How an Online Marketplace Tackles Illiquidity in CRE Investments

The illiquid nature of private real estate investments is one of the biggest challenges for sponsors and investors. One company hoping to change that is Realto Inc., which has built a web-based marketplace aimed at providing a secondary trading method for illiquid real estate and alternative securities.

The Overland Park, Kansas-based company is trying to improve the difficult and time-consuming process of exchanging private real estate, making it easier and more lucrative for brokers, wealth managers and investors. Currently, the platform allows unlisted REIT investors to have a secondary liquidity event, and it will soon accept investors of any type of fund structure.

“For so long, the secondary liquidity market has been unregulated and unfair, with vulture funds trying to take advantage of frustrated investors by making heavily discounted mini-tender bids – 25% to 30% less than they’re not worth it,” says Don Hancock. , CEO of Moloney Securities, a St. Louis-based brokerage that leverages Realto’s platform to sell non-traded REIT stocks. “But now investors can set their own price and find a buyer in an open market. It’s the disruptive technology we’ve been waiting for.

Billions of denied requests

Whether an investment vehicle is structured as an unlisted REIT, a fund, or a single-asset LLC, sponsors struggle to allay investor concerns about lack of liquidity, which often ends up dissuading investors from which can be lucrative investment opportunities. In the past, opportunities for daily liquidity and transparency did not exist in the secondary trading of real estate and other illiquid securities.

“The biggest obstacle to fundraising and the biggest frustration for investors is the uncertainty of the holding period and/or exit strategy,” said Realto CEO and co-founder Brian King. “A lot of these unlisted REITs are seven to ten years old and a long way from exiting.”

Historically, investors who were unwilling (or unable) to wait for a liquidity event such as an IPO or portfolio sale had only two options: redeem their shares/investments through the issuer or offload of their interests through a mini-tendering (take-over bids for less than five percent of a company’s shares). Neither option is ideal.

Since most non-traded REITs have annual redemption limits, investors usually end up on a waiting list. Unlisted REITs have billions of dollars in their buyout queues, and that doesn’t even include investors looking to sell their stake in private funds or LLCs.

“We are aware of a sponsor with $130 million in investor requests in its buyout queue and no way to fulfill them,” King notes.

While there’s nothing inherently wrong with mini-tenders, many investment firms have a history of preying on retail investors who don’t know they now have another option. The problem is so widespread that the SEC provides specific advice to investors on its website, warning them that these offerings are catching investors off guard.

“Many investors who hear about mini-tender offers sell their securities without investigating the offer, assuming that the price offered includes the premium typically present in larger traditional take-over bids,” according to the SEC website. “But they later learn they can’t back out of the offering and may end up selling their securities at below-market prices.”

According to King, “Investors aren’t looking for a secondary market for these assets because it doesn’t exist. When you’re creating something that didn’t exist before, the biggest hurdle you run into is creating awareness and letting people know that there are other alternatives.

Build relationships with brokers

Unlike crowdfunding companies, Realto focuses on secondary transactions over primary transactions. “We don’t necessarily help someone raise money for a particular building or fund, but a sponsor could use our platform to enable secondary transactions in that fund,” King says. “There are literally trillions of dollars of opportunity for this.”

Realto received brokerage approval from the Financial Industry Regulatory Authority last November, allowing it to launch its first transaction: Class B restricted stock of Phillips Edison & Co. The Cincinnati-based company, one of the largest owners and managers of grocery stores – anchored centers, completed a $478 million IPO in July 2021.

Earlier this year, Realto’s platform obtained Alternative Trading System (ATS) designation from the SEC. As an ATS, the company can now authorize additional order requests and bilateral quotes.

After successfully closing its latest venture capital round in May – $4.5 million led by Firebrand Ventures with investments from KCRise Fund and other key contributors – Realto plans to open its platform to private real estate investments. The company is taking a traditional approach rather than tokenizing it or using blockchain, according to King.

The influx of funds will allow Realto to expand its team of software engineers. “Technology is the lifeblood of the Realto platform, and we’re focused on expanding that team,” King says.

The company is also looking to increase its workforce in the areas of operations, legal, compliance and sales. Its sales team is responsible for building relationships with real estate brokers and developers to create a steady flow of supply on the sell side.

Many brokers who have bought shares of unlisted REITs need a way to get those investments off their books, says Hancock of Moloney Securities. And it’s not uncommon for broker trades to get stuck with hundreds, if not thousands, of orphan accounts that a secondary liquidity event would resolve.

“Our desire is to work with brokers – we’re not trying to take business away from them,” King says, adding that the company has created a tool called Advisor View specifically for brokers and brokerage firms to have visibility and transparency. . in their transactions.

Win time

Given the pent-up demand on the sell side, as well as the buy side, it is reasonable to wonder why no one has addressed the issue of providing secondary transactions in illiquid real estate and alternative securities before today.

“I think it’s just too tedious for someone to try to accomplish,” King said. “But when you can leverage technology, it’s very, very scalable.”

Previously, the exchange of securities was very paper-dependent and usually required medallion stamps, which ensure the authenticity of a signature authorized to transfer securities. The whole process was cumbersome and long; investors had to wait 10-12 weeks to get their money.

Thanks to technology, Realto was able to circumvent these obstacles. Its platform is fully electronic, allowing buyers and sellers to create online accounts and use electronic signatures to complete transactions. The company was able to establish its own automated, centralized clearing mechanism that executes and settles trades within three days.

By leveraging technology, Realto has also been able to reduce transaction fees that sellers have traditionally incurred. The company charges a 2.9% transaction fee to the seller, significantly lower than the 6.0-12% that buyers and sellers are used to.

Realto has developed software integrations (APIs) that connect and interface with multiple broker organizations. Additionally, it has already established relationships with the two leading transfer agents in the industry and will be rolling out APIs with them so that real estate investors can simply click a button within the transfer agents’ platforms to sell.

“It’s something we couldn’t offer our customers before, so it’s a win for us,” says Hancock.

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