Real Estate Psychology

10 Jun

Posted at 14:42h in Background & Preparation to Invest, My First Deal Series, Real Estate Psychology, Transitioning to a Career In Real Estate
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This is a story about Stephanie McConnon's experience in real estate investing:  How she got started, what she worked on, setbacks, marketing methods, and strategy changes. Stephanie writes: It was the design and construction aspect of buildings that attracted me the most to residential real estate at an early age. I had watched my father build additions to our home and was fascinated by the process of creating new living spaces, and the way that each change lifted the value of the home. In my free time in high school, I read every real estate investing-related book I could get my hands on. I was particularly attracted to residential renovations and multi-family value-add opportunities. Short term profits or “get rich quick” schemes never had allure for me. However, I was definitely attracted to the thought of setting aside money slowly over time to invest. I was interested in renovating assets that I planned to hold long-term for passive income and financial security. Developing a Set of Investment Principles Through my reading, I chose investment principles or ideologies that made sense to me, and when I was older, I was able to invest using those same principles. Today, the list has grown, but more or less includes the following: Purchase assets at “below-market” prices. In a stable market, it is my job to find opportunities for arbitrage and purchase below market. Perhaps there is a certain asset class at a specific price point, sitting on bank books, that nobody else is interested in buying. Perhaps larger investors are staying out of tertiary markets. Perhaps one market is going through a total meltdown (this year, I’m thinking of Flint, MI).Whatever the opportunity for arbitrage may be, it is my job to identify it and act upon it. This concept applies to commercial assets as well, and obviously my preference is to purchase assets when real estate values are down in the dumps. (Of course, this is also when capital/funding sources dry up). Invest in a good deal or do not invest at all. If I cannot find the arbitrage opportunity that I am looking for, I won’t invest. Period. I do not need to create an artificial timeline that pushes me to spend investor money or personal money when I am struggling to find deals. I would rather not invest than get involved in a bad deal. There is an investment strategy that works in every market during every phase of a real estate cycle. The fun and interesting part of real estate investing is figuring out what works, when, where, and being ready for it. Sometimes the strategy I really WANT to follow doesn’t turn out the be the strategy that works in a particular market, and I am forced to choose an alternative strategy (it happened to me in 2015). Applying the Principles to Single Family Home Deals With those principles in mind, I began working on residential real estate projects after high school, mostly with a relative. We purchased single family homes in Florida well below market, and many of them were sold at peak prices leading up the financial crisis in 2008. Almost all of these opportunities were identified by sending out direct mail to absentee property owners. During peak months, 30,000+ letters went out to property owners. We also tried sign advertisements, direct phone calls, door knocking, and expired listings from the MLS. Most of our transactions were borne out of direct mail, and our letters simply stated we were looking for properties to buy in their neighborhood. (Note: I am most happy to share the templates/mailers/methods for marketing with anyone who requests it via email). Most people who responded to our advertising wanted to sell at retail (full) price, so we weren’t interested. Sometimes, however, we received callbacks from sellers who were selling at a discount. Most of those types of sellers were those who needed to sell their property “yesterday.” On average, properties were purchased for less than $20-50k, renovated for $10-25k, and sold for upwards of $100-300k. After working on about 30 transactions, we wrapped up the Florida property portfolio and went on with our lives. At that time, our arbitrage opportunities for our strategy were dried up. I spent a few years on other pursuits, including opening a business and finishing my undergraduate degree. Then, in 2012, I came to NYC, like many, seeking opportunity. I wanted to become a more sophisticated real estate investor by working on larger transactions and expanding to additional markets. I was very open minded to opportunities, and I knew two things: Success on a larger scale would require raising money from others. Thoroughly understanding due diligence, legal, and title in transactions would become a necessity. Trial, Error, and An Overheated Multifamily Market As a result, I took on a job role that would help with the fundraising and investor relations aspect of using OPM. This lasted for two years. I worked for a company that handled major real estate transactions nationwide to help me understand the due diligence, title, and legal aspects of real estate. This also lasted for two years. I also used this time to earn an MS in Real Estate Finance from NYU. During my time at NYU, I received my first exposure to the sophisticated investment techniques used by larger players in the industry. I got together with a long-term trusted friend, and we started a company. We began putting out bids for multi-family assets and apartment complexes. From a marketing perspective, we tried lots of things, including: targeted USPS letters to apartment complex owners direct phone calls to owners door knocking networking and reaching out to brokers landlord/property owner associations targeted internet advertising Again, I received the best response through direct mail, with handwritten envelopes and physical stamps on each envelope. Getting potential apartment complex deals in the pipeline was the easy part, and soon we were bombarded. We had properties to underwrite, investment committee meetings to attend, lender pitches to present, and vendor meetings. I put my absolute best bids out on several large assets over the course of a year-and-a-half leading into 2016. They were not junk bids; each was carefully planned, conservatively financed, and had excellent long-term potential for myself and my investors. However, in every case, I was outbid by at least three other purchasers. Given the prices I saw other investors paying, I knew they were underwriting based on highly optimistic, best-case scenario numbers that were not impossible to achieve, but could potentially put the property at risk if anything went wrong, such as: a change in the real estate markets an operational mistake a slight decrease in demand a lag getting new tenants moved in any host of other potential problems While I respect the fact that every investor has their own personal risk tolerance, slicing thin margins and teetering on default in tough times are not the types of risks I like to take. This applies especially to someone who does not yet own an apartment complex, like me, and who is using equity funding from professionals who have worked long, hard hours for years to earn their investment dollars. Though I wished to invest in those apartment complexes, I knew the right thing to do was wait for the market to cool off. In the meantime, where have I found opportunity? I am working on a portfolio of pre-fabricated homes that were bank-foreclosed. I can purchase them below-market in bulk, renovate, and sell them above market by financing my residents. This is a high-margin, low asset value strategy that gives a second chance to both the homes and the people who live inside them. Still, I plan to work in the commercial value-add and opportunistic space in the coming years. As for the right strategy, in the right market, at the right time? You’ll have to get out your crystal ball for that. View my real estate portfolio: www.stephaniemcconnon.com....

19 Feb

Posted at 11:30h in Background & Preparation to Invest, Jonathan Twombly, Managing Rental Properties, Real Estate Psychology, Transitioning to a Career In Real Estate, Uncategorized
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You’ve finally closed your first deal. What do you do now? Yeah, I didn’t know either. And it nearly caused me to blow my first deal. Then I got serious.   I went pro. On Top of the World During due diligence on my first deal, I decided not to hire the seller’s onsite property manager (PM) after closing. The property started operations with our management company’s transition team. The regional manager (RM) was to hire a new PM. Hiring a PM took months. Numerous candidates turned down the position before one finally accepted. Her background was in affordable housing, not market-rate property like ours. It didn’t sound quite right to me, but the RM believed she could learn the PM role quickly. Anyway, who was I to say? I was a newbie. I still felt like an amateur. The RM was the professional. I deferred to her judgment. Operations started off very well. By the end of the Second Quarter, the property was fully occupied and outperforming our financial projections. I sent a nice fat dividend check to the investor. He had just invested in our second deal, too. I felt on top of the world. Whoops!  Not So Fast . . . Almost immediately, though, things started going wrong. Occupancy started trending down in the weekly reports. We were experiencing very high rent delinquency rates and had to evict several tenants. I brought it up with the RM on our weekly property calls. Each week, she assured me that everything was under control.  I kept my mouth shut. But by early fall occupancy dropped to about 90 percent, and operating profits fell. Eviction expenses and apartment turn costs were rising. We would miss the Third Quarter distribution. And, then, black mold was found in a vacant unit. Then another. Then a third. All three units had to be gutted to the studs. The RM kept assuring me everything was under control, we’d start seeing improvement soon. I deferred to her. I said nothing. The property was in free-fall. The PM and RM were not doing their jobs. The professionals were failing, and I did not know what to do. I felt paralyzed. Turning Pro When occupancy fell below 90 percent, something in me snapped. I realized, for the first time, that the hard work started when we closed the deal. I was an asset manager now. Someone had invested more than $1,000,000 of his family’s money in this deal. I owed him a duty to fix things. I had to take action fast, even though I was not really sure what to do. I made a decision. I would stop assuming the RM and PM knew more than me. I would stop deferring to their judgment.   I would take charge. I would captain the ship. That moment, I turned pro. I emailed the management company’s top executives. The company was managing our second property, too, and was in the middle of due diligence on our third and fourth deals. We had been discussing a long-term relationship as we built our portfolio. I told them that they would straighten out the first property right away, or I would terminate all their management contracts. That email got action, fast. The CEO and other executives flew in to meet with me. The PM returned to her old job in affordable housing before she could be fired, and the RM took direct control over the property. The company assigned one of its best asset managers to oversee the RM, and he drafted a recovery plan for the property. After a few months, a new executive manager took over our entire portfolio, replacing the RM. Taking Stock and Facing Facts We also made sure to get to the bottom of what happened, to avoid making the same mistakes ever again. We dug in and discovered that: The PM was used to filling vacancies from a waiting list. She could not adjust to a market-rate property that required constant marketing to maintain occupancy. She did not check vacant units for problems. She was unaware until it was too late that moisture issues had caused mold in three vacant units. She set qualifications too low in the tenant evaluation software, causing her to rent to unqualified tenants who fell behind on rent and had to be evicted. She entered invoices into the accounting software improperly. The property looked more profitable than it was, because expenses were not being booked. The PM said the property lacked operating cash to turn vacant units to be re-rented. But she never told her superiors. We could have advanced money from corporate to help, but were never informed of the problem. The RM was not paying attention to any of these matters. Nor were her superiors. And I faced up to the fact that, as the sponsor and asset manager, I was ultimately responsible for the situation. And I made some rookie mistakes too: Ignoring my gut and deferring to the RM’s assurances that everything was fine. I should have spoken to the management company’s executives the moment I felt that what the RM was telling me was inconsistent with the numbers I was seeing. Distributing too much cash too soon, depriving the property of operating funds, because I wanted to look good to the investor. I should have distributed only what was needed to meet the preferred return and waited for the property to stabilize. After we brought in the new management team and implemented the recovery plan, the property’s position improved dramatically. And our other three properties, which were already performing well, benefitted too. But significant damage had been done at the first property: The property fell behind on payables to vendors. Vendors did not want to work at the property. We had to fund accounts payable from corporate, and it took months to catch up and restore the property’s credit with vendors. The property fell below the lender’s required debt-service coverage ratio, and the bank took control of the property’s bank accounts for two calendar quarters. Most important, the investor did not receive distributions for more than a year. There were negative consequences for our company, too: We, as the sponsor, could not participate in any profits until the investor’s preferred return deficit was made up. We waived our asset management fee until distributions resumed. Our contract did not require it, and the investor did not ask us to do it, but it was the right thing to do. As a result, we received no compensation from the property that required more time and effort and caused more stress and sleepless nights than any other we own. Lessons Learned So, what can a new investor take away from this experience? Once you close, you are in charge of the deal. If things are not going right, it’s your responsibility to fix it. Strong property-level staff is vital to the success of your business. If you see any signs of incompetence, you must address it immediately. Require your management company to hire property-level staff with direct experience with your property type. Different property types require different skills. Hiring a manager without the right skill set could destroy your business. The situation at a property can unravel very quickly. It can take years to restore the property to its full potential. You must take swift action at the first sign of trouble. Don’t be afraid to speak up. If your gut tells you something is wrong, it’s your responsibility to demand that the management company fix the problem. The problems with this property caused me to lose many a night’s sleep. But, taking a long view, I’m grateful this situation arose early in my career. It taught me how to be an asset manager. This property forced me to become a pro at what I do....

09 Feb

Posted at 08:42h in Background & Preparation to Invest, Real Estate Psychology, Transitioning to a Career In Real Estate
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Guest Blogger:  Joe Stampone of A Student of the Real Estate Game I spend a lot of time talking with real estate entrepreneurs who have successfully closed a few deals and built their company infrastructure. While they knew it would be difficult, they’re always surprised by what it takes to build a company. The ability to source, underwrite, and execute real estate transactions is a small piece of running a real estate investment firm. Based on the countless conversations I’ve had and from my own experience with Atlas, here are 10 things you need to do before doing your first deal. This list was also inspired by the advice from my latest eBook, what 20 real estate operators wish they knew when starting their firm. Cultivate a support network: Going off on your own is going to be an emotional roller coaster for the first few years. You give up your steady salary and come out of pocket for start-up business expenses, and you’re going to have to skip those after-work happy hours and weekend dinners. You won’t be able to go on that west coast ski trip this year or do a summer share in the Hamptons. Make sure to have a network in place of people who understand what you’re going through and can offer advice/support. It’s going to be a grind for a long time, but it will be worth it in the long-run. Create a board of advisors: One of the most challenging aspects of doing your first deal is winning the deal with no track record. Why should an owner/broker award you the deal instead of the group with a big balance sheet and a history of executing deals? Yes, you can show the track record of deals you’ve been involved with at your previous shop, but I recommend you form a board of advisors who can provide advice and who have a track record you can piggyback off of. Understand the holes in your skill set: Before going after that first deal, spend some time with your partner(s) analyzing what “holes” there are in your combined skill-sets and personality traits, the biggest potential risks to your business model, and what a downside scenario might look like. Once these issues/risks are identified, it’s a good idea to take it one step further and think through potential ways to mitigate these issues upfront, or how to best address them if they do arise in the future. Devise and business plan and understand your competitive advantage: As a new firm, you have to differentiate yourself and give a client or investor a reason to work with you as opposed to with an established player. That requires you to form a strategy or viewpoint that might be contrarian or showcases your expertise executing a specific strategy. Early investors will be betting on you as well as your specific strategy. Work with an established attorney and accountant: When working with service providers you typically get what you pay for. If you can afford it, find a quality attorney and accountant who can help you get your business set up, put proper systems in place, and ensure you’re doing things the right way. It’s a lot easier to do it now rather than later on down the road. You can use a service such as LegalZoom to save on costs. Cultivate a network of investors: One of the fallacies I hear most often in real estate is “you can always find the money if you have the right deal”, a phrase that may hold true for established investment firms, but couldn’t be further from reality for rookie investors. Call everyone in your professional and personal networks and tell them about your new idea and how you will create value while mitigating risk for your investors – key points which we forget to emphasize while we’re stuck digging through the weeds of the acquisition. You can start to build your investor database by contacting your CPA’s, lawyers, existing clients, RIA’S and wealth managers, lenders, and friends and family of means, all of whom are seeking to allocate capital or have clients seeking to allocate capital in real estate. Understand your company culture: Even with just two or three people at the company, you should be talking about culture. You should be very deliberate on creating culture every day. You cannot go back in time once you are a successful business and “make up a new culture or establish one for the first time.” Culture is born and grows and lives, just like your business, and you need to put it in place at the beginning.” Partner with a good 3rd party marketing firm: When starting out you need a company name, logo, business cards, and a website. You can save on costs by using sites like 99Designs or finding freelancers, but I recommend working with a high-quality 3rd party marketing firm that has done work with other real estate investment firms. I have worked with several groups that are affordable and understand the real estate space – feel free to reach out if you’d like an introduction. Find a partner with capital if you don’t have any: It’s going to be impossible to cover start-up costs, fund deposits, and sign on debt without a net worth. If you don’t have capital, find a partner who does. This is probably this biggest barrier to successfully execute your first deal and the reason many investors start with bite-sized deals. Get your first deal done: Ignore everything I just said and execute! Get your first deal done and use it to learn, put processes in place, and build your track record. This list is in no way exhaustive, but provides a good sense of things you should be thinking about as you prepare to go off on your own and do your own deals. What else would you add to this list?  Enter your thoughts in the comments section below....

14 Nov

Posted at 12:06h in Background & Preparation to Invest, Real Estate Psychology
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Everyone who has successfully broken into multifamily real estate (MFRE) investing will agree on one thing: Your first deal is the most important. Why? Because brokers, sellers and lenders will not take you seriously if you’ve never owned multifamily property. You’re a newbie, a tire kicker, a waste of their time. This situation presents a real problem: no one will do business with you when you’ve never closed an MFRE deal, and you can’t close a deal when no one will do business with you. In a very difficult profession, getting your first deal could be the biggest obstacle of all.  But you can overcome it. The Problem: Newbies are Risky Very few MFRE professionals want to do business with new investors because most newbies will waste the professional’s time, money or both. The risk for a seller is that a property goes into contract but the deal does not close. Once a deal goes to contract, a seller must expend significant time and effort providing due diligence materials to the buyer, lender, and third parties such as surveyors, title insurance companies, and appraisers. It must deal with irate tenants upset over disruptions caused by the inspection process. The seller will incur unrecoverable expenses connected to the transaction, like legal fees. And, most importantly, the market may move against the seller while the property was off the market during the contract period. Thus, sellers are wary of new investors, who may not have the resources or qualifications to close the transaction. For this reason, a seller may reject a higher offer from a new investor in favor of a lower offer from a buyer with a history of closing deals. For brokers, the buyer’s ability to close trumps everything else. Brokers spend significant amounts of time and money preparing and marketing a property for sale. Once a deal goes under contract, they will also spend significant time helping the seller provide due diligence materials to the buyer. Most importantly, brokers are only paid if a deal closes. And almost as importantly, brokers risk their reputations with their clients, the sellers, if they bring unqualified buyers to the table. Lenders also see significant risks in dealing with new investors. A very important consideration for them is the buyer’s ability to operate the asset properly and maintains its value as collateral for the loan. Lenders favor buyers with a history of successfully operating multifamily properties, and some lenders will even require a borrower to have two or more years of prior operational experience, regardless of the deal’s inherent attractiveness or the buyer’s creditworthiness. Sellers and brokers also know it may be tough for new investors to qualify for mortgage financing, and for this reason as well, they may be resist doing business with them. In reality, sellers and brokers have very few ways of determining whether an investor really has the resources and qualifications to close the deal. (Lenders will get your balance sheet, so they will know.) So, sellers and brokers have nothing else to go on but your past history. Even though closing prior deals is no guarantee that a buyer will be able to close this deal, sellers and brokers usually feel that a buyer with a track record is less of a risk than a new investor, whose ability to close is unknown. The Solution: Build Your Credibility With Stakeholders Just because you have no history of closing deals and running MFRE properties, don’t give up hope! Everyone in the business got past this hurdle. So can you. The key is to develop credibility as an investor even though you don't have a track record. These steps will help. You’re An Investor: Own It A typical mistake new investors make is not to believe they are investors until they close a deal. If you don't believe you are really an investor neither will anyone else. If you are devoting substantial time and effort to learning this business, then you are an investor.   Believe it, be it, and own it. Doubt yourself, and so will they. Develop Your Knowledge and Learn the Lingo For anyone to believe you are an investor, you must sound like one. You must master the essential concepts of multifamily investing and understand the profession’s vocabulary. If you don’t know the meaning of “cap rate” or “economic vacancy,” you had better learn now. Fortunately, many educational resources are available, from books to websites to full-blown certification courses like CCIM. Broker packages are an excellent overlooked resource. Many brokerages allow anyone to register on their site and receive all of their offering materials. These materials are a treasure trove of information about how brokers and investors think. And while broker materials should be seen for what they are – sales materials – they are a terrific resource for helping you learn the lingo. Leverage Your Own Credibility Just because you don't have a background in MFRE doesn’t mean that your background is irrelevant. In fact, it can greatly enhance your credibility with people in the real estate field. Did you graduate from a well-know university? Do you have an advanced degree? Do you have a prestigious professional job such as doctor, lawyer, banker, consultant, etc.? Have you successfully built a business in another field? Have you already built a portfolio of single-family homes? Whatever your background, you can mine it for elements that make you stand out as professional and accomplished, and these elements will help you establish credibility with people in the MFRE business. Build A Team If you really want to build your credibility before you go out and try to find deals, you must build a team of professionals. In addition to the management company, you will need a real estate lawyer to help you negotiate the purchase contract and close the deal and the loan; a real estate accounting firm to prepare tax returns and prepare financial statements; a surveyor; a title insurance company; and, if you are using investor money, a corporate and securities lawyer to prepare the proper legal documentation for investors. Having these professionals in place in advance will show brokers, bankers, sellers, and investors that, even though you are new, you are well prepared and serious about this business. It will enhance your credibility, as well as make it much easier to close the deals you do find. Cloak Yourself in Others’ Credibility If all these steps fail, you still might be able to gain credibility by borrowing the credibility of an experienced partner or mentor. If you can show deep knowledge and real dedication, you may be able to find a veteran who is willing to help you. But be forewarned: this is not easy. Most newbies know nothing, are unreliable, and frankly are more trouble than they are worth. And an experienced investor will be very reluctant to risk their reputation on you. So you will have a great obstacle in convincing someone to mentor you. At the very least, you will have to do all the hard work on the deal and give away a very large piece of the upside. You might even be left with only a tiny sliver of the equity in your own deal. But, if you can pull this off, the mentoring, experience, and credibility you receive along the way – and getting that all-important first deal done – will more than make up for it. Cultivate Relationships with Brokers Ahead of Time Brokers are the gatekeepers in the business, as well as enormous sources of information, and you must make them your allies before you actually need them. Brokers are like everyone else: they prefer dealing with people they know. Build relationships with brokers before you start looking seriously at properties, so when you’re ready to buy they are already on your side. If you can, meet brokers through personal introductions. Ask your network if anyone knows a commercial broker. An introduction from the broker’s business acquaintance is helpful, but an introduction from a mutual friend outside the business is even better. Either will provide you with a level of credibility that a cold call never can. Do your homework before you meet a broker. Make sure you speak the language of the business. Google the broker, learn about his background, and study his current listing materials thoroughly. Demonstrating deep knowledge of him and his business will help you overcome any resistance he has to working with you. Once you’ve met a broker, don’t wait until you need a deal to call him again. Build the relationship now! Take him to lunch or coffee periodically. Tell him about your plans and demonstrate that you understand the business and the market. Most importantly, show a personal interest in him. Learn about his family, interests, and personal problems you may be able to help solve. It’s Networking 101, and works with brokers too. If you show interest in their success, they will take an interest in yours. Try to solve a lingering business problem. Ask the broker to show you old deals that never got any offers or fell out of contract – in short, deals he had given up ever making money on. Even if he’s not yet willing to trust you with one of his sweet deals, he may take a chance on you with one of the dogs. Put together a creative offer that shows you understand the difficulties of a dead deal; if it’s good enough, he will become your advocate with the seller. And, if you close the deal and make him money he never thought he’d make, you will become a go-to client. Don’t waste the broker’s time! Don’t overstay your welcome and make them think you are a time-sucker. Keep your meetings short. Leave the broker wanting more. Demonstrate Your Credibility to the Seller with Proof of Funds A seller may refuse to deal with you if he doubts your ability to close the deal. One way to overcome this doubt is with “proof of funds.” If you, your partners, or your investors have the funds available for the equity portion of the purchase price, offer to get a letter from an accountant or bank attesting to this fact.   If a seller sees proof of funds, it may put their doubts about dealing with you at rest. Demonstrate Your Credibility to Lenders With A Professional Management Company in Place Having the right team in place can help you overcome lender resistance as well. Lenders may feel it’s too risky to lend to a new investor with no experience running a multifamily property. One way to overcome this is by having a partner with experience operating properties. Another way is to install an approved professional third-party management company to run the property’s day-to-day operations. If the lender knows that the asset is in professional hands, it may be more likely to lend on your first deal. Depending on the size of the property, you will have to pay somewhere between three to ten percent of revenue to hire a qualified manager, but on the other hand you won’t need to take the 3:00 am calls about backed up toilets.  A Word About Lenders and Your Personal Net Worth Another issue faced by multifamily investors is qualifying for a mortgage. MFRE is considered commercial property, and, unlike residential mortgage lenders, commercial lenders require a borrower to have a net worth equal to or greater than the size of the loan they’re making, regardless of the value of the deal. If you’re seeking a $500,000 loan, you will need a net worth of at least that much to qualify. If you do not have the requisite net worth, then you will need a partner who does. You will have to share equity in the deal, but bringing on such a partner will help you get the deal done. You will need to have financially strong partners in all your deals, and give them equity, until your net worth has grown to the point where banks will lend to you on your own. In the End, It All Comes Down to Networks and Teams You’ve probably heard it before, but real estate truly is a relationship business. If you are serious about investing in MFRE, then you must spend the time and effort in developing a team of professionals and a network of brokers, bankers, and potential investors in advance. The time and effort you invest in building your network and your team will not only help you find that first deal, but it will also help you to close it, finance it and operate it successfully....