Funds are investing in technology companies in order to remain competitive and create new synergies.

In part 1 of this series, we examined how the traditional private equity fund model is undermined by technologies that democratize access to capital and information, shift market power towards new types of real estate operators and aggregators, and call into question the idea of real estate as a relatively safe investment.

In this part, we will look at the ways in which fund managers address these challenges, and what enables them to do so. In the process, we’ll see how mixing investment in property, operating businesses, and technology can lead to interesting synergies.

Keeping Money Smart

Blackstone is one of the world’s largest investment firms. Among other things, the company manages over $110 billion in several real estate funds. These funds own interests in more than 220 million square feet of office space. For comparison, WeWork, the $20-billion coworking juggernaut, manages 20 times less space, and does not own the buildings in which it operates.

Earlier this year, Blackstone invested in Entic, technology company that optimizes energy usage in large buildings. After testing the technology in several of its projects, Blackstone now plans to roll out Entic’s solution throughout its portfolio.

In 2015, Blackstone invested $3.3 million to acquire approximately 10% of View The Space (“VTS”), a provider of cloud-based leasing and asset management software. VTS has since grown to become a market leader, merged with its largest competitor, and is now worth over $300 million.

Such investments provide Blackstone with access to unique data before it is available to competitors and allow it to benefit from the growing value of the tools the company’s asset managers use across its portfolio. Making VC-type investments also provides Blackstone with exposure to new tools and technologies before they become broadly available.

In part 1 of this series, we spoke about the narrow mandate of real estate funds preventing them from making such investments. How does Blackstone pull it off? First, the company has a variety of funds, focused on different industries, with different mandates and risk profiles. This means Blackstone as a whole can manage separate investments in both real estate and technology to the benefit of both.

Second, Blackstone is large enough to be able to use the revenue from its own fees to make meaningful investments. This means using its own balance sheet as opposed to using investors’ capital that was allocated to a specific fund.

Third, Blackstone itself is a publicly listed company, which gives it an additional source of capital to invest in things that have a strategic impact on the company’s overall business — again, beyond what would be required or possible for any individual fund.

Fourth, partly because the company is publicly listed, Blackstone arguably dedicates more management attention to the strategic direction of the company’s business as a whole, as opposed to traditional fund managers where most power resides with general partners who have narrow mandates and are not incentivized to consider the needs of their parent companies.

Smooth Operators

Traditional real estate investors and operators have more than each other to worry about. They also need to compete against new type of real estate companies such as WeWorkCommon, and AirBnB. To do that, it is not enough to invest in different startups —it is necessary to invest in platforms that combine different tools to offer a new experience to customers (previously known as “tenants”).

Some private equity funds are doing exactly that. Gaw Capital invested $33 million in Naked Hub, an operator of coworking spaces and WeWork’s main competitor in AsiaWarburg Pincus invested in Mofang, a leading Chinese operator of furnished and shared apartments. And Brockton Capital bankrolled the establishment of Fora, a coworking operator.

These three fund managers managed to make such investments because they had either a specific mandate to invest in asset-backed operating business (Brockton), a management focused enough to makes bets based on a clear thesis (Gaw), or were not real estate focused to begin with and had the freedom to invest in any almost any type of business (Warburg).

Blackstone itself backed Invitation Homes, a platform that owns and operates a large portfolio of single-family rental houses . These rental homes were acquired, managed, and serviced using proprietary technology and methodologies. Earlier this year, Blackstone listed Invitation Homes on the NYSE and the company is now worth around $7 billion. Earlier this year, Blackstone acquired a majority interest in The Office Group, an operator of flexible office space.

Brookfield, whose funds have interests in over 400 million square feet of commercial space, invested in Convene, an operator of flexible office and meeting space. Like Blackstone, Brookfield was able to invest directly in Convene due to its unique scale and unconventional structure.

We Work, We Own

Rhone Group, a somewhat mysterious venture capital and private equity firm, recently teamed up with WeWork to set up a new real estate fund. Rhone and/or its partners are also rumored to have invested in WeWork itself previously.

This combination of venture capital and traditional real estate investment allows Rhone, in theory, to benefit from the increase in value of WeWork itself, as well as the increase in value of the actual buildings that WeWork operates — a bit like McDonald’s’ realization that its buildings are more valuable than its burger business or that both are worth owning.

Rhone and WeWork recently acquired the Lord & Taylor building on Manhattan’s 5th Avenue. At face value, it seems strange to see a coworking operator team up with a private equity fund to buy an old department store. But, as Mat Abramsky points out, delving into the details reveals interesting possibilities.

Lord & Taylor is owned by HBC, a retail conglomerate that owns a multibillion dollar real estate portfolio occupied by department stores such as Saks Fifth Avenue and Hudson’s Bay. Department stores are downsizing due to pressure from online retailers and changing consumer preferences. Coworking spaces are expanding. It seems to make sense to convert some of that retail space to coworking space. It makes even more sense to buy prized retail properties from struggling retailers and convert some/all of the space to branded office.

This is not so far fetched. Earlier this month, Brookfield made a $15 billion bid to acquire GGP, a troubled shopping mall operator, with explicit plans to convert some of the retail portfolio to other uses, such as office space. As you recall, Brookfield is also a key investor in Convene, a flexible office operator.

This is not to say that Rhone or Brookfield’s maneuvers will bear fruit. But it shows the strategic advantage of the ability to invest in both assets and technology platforms. It also shows that once a real estate operator — WeWork, in this case— becomes differentiated enough, it can access capital directly and does not need to rely on traditional private equity funds. Such differentiation is achieved by combining proprietary hardware, proprietary software, and a meaningful brand.

But overgrown startups such as WeWork and Convene are not the only real estate operators in town. In Part 3 of this series, to be published in two weeks, we will look at how traditional owner-operators such as Related, Swire, Two Trees, Milstein, British Land, and Silverstein are trying to differentiate themselves, and examine the growing role of Venture Capital funds in reshaping the real estate industry.

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Dror Poleg works with private equity funds, institutional investors, and real estate companies to capitalize on long-term economic and technological trends.