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Opportunity Zones Podcast
Inside the OZ Fund That Skips Development Risk (Episode 387)
00:33:47
With Michael Treiman
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Transcript40 lines
- [00:00]
A
Almost every Opportunity Zone investment you've ever seen is a development deal, ground up construction two or three years before, a single dollar of cash flow and a whole stack of risk. Construction risk, lease up risk, financing risk, all stacked on top of the tax play. But my guest today built a fund that does the opposite. Stabilized assets, cash flow from day one, and Opportunity Zone benefits without the development risk. And along the way, it could also be a lifeline for OZ developers. We'll cover this next. On today's show, you're listening to the Opportunity Zones podcast, the number one show on opportunity zone investing, brought to you by opportunityzones.com and now here's your host, Jimmy Atkinson. Welcome to the Opportunity Zones Podcast. I'm Jimmy Atkinson. Today I'm joined by Michael Triman, president and CEO of ST Standard Asset Management and Investments, also known as Sami or Sami. Mike joins us today from Los Angeles. Mike, how you doing?
- [01:04]
B
I'm great. Thank you for having me on the show.
- [01:06]
A
Absolutely. Michael, we've known each other for several years in the industry, working together. You're a member of OZ Insiders. Now for anybody who may be unfamiliar with you and Sammy, who is Sammy, give us a quick background on who you are and how you got into the Opportunity Zone space.
- [01:23]
B
So Standard Asset Management Investments is the investment arm of Standard Management Company. And we invest in long term multifamily, whole place just stabilized assets and we are long term holders. We've held the average length, we've held our current portfolio is over 15 years. And when the Oz program came along, 2018, it was just a huge natural fit for our company. By way of COINCIDENCE, We've got two multifamily assets that are actually located in OZ 1.0 tracks. They were obviously not OZ 1.0. They were bought well before the OZ program came. But having had that experience of operated OZ located assets and being a long term hold investor, it was just a natural fit for us to come into the OZ space.
- [02:23]
A
So let's talk about that a little bit more. I want to get more of your origin story and your core thesis and also why now? What led you ultimately to launch this Opportunity Zone investment strategy around stabilized assets rather than development? And why is now, as we're sitting here recording this in June of 2026, the right moment for this strategy?
- [02:45]
B
Well, two reasons. The first is the long term vision. And the longer term vision was always that there was always a sense there was a misalignment, that OZs were a tremendous advantage for long term investors. But long term investors typically are not looking to take development risk. It's sort of antithesis to the thesis of what a long term investor is typically trying to get involved in. So that mismatch was something we set out to solve a long time ago. And essentially what it comes down to is our company takes that risk of getting it to stabilization and then once the asset is stabilized, we put permanent financing on it, which we figure is sort of the last moment of de risking a stabilized multifamily asset. And at that moment from that appraised value of the stabilization or an independent appraisal, that's what our fund invests in. So we take that risk of getting it to that moment and then the investor gets the ability to come in at the stabilized value and get the full benefits of the OZ program, which we always thought better aligned. The risk return profile of the different investors. The long term investor who really is in the wealth preservation space, we figure is going to want that sort of lower return, lower risk profile come in when it's de risk happy to take the lower returns and get the tax benefits from it. And it's happy to hold that for 10 years as a wealth preservation device. The other investors who are more of the development risk, merchant capital sort of space, they are happy to, we're happy to have invest with us, or we do it ourselves and simply support the developers to get it to that moment when the fund can invest in it. And with tax advisors, we've been able to structure it in a way so that it meets all the OZ benefits of being able to do that. The second part of your question, which is why this moment in time is that plan has been one that we've been working on for going back almost to 2018, just trying to deliver that thesis. The market just happens to be very ripe right now for the ability invest. We still partner with development partners who are out there, you know, bringing things out of the ground and there will be some of that invested capital and we'll do a forward contract to purchase those out. But there's a whole nother bucket of of oz owners, the 1.0 owners that through no fault of their own have gotten crushed by the higher interest rate, higher cap rate environment and the glut of investment that all hit the market sort of in this 2023-2025cycle and are working through that simultaneously the burn off of the inventory and the higher cap rates. And they're all coming up on either construction loans or trying to get out of a construction loan into permanent financing or bridge Financing and there's this unplanned for capital call. So we work with our fund to be able to be a partner for those funds to come in and, and provide necessary capital just to bridge them through. And we're better aligned typically to do that than say a typical bridge lender or something like that who's trying to get in and out in a couple of years. We're in there for the long run as a co partner with them. And so it just worked out really well that this moment in time allows us to enter into that sort of cycle dynamic and provide great investment returns for our investors, a great sort of bridge through for existing OZ deals and it sort of becomes a win win all the way around.
- [06:30]
A
I want to go back and unpack a little bit what you said in the first part of your response that there was a, I guess there does exist a mismatch between what the program is designed to do. Build more buildings, build more businesses, create more economic activity which leads to development risk. Right. And who should be investing or who is the typical profile of a, of an investor in a long term 10 year plus hold strategy. There's a little bit of a mismatch there. So you've developed a solution to this. And by the way, it's interesting. I have a slide in the presentation I give at every OZ pitch day I do. I open up the show with an Oz 101 crash course essentially. And one of the slides in there is, is what does an OZ investment typically look like on the risk reward or risk return curve. Right. And I do show that typically, not always, but typically we're talking about real estate, we're talking about alternative assets which carry a little more risk but also a little bit more higher potential for return. But then even within the real estate category, it's on the riskier end of the spectrum. We're talking about more opportunistic development type deals. We're not talking about a light value add. We're certainly not talking about a core or core plus holding for the vast majority of opportunity zone real estate deals because of how the program is structured to work. But I think you've unlocked a strategy here which does allow for essentially what is a core plus hold strategy or core plus asset investment for an opportunity zone investor. So first of all, am I, am I correct there? And then second of all, can you walk through what the economics actually look like? Because we're not seeing IRRs in the high teens or the 20s like you might typically see. It's a little bit More on the lower risk end of the spectrum, right?
- [08:31]
B
100%. First of all, on your first. Yes, you're 100% correct. Turning to your question about the risk return profile, you're absolutely right. But you know people who do development, right, they're looking for the high 20 kind of return profile. And the moment you put that into a 10 year fund and you got to hold that asset for another seven years after you developed it, you've taken that 20 and you've diluted it back down to a 13 or 14. So you've been forced to take that 20 IRR return and you diluted it down. So why take that return? You would rather go out and just do development deals. So that's the mismatch for the development capital. And on the wealth preservation side or sort of the patient capital, they're just the opposite, right? They don't want to sit there and go through that development risk just to get to the benefits they're looking for. Because the development risk for a 20 to get a 20, you're taking 20 IRR risk. And that's risky stuff. I mean that's just the nature of development is as everybody's gone through, I mean the people coming out of oz 1.0 assets right now, they did nothing wrong. They were great assets, great idea. The timing was terrible. And when you're talking about a three to five year development cycle, you know, a lot of things happen in three to five years that are hard to control way beyond the control of the developer. So that's really what wizard is all about, bifurcating that risk and return into the two different people that want to take it. If, you know, we're happy to take the development risk, take the development returns because we can do that on a portfolio basis. And it makes sense for us, the people who come in alongside of us, which is the patient capital, we provide much lower returns because they're buying in at a stabilized cap rate. We're not telling you you're going to buy this thing at 20% below market. To the contrary, it gets mai appraised at the time it comes into the fund. You're not getting any accretive value because we bought it great or because we did something special. The accretive value was provided 100% by the United States federal government who has said hang on to this thing for 10 years and you will get those Oz benefits. So we are giving core level returns with value add after tax returns with a core level return profile of the underlying investment. And that's the thesis of the entire investment for the patient capital.
- [10:56]
A
And the patient capital likes it because that's the type of investment profile that they're after. And I suspect that they also like the cash flow coming in sooner rather than later too. Is that right? Day one, Day one, Day one.
- [11:09]
B
Our cash flow. Because the investor, the moment they have invest in the fund. And yeah, that three years to cash flow is a, is part of the risk. I mean I always say the real risk on development, for the kinds of development that we're talking about is not actually the sticks and bricks. Right? I mean I know that everybody's thinking about when they remodeled their house and it was 30% over budget and went, you know, a year too long on the construction. Those are not the risks for these kinds of development projects. The people are doing this, they know exactly how to develop it and they come in on cost. The real risk is the time between when the project is started and when it's fully stabilized. And what happens to the leasing market, what happens to the financial markets, what happens to the cap rate markets? All of those things can absolutely devastate an investment when it comes time to permanent finance your way out of it on the back end. And that's the risk that we're going to allow people to avoid because essentially we take that risk for them.
- [12:17]
A
And to your point, a lot of oz 1.0 deals got turned upside down. Because if you think about it, yeah, you made the point. A lot can happen in a three to five year period. If you made an Oz investment in 2018 when the program was new, or maybe 2019 or early 2020. Well, what happened over the next three to five years? We had a global pandemic, right. We had huge spike in interest rates. Just you couldn't foresee those things happening in 2018 or 2019. And that is that, that turned some of those investments upside down, unfortunately. And that's not that, that, that's not a problem with opportunity zones. It was just what happens in a market cycle for real estate. And then we also had a black swan event on top of that. Right.
- [13:02]
B
All of that stuff is actually true and none of that is the developer's fault. I mean the developments were underwritten properly and risk adjusted returns were right there. And there's no, no issue to be taken with the developers. This is just the reality of where they are. But now if they're sitting there in a situation where they're 50 leased and they were expecting to be higher lease, but because of the amount of construction that came out of the ground at that same time. And at the same time that interest rates and cap rates have expanded by probably 75 to 100 basis points over that same period. You can imagine the troubles troubles they're trying to work through to get to permanent financing. That's where we come in and we provide new equity that's patient equity along with them. And it works out great for them because their investors get to when because these things will make money. They're going to be good. It's just they need to get from here to there and we are that bridge to get them there. That is true OZ capital. So it's not like we're trying to get out and, and now they got to worry about another exit in three years from a bridge lender or something like that. We are patient with them. We're right there to the end.
- [14:09]
A
Yeah. I want to talk more about that a little bit later in the show how, how your fund is essentially a rescue capital strategy for developers. Potentially a solution to some of their pain points that they're experiencing right now. But first I want to talk a little bit more about the types of investors in your fund. So not maybe the, the merchant developers who are willing to take on the risk and they want that shorter hold, but more the patient capital. Right, right. So who's, who's writing checks into your fund and has, has also I'm curious, has that investor profile shifted at all as as Oz 2.0 is coming into focus?
- [14:47]
B
No, it's still largely, I'll call it the high net worth investor, the individuals in the family offices that still provides the bulk of the investors. That typically is your patient capital that really is looking for investing for either a good 10 years out or even another generation out. And it becomes a very valuable tool to the RIA community. We got several investors for example, that have taken a bucket of money out of their lifetime exemption, bought into the fund and then what they do is they put that capital aside for their kids and they put in an irrevocable trust for their kids. So that in 10 years when the kids need the money to start a business or buy their first house or whatever it might be, they get it all out tax free. So they have basically taken that lifetime exemption and grossed it up through the OZ benefits two to three times after tax basis and it becomes a very effective. That's the typical kind of people that are looking at this thing. Sort of your younger people who came into a lot of money and are looking for these sort of wealth preservation strategies. Or wealth investment strategies for either themselves or their kids.
- [16:04]
A
Gotcha. So another question that I think might be on the minds of some people watching or listening to this episode right now is because this is so different than what we're used to seeing with opportunities on investments where you do have to take on some risk upfront. There it is, a development deal, typically for real estate. The question is, is this legal? Is this actually Oz compliant?
- [16:29]
B
100% and to the point that we even on most of our deals seek tax insurance and get it at very modest rates. Because this is not, this is not taking aggressive tax positions. I spent my earlier career as a professor in tax and I can tell you the difference between an aggressive tax position and non aggressive tax position. We're not here to give tax advice, but here you're talking about right down the middle of the fairway of what the OZ benefits were intended to be. The OZ benefits don't look at when you invest in the fund, they look at when the fund invests in the property and whether or not that property is what's called qualified opportunity zone business property. And if it meets that definition, it is good property. It will allow the fund to meet the QOZB to meet at 70% test, the QOF to meet its 90% test, which all allows the fund to qualify as an opportunity zone fund. And then that will deliver the benefits when the investors come in. The fund is not relevant to whether or not the property itself meets that definition. Every one of our assets we work with the best in terms of the. Both the, on the, on the accounting side as well as on the legal side, we do not take aggressive positions. We take absolutely appropriate positions relative to, to what the OZ rules are intended to deliver. And we just make it work for the investors. We just align risk return profiles with investment profiles.
- [18:05]
A
Got it. So when an investor, that patient capital investor comes into your fund, the building might already be stabilized, is that right? And fully leased up or on its way to being fully leased up and stable.
- [18:21]
B
As an example, the one we're working on right now is 100% built, has been at 95% occupancy, but has gone through some challenges of late with some new construction that came on board and just financing risk and things like that. So we have come in and provided the additional capital that they need to get to permanent financing which we expect to happen in the next year. But our investors will the fund invest at the MIA price value when that is done. So when that is stabilized and fully on its way, we will get Freddie or Fannie to come in and provide financing. And that mai appraisal of Fannie. And Fannie will provide the value at which our investors in the fund get the investment and they get the tax benefits on top.
- [19:05]
A
And when does the fund invest? When does the fund actually deploy capital into the asset? Is it during construction, before construction, is it post construction? But pre TCO or when does the fund come in?
- [19:18]
B
We do it in a couple of different ways. In some deals it's really specific to what the deal needs. So we look at the deal and obviously it has to be compliant with the OZ rules. So there's two basic ways to do it. The first way is to provide just new capital to an existing opportunity qualified opportunities own fund business, a QO zb and with there we just provide our fund provides new capital to a qualified opportunism business. And because it is a qualified opportunity business, as long as it's a good opportunity, excuse me, a good qualified opportunity zone fund business at the time we invest in, meaning that it's properly registered and it meets the 70% test for that year and years after our fund can invest. And that meets the definition of good QAZV property for our fund. And therefore we will come in even post CFO or any time with new capital and that is fully compliant with the Aussie rules.
- [20:17]
A
Because you're not coming in directly into the asset, you're coming into the holding company, the QOZ B the qualified opportunities. And the qualified opportunities business is already compliant based on how they have deployed capital historically into the deal that meets original use most likely. And maybe sometimes you're doing redevelopment deals that could meet substantial improvement. Do I, do I understand that correctly?
- [20:41]
B
99% of the time it is original use.
- [20:44]
A
Okay, yeah.
- [20:45]
B
The answer is yes, you have it exactly right. So we bring in new capital into existing qualified opportunity zone business and we just patiently ride along with that existing capital that was in that business before and we just hold it. And typically we will take out that other capital at their 10 year mark and continue to hold it till our investors meet the finals. So we'll do a recapitalization on the back end so that the current owner doesn't have to wait the full 10 years for our investors to reach their 10 year mark. And that's the way we do it. And that works for them and it works for us. Other deals, like a true development deal, we will do put some capital in pre TCO and do a forward commitment to purchase it from the fund at the fair market value when it reaches stabilization and that also is fully compliant with the OZ rules.
- [21:37]
A
Excellent. You mentioned a few moments ago this concept of being rescue capital for developers potentially. So unpack that a little bit more. How is your fund potentially a solution for developers and project owners and under what scenarios are you deploying capital in the, the forward purchase scenario that you just mentioned? What, what are you looking for typically and what are the mechanics of, of how that actually works?
- [22:05]
B
Okay, so I'll do both separately. Let's start with the first one because that's the order I did the capital in the first place. So this would be something similar to the deal that I'm doing right now which is a QoZB1 asset fundamentally great location, great project, just ran into roadblocks reasonably the cap rate expansion and the amount of construction. So we're coming in on that with just new capital, new equity that joins in the existing equity and sits side by side with them. And after they reach their 10 year mark we do a recapitalization and take them out so so their investors can move on. And then obviously when our investors get to the 10 year mark then we either sell the asset or continue to do it depending on what our fund needs are and what our investors are looking to do. So that's the situation where we're coming in after construction is going to be completed after leasing has started so well after cfo. So it's not a pre TCO acquisition, it's a true new capital into an existing QoZB and it's fully compliant with the rules. As long as we are not buying out the investors, which we're not because the investors were coming in are patient investors like us, they don't want to be bought out, they want to stay in just like us. So that is fully compliant. It's just new capital coming into an existing qualified opportunities on business fully compliant with the rules and that will continue to appreciate and then at the end of it when it's sold, there's no depreciation recapture for their investors, there's no depreciation recapture. Our investors, there's no capital gains because everybody gets a step up in basis when the Investor reaches their 10 year mark. So that was the first scenario. The second scenario is a new construction project that's still coming to fruition there. We'll put in some capital for the developer so we'll help them meet their capital stack need to get the thing developed to get the project developed. And because we're coming in we will take out the. So if they've got both OZ equity and non OZ equity. The non OZ equity will buy out pre TCO or at stabilization and therefore it gets aligns their capital. They can raise capital from both buckets. They can raise merchant capital and tell them that they're going to get out on a forward sale to us. They can, they can raise OZ capital and that capital can roll along with us for the 10 years and we're happy to have them come along. It allows that developer to solve for both their immediate needs and also to be able to raise capital from both OZ investors and merchant builder capital that are looking for a quicker exit. So we feel like we can be of value in both scenarios. But both scenarios are fully compliant with the Aussie rules and fully compliant with getting the tax benefits for our investors. Good.
- [24:58]
A
And this whole strategy that you've just walked us through, it's. It's not theoretical. You're actually doing this. So. So one of the first assets that you've done this on or actively operating on right now is the watermark at the Navy yards in Washington D.C. right next to where the Washington Nationals baseball park is. So can you walk us through that seed asset? What's the situation there? What was the developer situation? How is the preferred equity structured? And also what do you like about the deal and what do you like about the. The submarket in dc?
- [25:33]
B
So I love real estate, starts with location. That's just the two things that are going to drive any real estate dealer. Location and timing. And I love it for this deal on both of those things. I think that the Navy Yards area of Washington CC has seen incredible gentrification over the last since it was first designated as an Oz in 2018. Some of the finest construction in the city is right there geographically. It's within 70 minutes of downtown of the capital. Great logistic area. And the time in the market is fantastic because as I say, there's been this glut of construction in the market right now and as people probably know, there's going to be a. The music's going to stop because no new deals were really started two years ago right in the middle of the interest rate hike because everything just real estate stopped while things sort of settled out. So you got another two years of Runway with no new construction coming online. So it's just a great location, it's a great asset, it's a great project that was put in place by a solid team and we're just coming in and simply providing additional capital alongside their capital. As you mentioned, it is a preferred equity structure in this deal. But it doesn't have to be other deals. We would look at common equity or other structures that make sense depending on just the, what the deal needs to make it work.
- [27:03]
A
Anything, anything more with, with that deal. When, when did you get that deal started and what are, how, how has the developer responded to you guys coming
- [27:12]
B
in very favorably as you can imagine because it's, it's, it's a hard time for developers right now. So and this has been a very cooperative sort of situation where, welcome situation and, and that's where we are, everybody we work with is because we're providing value and a solution to a problem that wasn't their issue in creating it. And we're here to help give them a way through and that's what we do and we align it with their capital so that they don't have to go through a sale event right now in unfavorable terms and have depreciation recapture and a bunch of other things for their investors. So it provides a great advantages for these investors. So it's very much a symbiotic relationship where we're working together and this, I think that this has been a great outcome for everybody, the existing investors. It's going to be great for our investors. It's going to be great all the way around and it's going to help the community because it's going to allow this asset to flourish.
- [28:04]
A
Good. Well, given your expertise, I'm curious to hear your opinions on or your insights into any trends that you're following, any market trends, potentially multifamily fundamentals, OZ policy and any, any developer distress metrics that you're, that you're tracking that might cause you to increase or slow this, this strategy just curiously like your big picture thoughts on, on, on what you're tracking, what you're watching right now.
- [28:39]
B
So my belief is in two years this strategy won't be around. I think in two years largely the disruption you're seeing in the markets will have worked its way out. So I think that this particular strategy has got like a two year shelf life to it right now. There's a robust pipeline. There are a lot of developers that are dealing with the exact scenario that we're working through on these deals that we're, we're actively involved in right now. But I expect that that's going to end in two years. In two years it will largely be the second pipeline where we partner with the developer. We on our balance sheet put money into development risk. I mean in development deals help the developer get it on a forward sale, take out the non oz equity. In some cases the developer wants to get out and have a crystallization event, some cases they don't. Either way, we work with the developer for what they're trying to achieve and that will be the more core strategy going forward. Either way, the risk profile to our fund is the same because in both scenarios our fund is investing at the appraised value at stabilization. All of that risk leading up to it, whether it's with where we are right now with these assets that got to get to the permanent financing or the new construction that we're dealing partnering with on other developments, that risk is 100% on our balance sheet. The investors that we're dealing with come in at stabilization across the board. So it doesn't change the risk profile for the investor in our fund. But I think that that's what we're tracking in the marketplace is we're seeing a tremendous amount of deals with sort of the rescue capital profile right now and we are angling that in three years there will be several of these development deals that we're now working with the developer right now that will just be coming to fruition as true development deals.
- [30:32]
A
All right, well, we're kind of running low on time here, Mike. Appreciate you coming on the show as, as we close down. Just curious to get your closing thoughts on the opportunity zone landscape and where Sammy fits in. Just curious what, what that landscape looks like and, and how maybe, maybe final point on, on how, how you guys are differentiated.
- [30:54]
B
So again, our company is not in the development risk. That's not where we play. We're a stabilized asset for all of our investors and that's where we think that we can provide alignment by. We take the risk on our balance sheet of getting things to stabilization and then allowing investors to come in to a true stabilized asset in great locations that are up and flowing, cash flowing from the day that the fund invests in them. And that's what we do. We are, like I said, I think at the beginning, our average hold on our current asset is over 15 years and we're looking to continue to do that. That's how we provide good solid returns with low risk profiles to our investors. We just think that this program's unique because it's going to provide closer net value, add returns on a core risk profile which we think there's a place for the high net worth individual or the patient capital.
- [31:57]
A
All right, awesome, Mike. Well, it's been a pleasure speaking with you today. Before we go. Can you tell our audience where they can go to learn more about you and Sammy?
- [32:05]
B
Yeah. Standard management.com is our website and you'll find a wealth of information about what we do about opportunity zones on our website and how to contact us. And we're happy to answer questions about what we do or just more general questions about opportunity zones, et cetera. We think you'll find a lot of information there that you might find useful.
- [32:28]
A
Perfect. And for our audience out there today, if you enjoyed today's show, hit that like button. Give us a thumbs up. Helps us out a lot. Helps us spread the word about this show to the rest of the world. We will of course have shownotes available as we always do on our website@oddortunityzones.com and there I will have links to all of the resources that Mike and I discussed on today's show. And please be sure to subscribe to us on YouTube or your favorite podcast listening app to always get the latest episodes. Mike, again, it's been a pleasure. Thanks so much for joining me today on the show.
- [32:59]
B
I so appreciate you having me on. Thank you.
- [33:02]
A
That's it for today's show. Thanks for listening. The Opportunity Zones podcast is produced by OpportunityZones.com the world's leading authority on opportunity zone investing. This podcast is available on YouTube, Apple, Spotify, and all other podcast listening platforms. Just hit that subscribe or follow button to get all of our new episodes as we release them and we'll be back soon with another exciting episode.
- [33:39]
B
Sa.