I think people are going to have to wait quite a while for their return, so I’m not sure that will be that attractive,” he said. “If it’s an acquisition of a property, then it’s difficult to raise the money in time to execute against the transaction because if you’re the seller in today’s market, where you don’t need to have a lot of contingencies on the part of the buyer because there’s a shortage of hotels that are coming to market right now, you’re not going to wait months for funding.”
“Word of advice to people who want to crowdfund, it is extremely demanding,” Kimen said.
She said there are steps to ensuring a successful crowdfunding experience, including:
- be media-savvy;
- have a team of people to support the project;
- start at least four weeks before launching a campaign; and
- have a supportive community already established.
“You use (crowdfunding) to mobilize a community you already have,” Kimen said. “During the campaign … you have to find clever and interesting ways to let people know what’s happening. It’s constant engagement.”
“For the capital-raising party there are a lot of potential pitfalls … because hotels are primarily a business with a significant real estate component,” Sipple said.
He said hotels aren’t strictly real estate deals like an office building or retail center.
“I think that if there’s an opportunity for there to be misunderstandings or problems it’s going to come out of the fact that (hotels) are operating businesses and management-intensive,” he said.
“I’m not sure that a less sophisticated investor that would probably be involved in this crowdfunding type of concept is going to have a full appreciation of how important the business aspect is to a hotel’s success as opposed to the real estate aspect,” he added.