Would you rather a sponsor take real fees and a small promote, or almost no fees and a big one?

I'm still learning how private capital moves and this framing helped me more than any article I've read. One thing I notice: B's 1% of collected revenue on a 130-unit deal is real money, maybe $18k a year, which isn't nothing. So B isn't actually eating air, they're eating less. Does that change the alignment argument at all?

@sable, it changes it a little. $18k a year doesn't fund a team though, it funds part of one person. My worry with B is who's actually doing the asset management in year three when the fun part is over.

Run the numbers before you argue about philosophy. On a $2.5M raise with a $7M purchase, A takes roughly $140k at close and disposition combined plus $35k a year, call it $315k over five years. B takes about $35k at close plus $18k a year, call it $125k. So the fee difference is $190k of your money over the hold, which on $2.5M of equity is about 7.6 points of total return. Then ask what B's extra promote costs you at various exits. If the deal returns a 14% IRR, B's fatter split probably costs you more than the $190k you saved. If it returns 9%, B is cheaper and A is getting paid for a mediocre outcome. So the question isn't which structure is better, it's what return you actually expect.

I'd want to read both operating agreements before I picked, because the headline terms you've quoted are maybe half the story. Things I'd check on B specifically: is the pref cumulative and does it compound, is there a catch-up tier before the 60/40 that you haven't seen, is the 16% IRR measured on contributed capital or on some other base, and can the GP be removed and by what vote. On A I'd check what "collected revenue" includes and whether the 2% acquisition fee is on purchase price or total capitalization, because on a heavy value-add those are very different numbers. @ledger's math is right and it moves by 20% depending on which base you use.

@fathom's catch-up point is the one I'd chase first. I've read decks where the promote looks like 80/20 and the waterfall inside the agreement has a full GP catch-up that pays the sponsor 100% of distributions until they've caught up to their 20% of all profits including the pref. That single clause can move the LP outcome by a couple of points a year and it never appears in the summary page.

Underwriting is my whole job so I'll say the unpopular part. Neither structure protects you from a bad model. I've seen A-style fee stacks on deals that worked beautifully and B-style alignment on deals where the sponsor pushed rent growth to 5% a year in a market doing 2%, because the only way to reach their 16% tier was to assume their way there. @anchor, the swing-harder risk you mention shows up in the assumptions long before it shows up in behavior. Ask B for their rent comp set and their exit cap versus entry cap. If they're exiting tighter than they bought, that's where the 16% is coming from.

I've done a lot of diligence on both shapes and I've landed on A more often, for a reason nobody likes. A sponsor with steady fee income survives a bad two years without doing anything desperate. A sponsor with no operating income during a downturn either raises a new deal to fund the last one or takes a rescue round on terms that flatten you. I'd rather pay $190k for institutional boredom than save it and find out who my sponsor becomes under pressure.

Mostly confused so far but I'll admit what confused me: I thought the pref meant I got 8% no matter what. Reading @fathom's post it sounds like it just accrues and gets paid before the split if there's money. So it isn't a yield, it's a queue position?

@vellum, that's how I understand it too. Nothing gets paid if the building doesn't produce. The pref is just who stands first in line for whatever does get produced.

Voted A, for a reason specific to hold length. On a long hold the promote is a one-time event at the end and the fees are the recurring thing, so B's structure means twenty quarters of a sponsor who's mildly bored by your asset. On a three-year flip B is clearly better. @anchor, how long are these two saying they'll hold?

The service side of my brain reads this as a staffing question. A's 2% of collected revenue buys reporting, an asset manager who visits, someone who calls the property manager when collections slip. B's 1% buys a spreadsheet updated when someone remembers. That's not universally true, but it's true often enough that I'd ask both sponsors how many people work there and who specifically handles this asset.

I want the version that works when nothing exciting happens, and that's A. @canton said it better than I would have.

I'm in the analysis stage and trying to stop being in the analysis stage, so I'll say the thing that would actually decide it for me: which sponsor answered the hard questions faster. @sextant's exit cap test takes one email. Whoever sends the comp set within a day and whoever takes three weeks and sends a marketing page have told you more than the waterfall did.

Problems in progress on my own deals, so from the operator side. B's structure is very attractive to a sponsor who's confident and has cash in the bank already, and it's dangerous for a sponsor who doesn't. If B is a two-person shop living on that $18k a year, the next raise isn't optional for them and you've just become part of a treadmill. If B has a balance sheet and takes low fees because they can afford to, that's the best deal on the table. @anchor, ask B how many deals they have running and what their overhead is. They won't love the question and the reaction is the answer.