In the four years since we started Fundrise, one of the most common questions we’ve been asked is about our underwriting process.
A thorough underwriting process is critical in finding quality real estate investments. Poor or careless underwriting can result in substantial losses.
When evaluating potential investment opportunities, it is imperative that you understand the underwriting that has been performed. Its quality can be an indicator of the quality of the investment itself.
What is “Underwriting”?
Underwriting is the process by which real estate investments are evaluated to determine their viability. This includes reviewing due diligence materials related to the investment in order to assess the various factors that may or may not contribute to its eventual success or failure.
At Fundrise, our underwriting process determines which investment opportunities we pursue and ultimately make available to investors on the platform. We rely on our experienced team of real estate experts to understand the quality of the sponsor or borrower, the business plan, and the underlying asset.
Successful underwriting is largely contingent on the quality of the team performing the due diligence, with individuals that have evaluated and stress tested thousands of projects and have learned from first-hand experience.
At Fundrise, our in-house team of industry specialists performs all of the due diligence and underwriting for our investments. Our real estate team has over 100 years of collective development experience, and has underwritten more than $4B in real estate.
This means true on-the-ground experience in purchasing, investing in, developing, and owning real estate… not just analyzing other people’s projects. We know what it means to have money at risk in a deal.
We believe that the “jockey” is just as important as the “horse” when investing in real estate. For this reason, we begin by digging into the real estate company’s previous experience and track record.
After performing a full review of the sponsor and their financials, we select only those groups that are well-capitalized and have a strong ability to succeed in top US markets.
Only 25% of sponsors we review are approved to move past this step.
Initial Project Due Diligence
If a company passes the background review, we begin initial due diligence on the project itself to be sure it fits within our guidelines.
Fundrise focuses on projects where our position has a relatively short-term expected payout of 1 to 3 years and is structured as Senior Secured Debt, Mezzanine Debt, or Preferred Equity. This means that in any Fundrise investment, investor money is senior to the sponsor or borrower. In other words, Fundrise investors must get paid back their principal and any owed returns before the company is able to realize any profits.
We believe that this mitigates overall risk by aligning the interest of the investors and real estate company appropriately.
When both the sponsor/borrower and their proposed project meet the Fundrise criteria, a lead underwriter is assigned and the detailed underwriting process begins.
Phase I Review:
- Business plan (investment strategy)
- Risk/return profile
- Existing financial sources
- Proposed financial uses
- Exit strategy
Phase II Review:
- In depth market analysis including study of comparable properties
- Third-party reports
- Phase I and II Environmental
- Appraisal (Current and Stabilized)
- Engineering (Property Condition Report, Geotechnical Report, Seismic Report)
- Budget analysis including detailed breakdown of construction costs
- Architectural plans and site plans
- Pro-forma financial analysis
- DSCR/LTV sensitivity
- Investment structure
- Legal/organizational structure
- Third party references
- Site visit and walk-thru
Our underwriting team completes an extensive analysis and review of all these points. The total underwriting checklist contains more than 75 different data points.
As an example of the type of analysis done, below you can see how the exit strategy is thoroughly evaluated and different scenarios are stress tested to understand the potential risks to the investors principal and potential returns.
By the end of the underwriting process, less than 2% of all submitted projects will end up on the platform for investment. This is our commitment to quality.
Image Source: Christian Schnettelker, Flickr