Screening Real Estate Deals for a Family Office
A family office screens in four ordered steps. A written mandate removes what does not belong, a look at the referral source and sponsor removes what is not aligned, an understanding test removes what the team cannot explain, and a stress case on the numbers decides which few deals receive diligence hours. Each step costs far less than diligence, so most of what arrives can be declined quickly and for a stated reason. The deals that survive fit the mandate and can be followed from sponsor to capital stack to cash flow.
Volume sets the arithmetic, and outliers are what it looks for
Deal volume differs enormously between offices. Some families report seeing 40 deals over three years, while others are sent several deals per day.
At 50 deals per year, a family that puts the 10% that clear the screen into due diligence or serious consideration is working on five deals. The other 45 need a decline that can be explained and that costs far less than diligence does.
Offices that see hundreds of deals in a year can close one or two per quarter, and a single investor might make only four investments across the whole year. The ratio of deals reviewed to deals done is steep, so the cost of each screening step matters as much as its precision. A step that removes half the queue in a day saves more diligence hours than a step that removes one more deal in a month.
The target can be stated statistically. Deals two to three standard deviations away from normal, ideally unusual on at least one dimension such as structure or geography, are the ones worth the hours. A deal three standard deviations from average represents 0.3% of what an investor sees.
Recognizing an outlier requires a baseline. Reviewing many deals inside a defined strategy lets an investor compare opportunities against each other, and without that circle there is no average to deviate from.
A mandate specific enough to reject 80 percent of pitches
A mandate screens only when it can say no. First-round screening can weed out 80% or more of the deals pitched, which requires criteria concrete enough that most opportunities fail at least one of them.
One family office used a 12-point deal screen to settle which opportunities it would consider and which it would go looking for. Before that, with no focus, its best ideas came somewhat randomly through introductions and referrals.
Focus also changes the cost of the work that follows. Without it, due diligence and valuation run slower, specialist advisers are harder to line up, and analysis built for one deal cannot be reused on the next. With a defined strategy, the third deal in a niche is underwritten with what the first two taught the team.
A clear statement of which deals the office can do also eliminates unsuitable ones early, and the people referring deals value hearing that quickly.
Criteria fall into two kinds. Disqualifiers close the file on their own, such as an excluded property type or a market outside the footprint. Preferences move a deal up or down the queue without ending it. When both sit in one memo as undifferentiated concerns, a committee cannot tell whether more work could change the answer.
The 24 hour response as a classification step
A family office can aim to answer every referred deal within 24 hours, whichever way the answer goes, by running all of them through the same basic test first. That speed is possible because the strategy is clear before the referral arrives.
A reply inside a day classifies the deal as a decline or a continuation, and a continuation is either a request for missing information or a call.
The call exists to put questions about the offering documents and the investment to the team and to get a feel for the professionals behind it. A call earns its place when a written question precedes it. Without one, the call repeats the deck and leaves the same uncertainty in place.
A useful end-of-call test is whether the office can write down what became clearer. An engaging conversation that reduced no uncertainty has used screening time without finishing the screen.
“We pride ourselves in sending out the first response on a potential deal referred to us within 24 hours either which way. This is because we have a basic ‘smell test’ that all deals must meet.”
Source first, then sponsor, then asset
The order of questions matters. One approach assesses the trust and interests of the deal source first, then turns to the investment fundamentals and the value of the asset.
Referrals carry weight because large offices cannot investigate every opportunity themselves, so the community works through trusted networks. A peer referral secures a meeting, and the office still evaluates the investment on its own.
Sponsor alignment gets tested with a direct pair of questions put to deal-flow suppliers: would they buy this deal themselves, and would they use their own money or invest alongside the family. The supplier is asked to look at the deal from the potential client’s side.
A sponsor co-investment figure says little until the origin of the cash and the sponsor’s economic return are known. Cash contributed alongside the family and fees collected for arranging the deal are separate flows, and netting them into one alignment statement hides the sponsor’s actual exposure.
Reputation screens as well. Family offices look for reputable firms and aim to build generational relationships with third parties, which makes a sponsor relationship worth developing even when a particular deal does not advance.
“This community works upon referrals and trusted networks.”
The understanding test: two sentences and a place in the capital stack
A deal that cannot be explained briefly has not finished screening. One test asks whether the deal is clear enough to describe in two sentences and whether the investor can say where it sits in the capital stack.
The capital stack orders the claims on a property. Senior debt is paid first and common equity absorbs the first losses, with any mezzanine or preferred layers between them. Position decides how far value can fall before a given dollar is impaired.
A family can pass on any investment whose risks it cannot fully understand, since investments can fail or perform worse than hoped.
The same logic applies to executives managing family capital. Their primary job is protecting the family’s wealth and, if possible, growing it, so a project they do not understand is not one to make. Rigorous diligence follows for deals that pass, aimed at the prospects and risks of what is being bought.
Worked example: an occupancy stress on a hypothetical acquisition
A stress screen tests the inputs that would break a deal, such as occupancy, net operating income, interest rate and construction cost. This hypothetical stresses occupancy alone. Both cases share the same price, debt, rate, potential revenue and expenses, and closing costs are left out of both. Only occupancy changes.
The purchase price is $20,000,000, funded with $12,000,000 of debt. The debt ratio is 12,000,000 divided by 20,000,000 multiplied by 100 = 60%. Equity is 20,000,000 minus 12,000,000 = $8,000,000. The debt is interest only at 6%, so annual debt service is 12,000,000 multiplied by 6 divided by 100 = $720,000.
Potential gross revenue is $2,000,000 and operating expenses are $820,000 in both cases.
Base case at 95% occupancy: effective revenue is 2,000,000 multiplied by 95 divided by 100 = $1,900,000. Net operating income is 1,900,000 minus 820,000 = $1,080,000. The cap rate, one year of net operating income over price, is 1,080,000 divided by 20,000,000 multiplied by 100 = 5.4%. Debt service coverage is 1,080,000 divided by 720,000 = 1.5x. Cash after debt service is 1,080,000 minus 720,000 = $360,000, which is 360,000 divided by 8,000,000 multiplied by 100 = 4.5% on equity.
Stressed case at 86% occupancy: effective revenue is 2,000,000 multiplied by 86 divided by 100 = $1,720,000. Net operating income is 1,720,000 minus 820,000 = $900,000. The cap rate is 900,000 divided by 20,000,000 multiplied by 100 = 4.5%. Debt service coverage is 900,000 divided by 720,000 = 1.25x. Cash after debt service is 900,000 minus 720,000 = $180,000, which is 180,000 divided by 8,000,000 multiplied by 100 = 2.25% on equity.
Occupancy fell 95 minus 86 = 9 points. Net operating income fell 1,080,000 minus 900,000 = $180,000. Debt service did not move, so the whole $180,000 lands on cash after debt service, and that cash falls by 180,000 divided by 360,000 multiplied by 100 = 50%. A nine point occupancy decline halves the cash the equity receives.
Break-even occupancy is where cash after debt service reaches zero. Expenses plus debt service are 820,000 plus 720,000 = $1,540,000, and 1,540,000 divided by 2,000,000 multiplied by 100 = 77%. Occupancy can fall to 77% before the property stops covering its own debt service.
Whether 1.25x trips anything depends on the loan document, because coverage thresholds vary by lender. The screening question is narrower: whether an 86% occupancy case is credible for this market and business plan, and what the same math shows when expenses or the interest rate move too.
Screening mistakes that distort the funnel
Treating a referral as evidence about the asset substitutes access for analysis. A referral secures a meeting and nothing more, so the office’s own evaluation of the investment has to stand on its own work.
The 5.4% cap rate in the example is one year of net operating income over price. It does not measure a return over a hold, because growth and exit value never enter it. Two deals at the same cap rate can produce very different returns.
Stressing a single input understates exposure when expenses or the rate can also move. The example holds expenses fixed, which is itself an assumption. The 77% break-even occupancy rises whenever expenses or debt service rise, because both sit in its numerator.
Reading 1.25x as pass or fail ignores that coverage thresholds vary by lender and that the loan document defines which income counts in the test. A coverage result measures the cushion available, and the covenant outcome depends on terms the screen has not yet seen.
A headline sponsor investment figure carries no alignment information until the source of the cash is known. Cash invested beside the family and fees for arranging the deal are different flows, and combining them hides how much the sponsor can lose.
Without a written focus, ideas arrive at random through introductions and local connections, and each interesting one is reviewed on its own terms. The analysis built for one cannot be reused on the next, so the screen never gets cheaper.
Screening questions before a deal receives diligence hours
Which written mandate criteria does the deal meet, and which does it miss?
Has a first response gone out inside the office’s stated time, which can be as short as 24 hours?
What does the referrer know directly about this deal?
What does the deal source gain if the deal closes?
Where does the sponsor’s cash come from, and how is the sponsor paid?
Can the deal be described in two sentences with its place in the capital stack named?
What question would the first call answer?
Does the deal stand out from the others in the queue, and on which dimension?
Is there a risk the team cannot fully understand?