Our Next Event: Opportunity Zone Pitch Day - July 20th
Investing In Micro Commercial Real Estate Loans, With Kirkland Capital Group
Kirkland Capital Group was a presenting partner at Alts Expo May 2023, a one-day virtual event hosted by WealthChannel. In this webinar, Chris Carsley and Brock Freeman present the Kirkland Income Fund.
Interested In Learning More About This Opportunity?
Click here to visit the Kirkland Capital Group website.
- History of the fund managers in the alternative investment industry.
- Discussion of the need in the market for loans less than $1 million to help small businesses thrive.
- How inefficiencies in the market can create opportunities for investors.
- Why private debt typically has low correlation to traditional asset classes.
- The importance of prioritizing a risk mitigation mindset when evaluating private credit.
- Live Q&A with webinar attendees.
Connect With Kirkland Capital Group
- Kirkland Capital Group – Official Website
- Kirkland Capital Group on LinkedIn
- Chris Carsley on LinkedIn
- Brock Freeman on LinkedIn
Jimmy: Gentlemen, Kirkland Capital Group, great to have you guys here with us today. The floor is yours for the next 20 minutes.
Brock: All right. Twenty minutes, we’ll have to get through this pretty quickly. Well, thanks everybody for attending and we’re excited to tell you a bit about our fund. Honestly, this is a little out of the ordinary for Chris and I, I would say most of the time we’re not talking about our own fund, except maybe on a phone call with someone directly, we’re doing a lot of educational stuff. So, you know, bear with us as we kind of walk through this as we usually do more educational stuff. But let’s, move on here, Ralph. And our disclaimer, notice to reader. Obviously, we’re not gonna actually read that, but we can tell our lawyers, “Yes, we’ve shown this to you.”
And moving on, a little bit about the fund. We are specifically a debt fund or we can call it a fixed-income fund. We’ve delivered over 11% last year. I know that’s important for a lot of people. Although our target’s 10%, we think we’re gonna beat that again this year. Where do we deploy this money at? It’s what we call micro-balanced, commercial real estate loans. And that may seem like somewhat odd to you, but we had to come up with a new term, seeing as most real estate loans in the commercial space can be $10 million, $50 million, $100 million easily. When you’re talking about loans that are less than a million dollars, well, those are micro, tiny. There was no one else really doing that in the bridge debt space. So, we saw a gap in the marketplace, and we launched this fund a bit over three years ago, based on both my experience in the industry, doing underwriting and auditing, and Chris’ on the fund management side.
But we’re really excited because we saw this not just as a great place for investors to make money, but also a place where we saw people needed this kind of money to go and rehabilitate middle-income housing in smaller markets. They needed to be able to do mixed-use properties. I mean, this is really the backbone of America, places where small business thrive, places where workforce housing is in smaller towns. I mean, this was super important. So, we’re excited that we’re able to launch this, and it’s been such a success so far. Moving on, I’m gonna let Chris now talk a bit about the opportunity and edge and a bit about our investment strategy.
Chris: Sure. Having been in the alternative investment space for over 20 years now across a variety of different strategies, one of the things that when we saw this opportunity years ago, or if you are an investor looking at any alternative opportunity, you really should assess, well, you can find something that’s in a niche market that doesn’t necessarily mean it’s inefficient. And inefficiency goes back to, you know, some type of occurrence within an investment space that’s allowing you to create an excess return, and more importantly, allowing you to create an excess return that, you know, is repeatable. So, one of the things that we’ve seen and, you know, a lot of people talking private debt here and the Fed was nice enough to keep the bowl rolling for us by another 25 basis points, so thank you very much for that.
But we’ve got, you know, one of the inefficiencies that started back, you know, in 2010 with Dodd-Frank was bank regulations. You know, you basically had a number of people who were your lenders in this space step out or be regulated out of the space, opening up the door, you know, across not only real estate, which we do, but venture consumer corporate. So, you had a huge opportunity there. In particular, in our little fragmented space of micro-balanced, commercial real estate, it was very, very tough to find data of just how big the market was. So, we went to all the big data providers, and I wanna say I loved the idea that it was hard to find data. It wasn’t a lot of eyes on this space. So, that’s a very good sign that, hey, I can’t nail down exactly what’s going on, which means you probably don’t have the big guys worried about it.
And so, we liked that it took a while to get an idea of, well, how big is this? So, aggregating a number of different data sources, we kind of came up with, hey, in this micro-balanced space in commercial real estate alone, you know, you’re still looking at a fairly large market and still growing. And, you know, other lenders, as Brock mentioned, they just weren’t in this space for a variety of different reasons. You had a very successful run in private debt, so people raised a lot of money, and these small loans became de minimis to their portfolio size. So, they graduated up. One of the things that we’re very focused on, and I learned this as a hedge fund trader for a number of years, once you find an inefficient space and that’s what you wanna be in, that’s where you need to stay. That’s where you can continue to generate that excess return. That’s the inefficiency you’re taking advantage of. So, you know, we wanna stay in that space. You know, we understand our capacity and we’re not looking to grow to a size that will migrate us out of this small niche.
Obviously, as I stated earlier, the Fed’s helping out, market volatility, rising interest rates, uncertainty in the banking. I mean, everything across private credit right now is benefiting from this inefficiency of where the Fed has been nice enough to increase rates. So, everyone’s capturing a greater return while banks are continuing to be, and we may see even more regulation coming around that’s gonna continue to regulate them out of this space. One of the things that we also like is geographic diversification. Being able to play in multiple spaces in our fund. You know, we lend across, you know, the 48 contingent states right now. So, being able to find those opportunities and work with the borrowers where the opportunity is presenting itself, that’s one of the things that we want to bring and be able to capture for this fund. You know, and we have an expected return of 10% with very, very low correlation. You know, private debt generally has low correlation to traditional markets. So, as an investor, you wanna be looking for that inefficiencies, you know, are they more correlated to your public REITs or are they kind of waxing and waning with the flows of large money, you know, that we saw in 2021, sometimes even in, you know, we love fix and flip and single family residential. But you are definitely dealing with a little bit of, you know, correlation there to large money flows as that’s a space where the big guys will go in and out of when they see the opportunity. Next slide.
And the next slide is after you’ve assessed your inefficiency, you wanna go into edge, you know, the team, you know, the people who… You’re investing in a fund. You’re gonna say, you’re gonna invest in our fund. Well, who are we? What is the edge that we bring? What allows us to recognize the inefficiency and then capture that? For us in particular, I have a very long history in capital markets. You know, Brock has experience in real estate and technology and underwriting. You know, one of the things that was great is we walked in with an existing network and access to loans, a deep technology experience allowing us to constantly increase efficiencies of systems, because we do run higher volume because we’re running smaller loans. So, our average size loan is probably $500,000, you know, $550,000. That deep understanding of how to run a fund management.
We launched in January of 2020. It was an interesting time when you came into that market and you all of a sudden realize you’re in a left-tail event, and being able to keep your calm in that. Me, personally, I’ve been through multiple. I’ve been on the front lines of a lot of big problems for some of the, you know, the funds and groups that I worked with. So, it allows you to keep sort of that calm, cool you’ve been through the cycle and you can stick to your knitting and move through and also be dynamic to take advantage of or avoid some of the problems that might be coming through. You know, we have a, like I said, the loan program and guidelines. I mean, we have a process and procedure of how we’re building out and doing underwriting in all of these loans, and we continue to adapt that as the market throws us these changes. So, I mean, having the knowledge of and forthright to sort of see what’s happening in the space and then being able to adjust whether it be your technology systems or your process to take advantage of that. That’s something you want to have a team be able to express. And we’re always risk first. Everything we do, we assess the risk first and then we try to maximize that return for the risk we’re taking. And so, that’s what’s creating this, you know, lucrative aspect of, you know, micro-balanced, commercial mortgages. Next slide.
Brock: Yeah. One thing I’ll mention there too, Chris, just for everybody, is, you know, we do look at risk very closely. We’re always looking for ways to mitigate risk. One of the latest things that we did was we implemented where we’re going out on every single borrower or guarantor and we’re getting their tax records. It used to be just on someone who’s self-filing taxes that we’d go get a 48, 506, etc. Now, we found a service that we can go get on every single loan. We’re going to the IRS and getting, have you filed your taxes? What do you owe right now? Which is revealing some new information and it’s great. It’s just one of those places we look at and we added it in order to reduce risk because we wanna make sure the borrowers have that capacity play and they’ve shown good history for themselves.
Chris: Exactly. Brock, do you wanna talk a little bit about the overall strategy?
Brock: Yeah. So, conservative evaluation, you know, this is one of the things for debt funds that… You know, for Chris and I, part of this was just scratching our own itch. He mentioned we started actually at the beginning of the pandemic. We started before that, so we didn’t know that was coming, obviously. So, even when an investor pulled out, Chris and I, it was always our intention here in scratching our own niche is we have a significant portion of our own net worth in this fund. Why? Because we believe in it. We built it in some sense for our own selves wanting something super conservative. Well, that meant as-is values. So, we make a loan, maybe it’s 70%, 65% portfolio-wide, we’re still under 60% LTV portfolio-wide, but that’s based on as-is value. Currently, what is of as-is value? Not a future ARV or after-repair value or some sort of guesstimate about what the property may get in the future. It’s based on right now what is that property worth? That’s what we base our loans on. That way if something goes wrong, it’s not hard to go out and get all of our money back for the fund.
Twelve-month loans. So, we’re not really having a lot of interest rate risk out there. We can roll those over as well. So, we’re already starting to see that uptick in the returns in the portfolio because we’re now writing higher interest rate loans, and that’s started in the last, three, four months. Borrowers have an exit strategy. You know, we only do 12-month loans. Now, we offer a couple of six-month extensions at our option if they’ve been paying on time, etc. But really, we wanna see a high-confidence exit that they have lined up already and a way for them to get there. So, we underwrite all of these loans knowing that they’re gonna have to get to a certain DSCR, or they’re gonna have enough cash flow, or whatever it is required for them to get out of our loan. We look at that ahead and we underwrite that as well.
Underlying properties. Another way we reduce risk is we only look at income-producing or potentially income-producing properties, let’s say, if it’s known or occupied or maybe needs a little work. We’re not looking for construction loans that can take 12, 18 months or 2 years to get done and no income. By the way, we’re not doing any raw land. We want income-producing properties that we can turn if there’s a problem and there’s income being produced. The senior debt positions, we only do first-lien loans, again, so that we’re in first position if something goes wrong. Full recourse. That means personal guarantees. If there happens to be a situation where we’re not able to go get the entirety of the loan amount due from that borrower, well, we can go after them personally, their other properties, other holdings that they have. So, they’re basically on the line for that personally if something goes wrong as guarantors.
And of course, we have a diversification by property and state. So, we are not just focused on one state or one area where maybe if that area does bad or in the case of maybe there’s certain laws that are being passed that are not very friendly to investors, you know, active real estate investors or even us as a lender, in a particular state, we’re not overexposed to that. So, we see diversification across not just states, but also property types as well. There are certain property types. Right now we don’t have any office, probably a good thing. Not that there’s not office out there, that’s probably a good buy right now. That’s probably the time that you can go and get some great buys on office properties right now. But we’re really focused on those that have stable asset prices. All right, next slide.
A little bit about us. As you can tell already, Chris has a deep, deep background. His entire career has been spent with hedge funds, fund-to-funds, really all that due diligence. I’m very happy that we were able to put this thing together. Basically, I bring my real estate underwriting and real estate technology as well as my high-tech technology to the platform here. And we’ve been able to build a team up on the underwriting side as well that I’ve built out, as well as the network that I’ve been building out for years among loan brokers where we source our loans. And it’s great to be able to pair with Chris because I didn’t know anything to start with here about fund management. But Chris has built funds for institutions his entire career. So, from the get-go, what was nice was being able to have him come in and really build out our fund at an institutional level. That means it was fully audited from day one. That means that we have third-party administration from day one. So, you know, in all the accounting and all the stuff that goes with that. So, really appreciate his background and really the two of us together, we produce a lot of educational content as well.
Next slide. And we’ve started, you know, really building out our team as we’ve gone along. And we’re actually about to add another person here. She starts on Monday, another accountant, underwriter basically. And that’s what we really, really focus on is top-level people, people who are at the top, you know, top 10% out there. And we’re fully remote. Not that that really means anything, but that means that we really can go out there and hire the best of the best, and get them. And that’s what we’ve really built here as a team. Next slide. Chris.
Chris: Yeah. Anytime you’re building a fund, you wanna understand, you know, you’re not doing it alone. You gotta have support at every step. So, you know, we work with Geraci Law in, you know, real estate and securities law. Obviously, we are audited. So, Spicer Jeffries since day one has been coming in and auditing the fund. They also run all of our tax. And for this fund we do provide, you know, K-1 from Spicer. And, you know, we have a fund administrator. You know, I came from a world where I sat on some of the AMA panels, you know, nine deciding what the new world was gonna look like and how funds are gonna do it. So, a lot of you might not know, but pre-’08, a lot of funds were self-administered and that became kind of a no-no. So, like Brock said earlier, you know, day one, we built this to be as institutional as humanly possible. So, had fund administrator coming in, you know, day one and looking over our shoulder and providing information and access for the investors. And on the underwriting side, you know, we’re using a lot of different systems from Clear Capital, CREintelligent, and as Brock mentioned, you know, TaxStatus.
Brock: Yeah. There’s the tax…that was the one we just added that enables us to check every single guarantor to see where they’re at, whether they pay their taxes, filed their taxes, etc.
Next slide. Here’s our current geographic exposure. We are no longer lending in California once those two loans are paid off. We just felt like it wasn’t a great place for us. You may see instantly kind of key in on Michigan. We have done a lot of loans there. Partially, that’s been an upcoming place. Now, on all of our loans, we go and do an economic…we pull economic numbers, that’s credit card spend, that’s income, a whole bunch of stuff that we’re looking at for every market that we’re in. But over and over we’ve seen that there are opportunities there. Although because it is a little overweight, we actually charge 50 basis points more, which gets passed onto you as an investor. And by the way, that’s how we run our fund in general. Is that, anytime that we, you know, whatever the risk level on a loan, say Michigan, you know, we feel like well, we’re a little bit overweight on it. So, if we do a loan in Michigan, we’re gonna charge 50 basis points extra to the borrower. And that gets passed onto you because we have just a steady 1.5% management fee plus expenses. So, you get rewarded for those things directly as an investor. But we’re slowly but surely expanding the number of states here. We do not a whole lot in our home estate of Washington, just because things are so expensive there. Heck, you probably know that in Seattle you can barely buy a house for 1.2 million. So, when that’s our max loan amount, well, that’s why we’re in the states we are. But we find that there’s a lot of opportunity in those states as well.
Next slide please. We’ve talked about being across multiple types here. Again, multi-family, light industrial, hospitality. We’re pretty happy with the spread that we’re at right now. We’re seeing actually a lot more multi-family coming in, just because of what the bank changes are. So, we’re seeing a lot of fallouts that would’ve gone the bank route. They’re tightening up or just saying, “No, we’re full up or whatever.” We’re happy to take those multi-family for sure. Mixed-use. For us, that’s defined as basically multi-family apartments or one or two apartments or more over a retail. We like those kind of deals because that multi-family aspect helps to stabilize that asset as well. And so, you could almost toss around 50%, 75% of that mixed-use into multi-family, because that’s what it is. Next slide. All right, Chris.
Chris: We won’t spend too much time on this. I mean this is just, you know, we’ve been around as of April. This is our first, you know, our full 36 months. We’ve been exceeding our goal of, you know, 10%. You know, thanks to having a lot of consistent growing loan demand and having the ability to go in and write higher rates. One of the things that we’re able to capture, and one of the inefficiencies of this space allowing us to continually pass on larger returns to investors is that supply and demand imbalance in these micro-balanced spaces. You know, we have pricing power, we have contract power, and there’s such demand. If a particular borrower doesn’t like our loan documents, they want something different or they want a cheaper rate, well, right now it’s very easy for us to just you pass on because, you know, that’s fine. Often not, we’ll see some of those people come back because they can’t find what they really want, but we have a lot of demand in our face.
And one of the things that we’re always working with is, hey, well what’s the right rate to get the right loan? You know, like I said earlier, we’re very risk conscious. So, we’re not on this hunt to just charge huge, huge rates, and try to maximize that. What we’re trying to do is we wanna take the right risks, limit exposures and hardships on any of these loans and then, you know, be able to capture the right rate. Here’s another performance slide just from a comparison standpoint. You know, we’re all about consistent returns. A lot of people, I know we’re comparing apples and oranges here, but a lot of people are looking at private debt for the first time and the rest of their portfolio may hold these other assets, you know, traditional bonds, traditional equity or maybe even REITs. So, it’s the reason we sort of threw this into the deck is giving someone, you know, a comparison of, well, what has been occurring over the last years compared to what you might hold as an investor.
Next slide. Here’s some of the parameters that we had already mentioned. Our fund is now actually just over $20 million. You know, LTV pretty low, low duration. And one of the things I’d like to see here also when you’re looking to add something to your portfolio is, you know, how does this generally relate to what you may already own off you’re adding a new asset class, or a new investment to your portfolio is understanding the cross-correlations between what you own. That’s gonna increase that risk-adjusted return for your portfolio. So, you know, if you guys wanna come back and talk about correlations and impact the portfolio, I love that stuff. So, I’ll talk to you as much as you want on that front.
Next slide. Here’s just another risk-adjusted return. Looking at volatility of these instruments, given the returns, I mean you can obviously see that we’ve, you know, the S&P 500, you know, since April, 2020 hasn’t given a bad return, but you’ve had some volatility in there. So, that’s one of the things that I just like to show this. Doesn’t mean the S&P is bad. You’re taking some risk, understand what you’re taking. And the nature of our product is meant to be very, very low vol. Our goal is not to beat the S&P 500 by any means, but we’ll have our day, which I mean obviously in 2022 we did. Next slide.
Brock: Yeah. Let’s just skip through these because we’ll allow everybody to grab the slides later. These are pretty self-explanatory, let’s go to the last slide there. And yeah, here we go.
Jimmy: The QR code, I love it. Scan that QR code, visit kirklandcapitalgroup.com. And I posted a link to kirklandcapitalgroup.com in the chat about 20 minutes ago as well. Gentlemen, we’ve run out of time, unfortunately, I gotta move along with the next…
Chris: No problem.
Brock: You can still invest from California, I’ll answer that one. And the minimum investment is $100,000. We’ll answer those. Otherwise, reach out to us. We’re happy to answer your questions. Thanks so much, Jimmy.
Jimmy: Thank you, Brock, and thank you, Chris. Yeah. Please do reach out to those gentlemen at Kirkland to learn more. And thank you so much you guys for joining us today. Really appreciate your time.