Co-Invest Like a Pro: Fund of Fund (FOF) Model, Explained

As opposed to traditional investing, co-investing is often a more approachable and strategic way to spread your funds across multiple assets with a group of interested inventors. With the market being as competitive as it is, this may be a worthwhile strategy to receive higher returns without risking more of your money. In this article we explore how to co-invest using the FOF model. 

In addition, you can expose yourself to various investment opportunities through co-investing, including multifamily real estate, which may not be available to you otherwise. These investments also provide high returns, propelling your financial goals and personal future. 

With this in mind, let’s examine co-investing through a broader lens and consider the essential strategies involved.

What Is Co-Investing? 

Co-investing is a collaborative investment strategy in which multiple investors pool their resources to invest in more substantial opportunities they wouldn’t otherwise know of or have the funds to access with individual investments.  This approach allows investors to combine their financial capital, knowledge, and expertise to pursue high-value investments, such as real estate, private equity, or large-scale business ventures. To remain compliant with investment guidelines from the SEC many investors co-invest through the FOF model. 

Unlike traditional investing, where an individual or entity invests independently, the FOF model is a group effort. Each participant in a co-investment deal contributes a portion of the total investment amount, thereby sharing the potential rewards and the risks.

The Benefits of Co-Investing

As opposed to making sole investments, co-investing has unique advantages such as:

• Access to more significant deals: The more people you pool your resources with, the more likely you’ll expose yourself to high-value investment opportunities, such as commercial real estate or private equity, that might be out of reach individually.
• Reduced individual risk: Since investors fairly distribute their funds across multiple assets or sectors in co-investing, you’ll experience fewer risks than if you invested in an asset individually if it performs poorly in the market. 
• Shared expertise: All investors will benefit from the collective knowledge and experience, leading to more informed investment decisions.
• Lower cost for individuals: Larger investments can result in lower costs per investor, including reduced transaction fees.
• Owner privileges: Co-investors can receive a seat on the board of the company they invest in and other privileges, depending on their sharing ratio.

These benefits may also vary depending on your investment totals and who you invest with. If there are fewer investors, you’ll experience higher rewards, but you also may experience more risk.

Co-Investing through FOF’s

Within the FOF model, this group of investors identifies assets to capitalize through initial and follow-up research. Each Fund will have to designate the following roles to manage the investment properly:

• Lead investor (Fund Manager): This individual spearheads the investment process, including initial and follow-up research and negotiations. This person often has significant experience and success with previous investments.
• Co-investors: Each co-investor contributes capital and expertise, participating in decision-making and management based on their experience and skills. 
• Legal and financial advisors: Professional advisors ensure that all legal and financial aspects are correctly handled and provide necessary support. Investors often hire these advisors for their help.

You must maintain clear communication no matter your role in a co-investment opportunity. Members should all agree on a contract of terms involved in the investment and maintain their roles and associated responsibilities. Only with transparent collaboration can you make informed decisions if an asset plummets in value or improves. 

How To Start Co-Investing 

Although co-investing sounds good on paper, it does involve concrete steps for the best outcome. These steps include: 

• Step 1 — Define your investment goals: Outline your individual investment goals. These should include what you’re willing to risk, objectives you want to achieve, and industries you’re interested in. 
• Step 2 — Research potential co-investment partners: Identify and evaluate potential partners by networking, reviewing their track records, and ensuring your investment goals match. 
• Step 3 — Perform due diligence: Conduct thorough financial analysis and risk assessment. During this research, you should also determine whether the asset is legitimate to avoid investment scams. 
• Step 4 — Negotiate terms and agreements: Some investors may be capable of investing more based on their funds, risk tolerance, and personal preferences. As such, you must outline a contract on the profit-sharing ratios each investor is willing to make and notarize this document.
• Step 5 — Monitor and manage investments: Maintain regular communication, track performance, and adjust strategies as necessary to ensure the investment meets your goals.

It’s important not to skip over any of these steps. Otherwise, you might risk making an ill-advised decision. 

Succeeding as a Co-Investor

Succeeding as a co-investor requires various skills, such as strategic planning, transparent communication, and diligent management. To get the most out of your earnings, you must prioritize these skills to surpass any conflicts that come your way and restrategize accordingly.

You should also document as much as possible. Clear, well-documented agreements on financial contributions, profit-sharing, roles, responsibilities, and exit strategies form the foundation of a successful partnership. This documentation protects you in a legal court and outlines your financial expectations as co-investors. 

In addition, continuously monitor the market and stay flexible to others’ ideas. The market changes constantly, and collaborating to gain more insight can maximize your returns, as everyone may have a different perspective on the change.

How To Find Trustworthy Co-Investing Partners

Your co-investment strategy is only as good as the partners involved. As such, you must pick your team carefully. Start by thoroughly researching potential partners’ track records, including their past investments, financial health, and references from previous collaborators. Though this may sound official, a simple conversation may suffice. In it, discuss your financial goals, what you hope to obtain from an investment, and what you’d like to avoid when it comes to risk. If they agree to join, you can proceed to formal documentation to detail each investor’s roles and responsibilities to prevent misunderstandings.

You can also find trustworthy co-investors by networking within your professional network. Networking can take various forms, including attending industry events, joining investment forums online, or posting regularly on networking sites like LinkedIn to attract like-minded professionals.

Doing a Thorough Risk Assessment

Although you and your co-investor team may already have an idea of worthwhile investments, you should thoroughly assess each asset to trust the financial undertaking fully and understand the risks and rewards involved. To better understand the landscape, evaluate any current market trends. Look to your competitors to see what they’re investing in and how you could improve. 

You should also examine each asset’s financial stability. Ask yourself, how profitable has this asset been in the past? What liquid assets are involved? Is there a sustainable revenue stream?

Whether you’re debating the merits of specific stocks or the reliability of real estate, you should look at each investment opportunity with a level of scrutiny to protect your investment. 

Diversifying Your Portfolio

The best co-investment opportunities often include a fair distribution of investments across different assets and industries. This method, also known as portfolio diversification, minimizes your chances of experiencing financial downturns when the financial success of a market declines. If you put all of your eggs in one basket, so to speak, you’re more likely to lose them all if the basket is damaged. If you and your friends place an egg each in multiple baskets, you’ll experience less loss if that basket gets damaged. 

From a more practical explanation, you wouldn’t experience as much financial hardship if you invested in five different properties or assets in multiple locations, rather than allocating all of your money to one large investment. In a competitive financial market, varying industries rise and fall daily, so diversifying is a key strategy for risk mitigation. 

How Does Private Equity Co-Investing Work? 

Private equity, otherwise known as investments in private companies that aren’t publicly traded, maybe a worthwhile co-investment opportunity for various reasons. Since private equity isn’t as readily available as publicly traded investments, you can earn higher returns if the asset succeeds. Within a FOF investment, this is especially advantageous as most private equity firms require a high investment, and splitting the cost among the team allows entry while still managing the risks involved. 

That said, this option does come with its challenges. You’ll have to do more due diligence to ensure you’re making a trustworthy investment. It’s also a longer commitment, with most real estate investments requiring a 3-7 years holding period. 

If you find the benefits outweigh these challenges, you’ll need to proceed in the following steps: 

• Deal sourcing: In simple terms, this involves identifying high-potential investment opportunities from private equity firms. These include deals that aren’t typically available to individual investors. 

• Evaluation: From here, you can conduct an assessment of the asset’s financial health, market position, and potential risks. You might even review an investment thesis to ensure the asset aligns with your co-investment group’s goals. 
• Investment Deployment: Once the investment opportunity identified aligns with your fund’s investment goals and criteria, your lead investor will deploy the capital into the investment.

The more strategy you integrate in these steps, the higher return you’ll receive.  

Co-Investing in a Syndication

Co-investing into syndication is a collaborative investment strategy that allows multiple investors to pool resources for larger opportunities. A syndication involves a sponsor who organizes the investment, raises capital, and manages the entire process. Investors hold shares or units in a structured entity rather than direct ownership. Investors in syndications are usually passive and must be accredited to participate, relying on the sponsor’s expertise for management, and potential returns can vary based on the sponsor’s performance. 

Syndication is advantageous for those who prefer a hands-off approach, lack the time or expertise for active management, and seek diversification across multiple deals. This approach also often has lower entry barriers, making it accessible to a broader range of investors. Ultimately, your investment approach depends on your goals, your experience with previous investments, and how involved you would like to be. If you’d like a more laissez-faire approach, syndication may be for you. However, if you’d like the strategic challenge of co-investing, it may be worthwhile to look into it. 

While co-investing can have pros and cons, having a team behind your back to advise and protect you is essential. Viking Captial can offer that support for multifamily real estate investments. Contact us today to learn more about the many opportunities and how to get started. 

FAQs About Co-Investing

What Is the Minimum Investment Required for Co-Investing?

The minimum investment required for co-investing varies depending on the deal and the investment platform. Typically, it ranges from a few thousand to several hundred thousand dollars. It’s essential to review each opportunity’s specific requirements before committing.

How Do I Find Reputable Co-Investment Partners?

Finding reputable co-investment partners involves thorough research and networking. Look for partners with a solid track record, positive reviews, and a history of successful investments. Attend industry events, join investment clubs, and leverage professional connections to meet potential partners.

What Legal Documents Are Involved in Co-Investing?

Co-investing involves several legal documents, including partnership, subscription, and operating agreements. These documents outline each co-investor’s terms, responsibilities, and rights, ensuring clarity and protection for all parties involved.

Can I Co-Invest with Friends and Family?

Yes, you can co-invest with friends and family, but it’s crucial to treat these investments as professionally as you would with any other partners. Clearly outline legal agreements’ terms, responsibilities, and expectations to avoid conflicts and ensure a smooth investment process.

How Is Profit Distributed in Co-Investing?

Profit distribution in co-investing is typically based on the proportion of each investor’s contribution. The partnership or operating agreement outlines the specifics, detailing how and when profits will be distributed. It’s important to understand these terms before entering into a co-investment.

What Are the Risks of Co-Investing?

Co-investing carries several risks, including financial loss, market volatility, and potential conflicts among co-investors. Conducting thorough due diligence, choosing reputable partners, and diversifying investments can help mitigate these risks.

How Do I Evaluate a Co-Investment Opportunity?

Evaluating a co-investment opportunity involves assessing the deal’s financials, market potential, risk factors, and the track record of the lead investor or sponsor. Perform a comprehensive analysis and seek advice from financial experts to ensure the opportunity aligns with your investment goals.