Investor returns for hybrid RE / Business Acquisitions

January 30, 2025

by a searcher from University of Texas at Austin in Dallas, TX, USA

Hi, I nearly have a deal under LOI for ~$2M of RE and a ~$1M business acquisition. I'm entertaining a couple different financing options on the debt side, including SBA and seller notes. However, my biggest questions lay on the equity investment side.

Even with J-curve growth assumptions and modest growth afterwards, I'm able to get DSCRs to pencil pretty nicely with ~20-25% equity contribution. I have some capital to contribute to the deal but I will need to raise funds to execute this deal with the debt service coverage where I want it. If helpful, the RE is in a solid location in Texas where the population is projected to double in the next###-###-#### years.

I have normally explored pure business acquisitions where I aim for ~30-40% IRR for investors. However, the RE aspect of this deal makes it more difficulty (and I think less necessary?) to provide that level of returns. I understand search investors look for ~30%+ IRRs and CRE investors often look for ~15%, but what would be a reasonable way to present a deal like this to investors and raise capital. Do I need to separate out the deals into the business and RE and pitch them as separate investment opportunities?

I appreciate any insight on this, thanks!

Reply by a searcher
from Babson College in Bethesda, MD, USA

Business deals and real estate deals are fairly different transactions that mostly attract different investor profiles. A non-development, income-producing commercial real estate deal should have less volatile/more predictable income and is generally viewed as a safer investment. So, most private equity real estate deals are set up with a preferred rate of return of around 8% (at least where I live) with a roughly 50/50 split of income (the split varies) above the hurdle rate. So, in my opinion, you should set the two transactions up as separate...ideally however you build in some flexibility for the business. For example, you may be able to set it up with slightly below market rent so that if the tenant wants to leave, you can find a new tenant at a slightly higher rent and move your business.

On a separate note, I have had great luck with seller financing. I've done about 6 seller-financing deals and each one was interest-only for 5-years. If you explain the tax benefits to a seller, I have found it is easy to get interest-only financing. That results in significantly lower loan constant and thus a much higher cash on cash return. Alternatively, if you set this up as a single transaction, 5% interest-only financing results in an annual cost that is roughly half the cost of leasing (in my market at least). Also, if you can bring about a 35% down payment to the deal, you can get conventional financing which has a much lower interest rate, and fewer strings attached than an SBA loan.

Reply by a professional
from Rhodes College in Austin, TX, USA

Hey Anon - there are several ways to do this but one strategy we see several of our searchers/sponsors use is the sale- leaseback strategy where the operator sells the real estate to a commercial real estate investor/firm and then lease it back from them under a longterm agreement. This does help with the IRR issues you run into with the RE being worth more than the acquisition but does come with baggage that might not be appealing. Biggest issue I foresee is you would lose out on any RE appreciation over the term of the agreement BUT you can use that cash form the sale for any working capital or growth. Happy to chat more about this is you have any questions. Feel free to send me an email at redacted

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