Tax-Advantaged Real Estate Strategies, With Keith Lampi

Tax-advantaged real estate investments are a proven way to enhance triple-net returns for family offices and VHNW/UHNW investors. But which sectors and strategies have the most momentum in the current macro environment?

Keith Lampi, president and CEO of Inland Private Capital Corporation, joins the show to discuss his firm’s leadership in the tax-advantaged space, and which sectors and structures may hold the most appeal for investors right now.

Episode Highlights

Background on Inland, and how the company was a key player in the creation of the 1031 DST product from the very beginning.
The major trend lines of DST adoption and inflows, including through the Financial Crisis of 2008-2009 and up through the current record-setting year.
How a 721 exchange / UPREIT compares to a 1031 exchange / DST (and why an investor might prefer one of these product “wrappers” to the other).
Which sectors Inland is investing in right now, and why the company is looking outside of some of the more traditional CRE sectors.
Inland’s approach to due diligence, and how the firm’s longevity has helped to shape its underwriting approach.
Where Keith finds opportunity in the current market (and why cap rates don’t tell the whole story in respect to valuations).

Featured On This Episode

The History Of The DST (1031corp.com)

Today’s Guest: Keith Lampi, Inland Private Capital Corporation

About The Alternative Investment Podcast

The Alternative Investment Podcast is a leading voice in the alternatives industry, covering private equity, venture capital, and real estate. Host Andy Hagans interviews asset managers, family offices, and industry thought leaders, as they discuss the most effective strategies to grow generational wealth.

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Show Transcript

Andy: Welcome to the “Alternative Investment Podcast.” I’m your host, Andy Hagans, and today we’re talking about tax-advantaged real estate strategies, a topic that is near and dear to my heart. So, I’m very excited that joining me today is Keith Lampi, President and CEO of Inland Private Capital Corporation. Keith, welcome to the show.

Keith: Thanks for having me, Andy. Happy to be here.

Andy: You know, I’m sure plenty of the LPs, family offices, RIAs who listen are already very familiar with Inland. But before we dive in, could you provide us with a little bit of background on Inland Private Capital Corporation?

Keith: Absolutely. Yeah. Obviously near and dear to my heart. So, Inland Private Capital Corporation is one of the Inland Group of companies. Inland was actually founded well over 50 years ago. Inland Private Capital, about a year and a half ago, celebrated its 20th year in the business. So, Inland is a vertically-integrated organization. We have a lot of different companies underneath the Inland umbrella. Inland Private Capital, or IPC, is its largest subsidiary. We have just a touch over $12 billion in assets under management. And our focus is in identifying opportunities throughout the United States, in the various real estate sectors, and we package and bring those opportunities to market through the broker-dealer and RIA community, with a tax-oriented structure, which I know we’re gonna be getting into a little bit. There’s different tax structures with different investment opportunities. But, again, it’s been a very exciting journey here these past 20 years. We’ve dabbled in just about every type of real estate sector you can imagine. So, a lot of experience, a lot of breadth and depth to our bench of experience and investment expertise. And I’m thrilled to be able to talk more about that today.

Andy: Yeah, absolutely. And I think, you know, if I could be frank, Inland has a big name in the industry, right? And the longevity that you mentioned I think really speaks to that. There’s a lot of private equity sponsors out there, you know, good, bad, everything in between. And, you know, a big part of how LPs, how RIAs evaluate offerings is based on that track record. So, I know a lot of RIAs, a lot of industry folks really familiar with Inland. Yeah. I mean, you guys have just been around a long time. You’re kind of an industry anchor. And on that note, you know, Inland is obviously a leader in the DST space. And earlier, when I said tax-advantaged investment strategies are near and dear to my heart, I meant that sincerely. And I think a lot of our listeners feel the same way. I know there’s a lot of interest in DSTs, you know, especially in the past few years. How did Inland originally get involved in the DST space?

Keith: Yeah, very interesting. You know, DSTs are anchored on a provision in the tax code, Section 1031, right? So, investors that are oftentimes considering a DST, or Delaware Statutory Trust, are in the midst of completing a 1031, or tax-deferred exchange, which is a provision in the tax code that’s well over 100 years old. I think it was 1921 when it was originally documented within the United States Tax Code. And so, Inland had, through various investment management vehicles, utilized Section 1031 in its various investment dealings over the course of, say, our first 30 or so years in the business.

Oftentimes, that was you sell one property and you reinvest into another property. So, it was a property-for-property exchange. But as things kind of unfolded in the early 2000s, we began to get a lot of reverse inquiry from the investment community, with RIAs, you know, independent broker-dealers, saying, “Hey, there’s a new kind of buzz around the ability to securitize a 1031 exchange. Sounds complicated, but all that means is you can buy a property and offer it to investors, whereby they come in, they complete their 1031 exchange, and they own a fractional interest in that piece of real estate, as opposed to owning it outright.

So, there was various industry groups that gathered, you know, submitted, we submitted white papers, and legal theories and thesis to the IRS, to get them to opine on to what extent this structure could work. And we were one of the pioneers in that arena. We were very active in making sure that we had a bona fide solid structure, that was gonna pass muster under audit. And so, through that reverse inquiry, it kind of gave us a pulse on an offshoot to a market that we were already very familiar with. And so that’s really how we got our start. We sponsored our first investment offering in a multi-owner 1031 exchange vehicle back in 2001. And we took kind of a very measured, cautious approach. We knew there was demand, but we didn’t really appreciate how much. So, that first offering came out, we fully subscribed it in, you know, like, a couple hours. And you know, that served as kind of that first…

Andy: Wow. A couple hours. I mean…

Keith: It was something. And I think that’s really where we said, okay, there’s demand. There’s certainly interest from investors. And that was the building block that we used to kind of…first building block to sort of scale our company into what it is today. So, you know, back then, I kind of joke. It was really more of an idea than a business. But very quickly, you know, we were able to leverage the depth and breadth of Inland, and all the financial resources and human capital resources that the Inland group brought to the table, and it allowed us to sort of slowly but surely institutionalize what at the beginning was really kind of a cottage industry.

Andy: Yeah. That’s interesting. I knew that Inland had a long history in the DST space. I didn’t know that y’all actually helped create the space, even, you know, working in the way that you described at the very beginning. So, yeah, talk about OG. I mean, you guys helped create the DST, it sounds like. I guess, the DSTs have been so hot in the past couple years, but it sounds like the very first product, the very first year they were around even, they were fully subscribed within hours, I guess. Has the space, has it kind of gone through ebbs and flows in interest, or has it been a pretty consistent interest, you know, throughout those two or so decades?

Keith: There have been ebbs and flows, of course. I think in those early days, there was a supply and demand disconnect, right? There was a lot of demand, but it was a newly-forming industry. So, there really wasn’t a lot of product supply out there per se, to kind of keep up with and track demand. But if you think about a tax-deferred exchange, it all starts and sort of revolves around another transaction happening. So, in periods of growth and appreciation, you’re gonna see an uptick in demand, because more property owners are selling highly appreciated real estate and seeking a replacement property through Section 1031 to kind of go into. So, we saw a pretty consistent upward trend industry-wide, as well as within Inland, leading into the financial crisis. As you can imagine, 2008, 2009, things really kind of tapered off a little bit. And then, leading into, as we sit here today, we’ve seen a consistent upward trend, with the exception of 2020, given the uncertainty around the COVID-19 pandemic, we’ve seen steady growth.

The main point to make there, though, as you kind of observe what’s going on industry-wide, our business is very much a play on demography, and that was a big part of the investment thesis in getting into this business. A lot of property owners buying and selling their own assets, outside of any sort of interaction with their financial advisor or intermediaries, a rental property, a three-flat, that they maybe actively managed. And as we looked at the baby boomer cohort, we saw a demand from that subset, where it was time to sell the asset, part ways with day-to-day management, but then when they looked at the tax bill they would face if they just liquidated, it was pretty onerous. And in some instances, untenable. So, that’s where…

Andy: So, it’s hey, I’m age 65. I’m ready to play some golf, maybe travel to Europe, see the world. I don’t wanna deal with the three T’s anymore.

Keith: That’s right.

Andy: I wanna be an LP, and let someone else deal with all the management headaches.

Keith: You nailed it. You nailed it. So, that’s what the securitized 1031 exchange industry really accomplishes, is it’s a passive ownership vehicle, for that investor making that lifestyle decision to kind of transition out of active management and into passive management. And that really started in the early 2000s, but we’ve really seen here, now having almost, you know, a little over two decades under our belt, we’ve seen that investment thesis play out and be proven, time and time again, just seeing the investor appetite and demand that has been in growth mode here for quite a while now.

Andy: That’s interesting that you mentioned, you know, obviously, real estate transactions slowed way, way down in the financial crisis, 2008, 2009. Then they slowed down again at, you know, the beginning of the pandemic, when the lockdowns and all that. But then it seemed like in 2021, the DST space just really exploded. And I mean, you know, you talked about that long-term trend upwards, but especially in 2021, or maybe even the early part of this year, offerings would be closing so quickly, opening and closing so quickly. You know, was that just a factor of, you know, a market that had seen incredible growth, you know, investors wanting to lock in those gains, by exiting their properties? You know, it seemed like there was another sort of supply and demand imbalance like you identified in the early days. Was that the case last year?

Keith: A little bit. I think there was some pent-up demand from 2020. You know, there were a number of would-be or would-have-been transactions that just didn’t materialize in 2020. So, as the economy, and I think generally, investors felt that the economic climate kind of found its footing, in a post-COVID, or, you know, existing COVID era, certainly, there were winners and losers from a sector perspective throughout that timeframe. And, you know, there was a belief that, okay, there are certain sectors that make sense, and are still really, make a lot of sense to invest in long-term. That’s when we kind of saw a lot of folks climb out from underneath their desk, start to transact, you know, start to move the path forward in terms of achieving their investment objectives, getting out of active into passive.

And then there was another trend that we saw industry-wide, and that was a lot of those transactions that would’ve gone full cycle in 2020, those were put on hold. So, we saw a lot of full-cycle activity, which, you know, I always really like to point that out. It serves as vindication for the investment structure. It shows our market that this investment structure really does work. Investors can come into these products, accomplish their various goals, and make money on the backend, which is of obviously critical importance to any investment manager in the space. So, a lot of full-cycle activity, with low interest rates, you know, finding asset appreciation, and kind of harvesting the gains from some of the existing products. It was a culmination of many of those factors that really, I think, catapulted the industry into record-setting sales in 2021.

Andy: Yeah, absolutely record-setting sales. I mean, I saw some of the data from Robert A. Stanger & Company, that they publish. But it seems like it’s slowed down a little bit in the second half of this year. I mean, obviously, higher interest rates is gonna decrease transaction activity across the whole commercial real estate market. You know, I guess, a couple questions. Are you seeing the DST activity slow down, and if so, are offerings staying open for longer, or are there just fewer offerings coming to market?

Keith: I think the market is still kind of going through a period of, I don’t wanna say dislocation, but certainly there is a softening of transaction volume across the board, which is of course gonna affect the trajectory of capital raise throughout our space. When I take it kind of year to year, we touched on ’21, ’22 is actually, industry-wide, going to be a another record-setting year. So, calendar year 2022 will surpass 2021 levels. What’s interesting is a lot of that was front-end-loaded, let’s say first six months of this year. And now we’ve started to see industry sales soften a bit. Obviously, the calendar year ’22, we’ve seen tremendous pressure on, you know, with inflation in mind, the trajectory of rising rates, that’s affected transaction volume, not only for prospective investors that are looking to sell their existing holdings, but also for investment managers.

As we’re out there looking for opportunity, we have to factor in what’s occurring in the capital markets, and real estate is interesting. It anchors on buyer and seller psychology coming together. So, a seller, overnight, isn’t going to reprice their asset and say, “Oh, well, because of rates, it’s worth $10 million less. I get it, I’m still going to sell.” So, I think there’s a little bit of a lock-in effect that’s occurred this year. Transaction volumes will be low. I think there’s a lot of investors, even in the institutional realm, that’ll say, “Well, if I can’t get my price, I’m gonna hang on, and not sell.” And so, I think our market is kind of sorting through a lot of that right now. And I would say, even if I had to make a projection, 2023 will probably be more muted compared to ’21 and ’22. But the trajectory is still reasonably strong, providing a lot of support. So, you know, growth is all relative, and I think ’23 will still be a pretty exciting year for the industry.

Andy: Yeah, it’s interesting, because in the macro, you know, CRE market, there’s plenty of headwinds, you know, higher interest rates, higher inflation, but so many players, and not everyone, but a lot of investors, asset managers, are in a position of strength, because a lot of them have locked in favorable long-term debt financing. A lot of them are sitting on massive capital gains, you know, of their assets. And even if 10% of those paper gains, you know, get rolled back, they’re still broadly in a position of strength. So, it does feel very different than, like, a 2008, 2009.

Keith: Oh, night and day. Night and day. I mean, it’s interesting. Inflation is the buzzword, right, of 2022. And generally speaking, hard assets, real estate assets, are one of the best performers in an inflationary environment, right? Because you’re thinking about replacement costs, it costs more to build. Landlords have an opportunity to push rents upward. So, the operating fundamentals on our portfolio are some of the best we’ve seen on record. Yet, we’re seeing sales soften, right? So, it really is very different from the black swan event of 2009, and obviously, you know, the pandemic, at least the early onset of the pandemic, had its own effects. So, performances is on the upward trend, and I think that does provide some element of comfort to those investors that continue to find their footing and transact, and are hopefully looking for, on a go-forward basis, some value that maybe wasn’t there in prior years.

Andy: Yep. That’s a good point. Okay. So, we’ve talked about the 1031 exchanges and DSTs. I wanna turn to a different page, I guess, of the tax code, to Section 721. So, we recently had Keith Nelson on the show, where we discussed Section 721 exchanges. We also discussed UPREITs in general. That was episode 76. So, I’ll make sure to link to that in the show notes. But, you know, speaking broadly, I guess, as, like, an LP, as an everyday real estate investor, how would you compare a 721 exchange to a 1031 in terms of, you know, pros and cons, or which strategy might be more appropriate, or which product might be more appropriate to certain types of investors?

Keith: No, it’s a good question. You know, the 721 and 1031 are two provisions within the tax code, right? So, as you said, we covered 1031. Section 721 is basically a provision that allows real estate investment trusts an opportunity to buy a property, contribute the property into an operating partnership, which is effectively underneath the real estate investment trust structure, and allow that contribution to occur tax-deferred to the property owner. So, it’s a way to do a tax-deferred exchange, become an operating partner in a more broadly diversified fund or real estate investment trust, enjoy all the benefits of diversification, potential liquidity that that particular REIT maybe offers, which is very different from just a conventional or traditional 1031, where you maybe buy into and own a fractional interest in a very specific piece of real estate or specific portfolio of real estate, right?

It’s become a growing interest here in recent years. So, as we kind of compare and contrast, what 1031 investors like, in a pure play fashion, is they like the ability to swap till your drop, right? That’s a buzzword in our [crosstalk 00:19:01]. What that means is I’m gonna do a tax-deferred exchange into my property. I’m gonna own a fractional interest in that property, and when that property sells, I’m gonna have the ability to do a subsequent 1031 exchange, or cash out and pay my tax. I’m gonna have optionality. In a 721, it is an endgame. So, your asset is being contributed to the operating partnership and the real estate investment trust. And when you convert those operating partnership interests to REIT shares, and ultimately sell your stock, you do not have the ability to do a subsequent tax-deferred exchange.

So, you know, we’ve seen an uptick in adoption in that arena. It’s kind of looked at as an endgame, for estate planning purposes. Now, the positive is it gives investors a little bit more personalized sightline to liquidity, right? So, instead of having to wait for your asset to sell, in order to make that decision as to whether or not to do a 1031 or to cash out, investors that own operating partnership interest in a REIT can kind of make that election on their own, on their own time. The way the tax code is written, it still allows for a step up in cost basis upon death.

So, if you’re an investor, maybe with that profile where you’re looking at your hold period and you’re thinking this may be my last tax-deferred exchange, and I wanna pass a more liquid, theoretically, more liquid asset along to my heirs, that’s where a Section 721 product may be a better fit for that particular client. And then, obviously, you’ve got, you know, all the benefits of broader diversification, both on a, sometimes a sector basis, sometimes a geographic basis. You know, a REIT is oftentimes gonna provide a more broad snapshot of performance throughout the real estate market, whereas a conventional 1031 is more anchored on the specific dynamics around that particular piece of real estate.

Andy: Yeah, that’s a good point. So, in a DST, it’s fractionalized, but I still have that individual asset risk, whereas, with a REIT, it’s generally gonna be a diversified pool of assets. You know, one other aspect that comes to mind, and I get the thing, you know, swap till you drop, but a REIT could also, you know, have an almost indefinite life cycle, I suppose. So, you know, in theory, I could 721 into a REIT at age 40, and just stay in that REIT for 30 years or something.

But what about strategy? Because, you know, one, I don’t wanna say complaint. One limitation I suppose I’d identify with DSTs, and this is also true of Qualified Opportunity Funds, is these wrappers can essentially only hold certain types of assets, with certain types of strategies, right? So, in the Opportunity Zone world, you see mostly ground-up development, and from DSTs, from what I understand, you know, with the seven deadly sins, and all the restrictions, they tend to be stabilized assets, without a lot of opportunity for, like, value-add or anything like that. So, does a 721 exchange in an UPREIT, you know, potentially give you more strategies on the menu, so to speak?

Keith: Yeah, it might. It depends on the underlying strategy of that particular REIT, and what its focus, or underlying focus will be. I’d say most real estate investment trusts are income-oriented. So there is gonna be a heavy weighting toward stabilized assets that are generating regular distributions on behalf of clientele, more heavily weighted toward income as opposed to ground-up related growth. But a REIT could certainly implement a value-add strategy, or have a sleeve or a subsection of its asset allocation that gives investors a little bit more in the way of growth potential.

At the end of the day, though, strategy is the whole ballgame. One of the things I feel like we’ve really, at Inland Private Capital, have really prided ourselves on, is being able to read the market, and execute on a broad array of strategies, right? What we were buying in 2015 isn’t what we’re buying today. And having that ability to sort of pivot, and maintain a nimble investment focus, with macroeconomic headwinds or tailwinds, whichever way you’re looking at it, in mind is the key to success.

And I’ve seen a lot of investment managers that, in some instances, you could make the case, hey, they stick to what they know, and they only transact in one specific area of real estate. I’ve always subscribed to positioning our firm to transact in a variety of different segments, even in areas where we’re not vertically integrated. So, we do have joint venture partnerships with certain types of sectors that allow us access to those investment vehicles, and give our investment management team an opportunity to identify the assets that we believe in at this moment in time, given our forward-looking outlook on the economy as a whole. So, strategy is a big part of, whether you’re in a DST or in a REIT vehicle, I mean, that has to be factored in to the investment thesis.

Andy: I absolutely agree with that. And, you know, you mentioned one thing. I mean, I have to ask this as a follow-up. To the degree that you’re able to share, you mentioned, you know, Inland’s pivoting away from, like, since 2015, 2016, pivoting maybe into some different sectors or strategies now. So, to the extent that you’re able to share that, do you want to talk a little bit about what you’re pivoting away from, and what you’re pivoting to?

Keith: Absolutely. Happy to. We’ve really, I’d say for the past five or so years, have begun leaning more heavily into alternative asset categories, right? Meaning non-traditionally. Our traditional food groups are retail, office, industrial, and resident multi-family. We’re still very active in multi-family. I like that sector, because it does give us that opportunity to consistently reset rents, which is incredibly important as we find ourselves in an inflationary period. And one of, the point I made earlier about some of the best performance on record applies to the multi-family sector as well.

But that said, we’ve also seen great opportunity, when you’re thinking about rising interest rates, inflation, and the potential for, you know, a looming recession, or at least slowing economic growth, we’ve pivoted very heavily into alternative segments, being healthcare-related assets, self-storage assets, and education-related assets in the student housing sector. The reason we’ve seen great opportunity in those segments in the market is the anchor on demographic-driven demand. Meaning, whether you’re in a up market or down market, demand is pervasive, because they’re needs-based. They’re needs-based investments.

And this has been a battle-tested investment strategy and thesis through two black swan events. These are sectors that proved to be more resilient, and preserve capital, during the financial crisis of 2008 and ’09, during the COVID-19 pandemic, yet they also offer tremendous growth opportunity in an up market, where you have regular opportunity to reset rents, reprice your asset accordingly. So, those are the three key areas we’re hyper-focused on at the moment. It’s not an easy business, across the board, to get into, because these tend to be more fragmented markets, meaning they’re not as easy to access, they’re not as broadly available. So, you have to align yourself with the right operating partners, and it takes time. It takes time, and hard work, and energy, which is why it’s not done by everybody.

But I think when you establish critical mass and scale, and you’re able to kind of deliver that investment thesis to investors, it presents a pretty compelling opportunity, irrespective of what your concerns are. Because, again, these just tend to be more resilient, steady performers, if history is any indication of what we might see here on a long-term forward-looking basis. So, those are areas we see a lot of excitement around. My comment on operating fundamentals, you know, there’s been record-setting demand for… Student housing, by example, enrollment trends in many of the large Power Five universities, enrollment’s the highest it’s been on record. And supply of student housing product, for example, was choked out during the pandemic. Everybody was worried about remote learning, and that concern was sort of debunked, and we’ve come out the other side.

So, growing enrollment, record demand means great opportunity to push rents in an outsides fashion. We saw the self-storage sector obviously benefit from the dislocation in the marketplace, and past 24 months have been some of the best on record. And in the healthcare-related space, I mean, that sort of speaks for itself. But both in the medical office arena, which has consistently outperformed corporate office, as well as the senior living segment of the market, we’ve seen pent-up demand. Doors were closed in senior living communities during COVID, so waitlists were sort of growing. We’ve started to see the green shoots of that. And I think, with an aging population, again, all anchored on demographic-driven demand, you know, we see that as having a pretty bright long-term opportunity.

Andy: Yeah. You know, it occurs to me, all the sectors that you mentioned, I mean, healthcare is a unique one from the past couple years because you can’t shut down healthcare, right? Even during a pandemic, you can’t shut down healthcare. You know, the self-storage tends to be almost countercyclical, but it also grows during times of economic growth. It seems to just never stop growing. And, you know, we’ve had some issuers and sponsors in the self-storage space on the show. One in particular that is, you know, sort of rolling up assets in secondary markets. And as you said, it’s very, very fragmented, and it can be harder to access. Is that an area where you partner with another operator, or does Inland, like, have a division that, you know, is directly managing these assets?

Keith: Yeah. Great question. So, self-storage is an area where we’ve outsourced management. Our acquisitions are all still done in-house. So, we identify opportunity through Inland real estate acquisitions, but then we have a sleeve of different operating partners, two of which are public, well-heeled public REITs. And then we’ve also got a couple of private operators that, depending on geographic location, depending on the underlying metrics and who kind of has a presence and a pulse on that particular market, will outsource property management responsibility. And that’s something that’s worked incredibly well for us, and it has really allowed us to scale that business pretty tremendously here over the past handful of years.

Andy: Interesting. So, you’re, you know, maybe outsourcing parts of it, but it sounds like you still do the underwriting in-house. And, you know, I wanted to ask about underwriting a little bit, so I’m just reading from my notes here. I know that, you know, Inland has, what, $12 billion or more in AUM, over 300 private placements completed. Like, wow. Three hundred private placements. So, from an LP’s point of view, or an RIA who might be evaluating different sponsors, and this really applies to any product, whether, you know, DST or otherwise, you know, how should an LP or an RIA look at underwriting that, you know, obviously this is something that some sponsors, some asset managers do better than others.

Keith: Yep. Yeah. Well, it’s a critical component to evaluating any investment opportunity, whether it’s real estate or the like. You know, I guess I’d start by saying, as investment managers, we know that the more rosy expectations that we put forth, higher returns, higher IRRs, that’s gonna be more compelling, right? But that’s not always the right path forward. And we’ve really anchored on setting expectations appropriately.

Andy: And that… Well, sorry to interject. That’s where I’m, like, a company like Inland, it’s not your first rodeo if you’ve been around, you know, three, four, five decades. You’ve seen many, many market cycles. Sorry. Go on.

Keith: No, no. I mean, that’s the point, in a nutshell. I mean, no one offering is worth reputational damage to an established investment management firm. So, you know, we believe we’re putting forth reality when you factor in all the different assumptions we’re making. We anchor and subscribe to, you know, various nodes of research throughout the market, but we also have our own operating performance and our own portfolio to kind of apply our rationale behind an assumption that we’ll make, whether it relates to expense growth, rent growth, vacancy in a specific market, you know, all that… These are best-efforts assumptions that are made, and you can make a real estate deal look better or worse by, you know, pulling a lever or turning a knob, with relative ease.

So, it’s not so much about presenting and putting our best foot forward to show how great an investment could be. We like to be more measured. We like to put forth numbers that we believe are substantiated. And it could absolutely be better, but so much of our success in this business has been anchored on under-projecting, hopefully putting ourselves in a position to deliver the performance that we set expectations around, and hopefully, do better, you know, as time goes by. So, that, in a nutshell, you know, that’s underwriting 101, right? And I think there’s a lot of different ways to come to the conclusion as to whether or not a property, you know, makes sense at a certain value or doesn’t.

We’re all doing the same thing. We’re looking for long-term value, and we’re looking for opportunities that hopefully will make investors money in the backend. But underwriting starts your cashflow projections, it’s gonna set the tone for your potential total return projections, and you don’t wanna get too close to the razor’s edge in that regard and then fall short. That’s not gonna be a good move from a reputational standpoint, for any investment manager. So, that’s kind of the theory that we’ve consistently subscribed to, and it’s served us well over the years.

Andy: Yeah. You know, I really like that answer. Didn’t get into a lot of technical, you know, numbers, models, anything like that. It’s more a philosophy or almost personality of underwriting, in that that long-term mindset of, “We’re a sponsor who was around 10, 20 years ago. We’re still gonna be around the next 10 to 20 years. And so we’re thinking, how does this underwriting look in 5, 10 years, if maybe things don’t go as well as planned?” You know, that’s just a little bit of a different philosophy than maybe an upstart with, you know, a value-add, you know, or whatever. So, yeah, I really like that philosophy though.

And it’s interesting because, you know, I kind of come from the startup world, where there’s constantly, like, you know, the tech startups, it’s always, like, the next thing. It’s always the younger, fresh tech companies that, you know, sort of have the buzz. But I think especially with asset management and real estate, personally, I want to invest with managers that have seen multiple market cycles, not even just one. And I mean, frankly, there are some asset managers that haven’t even seen one full market cycle, right? But two, three, four, you know, even having seen high interest rates, or high inflation, there’s a lot of companies that they weren’t even a twinkle in any one’s eye the last time we had high inflation or high interest rates, right?

Keith: If you think about it, it’s interesting to sort of reflect on, right? I mean, for the past two-plus decades, for the most part, we’ve seen real estate investment management occur in a low-cost-of-capital, low-interest-rate environment. Now, rates are trending back up to, you know, peak levels in, you know, the last market cycle. But if they keep trending, you’re right. I mean, you almost have to look back, you know, three-plus decades, and that’s something that, again, so much of our success has been anchored on not only what we’ve built within Inland Private Capital, but anchoring on the experience, and firsthand, kind of school of hard knocks that the Inland group has gone through, and that our principals have seen. And it definitely helps to shape our firm’s perspective. And you use every tool at your disposal, and that’s certainly one we continue to benefit from, so…

Andy: Yeah, the school of hard knocks is probably the most valuable diploma that you’re gonna earn as an asset manager. Okay. I know we’re running short on time, but I wanted to ask one more kind of broad question, which is just, you know, you mentioned you see activity probably likely to slow down next year, and we’ve talked about, you know, higher inflation, higher interest rates. From my standpoint, it doesn’t seem like asset prices have really corrected all that much, you know, especially given where interest rates are, and most real estate transactions, you know, are gonna involve some debt.

So, you know, the fact that Inland kind of can go anywhere with all these different strategies, all these different sectors, I think that gives you a good vantage point to answer this maybe honestly. Is there any sector or strategy that is truly a good value right now? Because I get other LPs that kind of ask me that, that, you know, almost they’re sitting on dry powder, and they’re ready to invest in, you know, private placement offerings or individual assets, or whatever the case may be. But it’s just sort of this generalized sense that, you know, nothing really represents strong value right now. Do you think that’s the case, or do you see opportunity?

Keith: Well, I don’t think… You know, the textbook might imply that with the cost of capital at the beginning of the year and the cost of capital at the end of 2022 should create massive dislocation, and asset values should be, you know, 20% down. I’m just throwing out a number. Most of the time when folks talk about value, they’re talking about cap rate, right? What cap rate can I buy an asset for? What that starting point of an analysis sort of ignores is what type of rent growth, what type of NOI growth was achieved during that same period? And in many of the areas that we’re focused on, mainly with inflation, and potentially being well-positioned to weather a recession in mind, a lot of those assets have held their value, not because cap rates haven’t corrected, but because the top line and bottom line NOI are far and away better than they were at the beginning of the year because of the opportunity to push rents.

So, you know, I think that there will be some institutional selling. Just, you know, firms shoring up their balance sheet, maybe forced to sell. We haven’t seen a whole lot of that yet. But I think for every seller that falls into that category, gonna be a lot of sellers that say, hey, you know, this time around, we used conservative leverage. We’re not under stress, we’re not under distress, we don’t have to sell. And so I think that there’s probably gonna see less in the way of transaction volume. And that was ultimately the point I made earlier. I think high-quality assets, you know, in irreplaceable locations, with a lot of the things we talked about, you know, outsize demand and muted supply, I think those assets are gonna continue to hold their value even if we see interest rates continue to trend upward.

And the point I’ll ultimately make here, and I’ll end with, is, you can’t look at cap rate as the ultimate indication of value. It’s what happens next. And you wanna be right about what assumptions you’re making that happen next. We look at the market through a long-term lens. You know, average hold period for a majority of our products are anywhere between, you know, five to seven years. We actually set expectations longer. And, you know, I think if you take that long duration, you know, how does the world look over the course of the next decade kind of mindset, it helps to sort of normalize how best to think that through. And so that’s ultimately the lens we look at the world through, and then what we kind of anchor our investment thesis accordingly.

Andy: I love that. That was very insightful. You know, the cap rate is just, it’s just one point in time, and obviously, Inland, with your track record and your longevity, you know, having that longer-term perspective, I think, is hugely valuable, even for individual investors, to try and adopt some of that long-term mindset.

Keith, I can’t thank you enough for joining the show today and providing your insights. A lot of really interesting tidbits, including some things I didn’t know about the origins of the DST program. Where can our viewers and listeners go to learn more about Inland Private Capital?

Keith: Our website is probably the best, most comprehensive way to learn more. That’s www.inlandprivatecapital.com. There is “contact us” information, if you wanted to reach out. You know, any member of the team, happy to discuss, you know, kind of our perspectives as well. So, I’d probably direct you to the website.

Andy: Sounds great. And I’ll make sure to link to that website in our show notes, which are always available at altsdb.com/podcast. Keith, thanks again.

Keith: Thank you. Thanks for having me.