Fractional real estate debt: Q&A with CrowdProperty’s Mike Bristow
During the research process for Pi Labs’ latest white paper A piece of the action — innovations in fractional ownership and use of space, I sat down with CrowdProperty’s Mike Bristow to better understand their approach to fractional real estate debt. CrowdProperty offers a full suite of property project funding, catering for all project finance needs including development finance, refurbishment finance, bridging finance, development exit finance and auction finance. Alongside our Managing Partner, Faisal Butt, Mike is also a voting member of Pi Labs’ Investment Committee.
Michael, tell us how CrowdProperty came about
Back in the early-2010s, three of us investing in UK residential real estate (with a combined 75 years’ experience) kept on experiencing the pain faced by small-medium enterprise (SME) developers when raising finance for their projects. Banks and non-bank lenders weren’t understanding and serving customer needs; they lacked the certainty delivered by diverse sources of capital; and didn’t understand what it’s truly like to walk in the muddy boots of a property developer. We figured there was a gap here — an opportunity for a much more customer-centric proposition. We wanted to become a partner for SME developers. In other words, property finance by property people–a distinct customer proposition.
…but why crowd source the finance?
You can split real estate financiers into two main groups: banks and non-bank lenders. Members of the latter group, which we currently form a small part of, usually have a single source of wholesale capital (i.e. an investment bank, asset manager, debt fund, etc). We saw this as a problem. We realised quite early, from both our own experience and extensive research, that alongside speed and ease of finance, developers highly value reliability of that capital, and concentrated sources of capital cannot guarantee this. The global financial crisis (GFC); the COVID-19 pandemic; and Kwarteng’s 2022 UK budget are three examples. In times like these, if a non-bank lender’s single source of capital hits pause, offers will be reneged upon at best. At worst, the developments they’re funding are effectively dead in the water through drawdowns being stopped, which happened a lot during the early uncertainty of the pandemic. In order to mitigate this risk, we opted to diversify our sources of capital. However, I believe it gives off an inaccurate impression to call this model “crowd sourced finance”. It’s not what we’re about. We are a specialist property development lender. We provide developers the certainty of finance they need from diverse sources of capital, including many institutional sources that now provide the majority of our lending capital. The UK does not build enough homes and our proposition is unlocking the potential of small and medium sized property developers to build those much needed, under-supplied homes; helping to grow their businesses quicker; and drive spend in the economy on labour, materials and services.
What challenges arise from raising small amounts of money from a large number of investors?
As a marketplace aimed at balancing supply of capital from investors and demand for capital from property developers, we had to put a lot of time and effort into building out each side. As asset-class experts, we worked exceptionally hard to bring high quality, rigorously assessed lending opportunities to the platform. Logically that would attract capital, but it’s not a certainty and we then had to work hard to balance the marketplace, and then keep it in kilter. At the beginning of 2023, we had over 20,000 active investors. Our problem isn’t raising small amounts of capital from each of them, it’s the opposite: being able to provide them with enough high quality new developments that meet our exacting underwriting credit criteria to fund — for which we’ve built a uniquely direct route to market attracting over £300m of funding applications per month. I believe another big part of our success has been our decision to offer secured debt rather than equity. Equity is more volatile, is usually open ended (how do you get out?), very risky and can rapidly go to zero. A retail investor might only invest £2,000 in a single project, but since we’ve done well by them, they come back again and again to fund more projects. Our average platform investor has invested in over 60 projects, achieving excellent diversification–a fundamental pillar of investing.
On the topic of ‘getting out’, how do your investors exit their positions?
Generally, the time horizon for our investors is around 15–18 months. The developer raises debt, gets on with the project, and pays everyone back. Developments can run late, but we work hard to support the success of the project. We very purposefully haven’t created a secondary market for investors to exit their positions early. They are shorter positions and many issues can arise from secondary markets, especially in real assets. The question for investors in these platforms is: will the asset be sold after some period of time with proceeds returned to fraction holders, or do I need to try to sell my fractions to somebody else on a secondary market? If the latter, how active is the secondary market? How long would it take to sell my fractions and what sort of discount would I have to offer? And for the buyer (as there needs to be buyers for functioning secondary markets), why is the seller selling?
Many fractionalisation platforms pivot from retail to institutional capital. Has this also tempted you?
Servicing retail and institutional investors are two very different business models, but we have managed to service both very effectively. We started out with retail investors, but over time institutional investors began knocking on our door trying to figure out how we were delivering such superior performance. Two major contributors to this were: 1) the expertise of our team enabling us to find, negotiate and partner with some of the best projects; and 2) the technology-enabled disintermediation which has allowed investors and developers to essentially hand money from one party to the other on our platform in a frictionless way (see Figure 1). Five years ago, 100 percent of our capital was sourced from our platform (retail) investors and now it’s around a third. It’s interesting (and even ironic) that whilst marketplace lending disintermediated lending value chains by more efficiently matching the supply (from individual owners of capital) with the demand (those creating value with that capital) benefiting both lenders and borrowers, major institutions then re-intermediated because of the efficiency, efficacy and scalability of our model. They also benefit from the fractionalisation piece that delivers unique levels of diversification in the fundamentally lumpy asset class that is property development lending.
How does credit criteria and other limits impact your ability to scale?
Well, to put it into perspective, we’ve assessed over £12 billion worth of funding applications for property projects and have agreed to a little over £400 million of debt facilities. This has funded over £650 million of residential real estate development (which equates to the building of more than 3,000 homes). This means we’ve funded 3–4 percent of the applications we’ve received. A portion of our applicants who didn’t proceed simply didn’t acquire the land (they may have been outbid, for example). Others didn’t meet our credit criteria, which could be due to concerns around the profitability of the project, deliverability, or a combination of both. When it comes to our ability to scale, we estimate that a quarter-to-a-third of homes in the UK are built by SME developers. If the UK was to build 300,000 homes per year, that’s circa-£45 billion of debt funding, leaving our target market with £11–15 billion to borrow per year. That gives us a lot more opportunity in the UK, but we’re not limited to that. We’ve found that the issues facing UK housing developers are also facing property developers overseas. We launched CrowdProperty Australia in May 2021 and it is growing at a significantly faster rate–achieving the funding pipeline in one year that took the UK business over 3 years to build. However, our key focus remains building market share in the UK by brilliantly serving the needs of residential property developers, underpinned by highly scalable technology in a market wide open for our differentiated proposition.
This article is an excerpt from our latest white paper A piece of the action — innovations in fractional ownership and use of space. Join our mailing list to receive our latest research straight to your inbox.
