WS1602: Make Your Investments Perform Better | #Highlights

EPISODE 1602

[INTRODUCTION]

Whitney Sewell (WS): This is your daily Real Estate Syndication Show and I’m your host, Whitney Sewell. Today we have packed a few different shows together that we call #Highlights to help you to get the most bang for your time and educating you on the topics that you want to learn from. We would love to hear from you. I am grateful that you are with us today. Have a blessed day.

[INTERVIEW 1]

WS: Our guest and good friend of mine, somebody I highly respect, amazing entrepreneur, Dan Hanford. Thanks for being on the show Dan.

DH: Thanks for having me back Whitney, really appreciate it and looking forward to sharing some more with your audience here.

WS: People who are looking to say, “I know I still want to own real estate. Maybe this is the time to get in, maybe it’s not. I’m not really sure with everything that’s happening right now.” I’d love your input Dan.

DH: Yeah, right now, this is the beginning of April. Today is April 6th. In our apartments that we own, rents are due April 1st and my April 5th are late. Today is going to be the first true sign as to how these properties are performing and so we’ll actually hopefully be able to know that a little bit more in the next couple of days here but right now, as far as the acquisition side and whether you should actually be acquiring right now, there’s a couple of things from the passive side that you’d want to make sure of.

A big red flag for me would be if an operator underwrote a deal before all these happened and say January, February, even the beginning of March and they didn’t change their underwriting since they’ve been into the deal, right? Because that would be a big red flag. Now a yellow flag would be, they’re still trying to acquire the asset, right?

The yellow flags aren’t necessarily like completely don’t do the deal, they’re more of like a – let’s sit back, let’s see how they actually underwrote this deal, how they actually underwrote it to mitigate the potential risks that are coming right now with the economic slowdown and because of COVID-19 and things like that.

One of the things that I would definitely say that you have to look at right now is what’s the business plan like right now, given the COVID-19? If they originally underwrote that it was going to take them say, 15, 18 months to lease up a deal after they did renovations, hopefully they have actually changed that plan to mitigate that because over the next probably three to four to possibly six months or longer, it’s going to be a little bit of a slowdown, you have a harder time with that rent growth.

That renovation plan is going to take a little bit longer. Somebody originally did 15 to 18 months. It’s going to want to see at least probably 24 months or longer and being able to execute that business plan and so, obviously, making sure that that’s in place is a crucial piece and that’s really for the B and C class, right?

When you’re looking at more like a higher-end A-class property, obviously you’re not going to do renovations but still on that A-class product, you want to make sure that the rent growth assumptions, especially for that first 12 months is not overly stated. You want to make sure that – I would probably say at least 1% or less in rent growth over the next 12 months if that at all, right?

Because right now, with what’s happening, you could already see it in some of the CoStar analytic data that the rent growth is actually started to slow down already during the month of March, it’s actually started to slow down and a lot of that has to do with these daily repricing software models that reprice the software every single day based on the current market conditions that allows us to kind of have a pulse on once the inventory like, what are the turnovers like, what kind of vacancies are actually being seen across the board because that’s what causes those prices to actually differ on a daily basis you’re using one of those types of models.

And so, that’s one piece is making sure that you’re looking at the renovations as well as the actual length of time when it comes to these renovations and if somebody is in a C class product right now or a B class product right now and they’re trying to raise for it, it’s going to be very challenging to kind of figure this out because the lower end Bs and the lower C class assets are the ones that are getting hurt right now, the worst. Because those are the people who have those jobs that are being lost, there’s furlough’s, the unemployment and hopefully all the stimulus that’s happening with the economic stimulus and the increased in unemployment benefits and things like that, it will help mitigate some of that damage but at the same time, those are the people who are getting hurt the worst.

When you look at more of an A-class asset, you have more of your white-collar professional that’s not usually living paycheck to paycheck, they usually have extra in operating reserves, I’m thinking about properties but they usually have extra in savings or extra reserves to be able to pull from if they do have a little bit of a slowdown or a dip for say, a two or three month period of time.

Those are just a couple of things, Whitney, that I would definitely caution somebody when they’re moving into a deal right now amidst all those COVID-19 stuff.

WS: It doesn’t mean they should just back out completely, but they should see some changes and hopefully, that operator’s communicating these changes with them, right? That’s the biggest thing right now with this type of situation is being overly communicative and even with our own assets, this month and April, we actually started weekly communications with our investors because we want our investors to understand what’s happening with their asset that they’ve invested in.

Normally, we do a monthly update that’s sent out by the 14th of the month that talks about the prior month. Well right now, every Monday, we’re sending out a weekly update report so those investors can understand how the asset’s performing because today, like I said, it’s April 6th, right? This is when all the rents are late and so by now, we should know, at least, how many of our residents have actually made their payments and how many have asked for payment arrangements and things like that because most cities right now have ordinances that are eviction moratoriums that will prevent you from being able to evict somebody.

Right now, given the situation, I really don’t want to have to evict anybody, right? We’re trying to do our best to maintain occupancy and making sure that we could increase the ability for our properties to do payment arrangements so we can keep those residents and the properties as long as possible but you have to make sure that you’re communicating with investors on a regular basis and right now, I feel like weekly is a really important thing to do.

Even right now, every day I’m getting emails and phone calls and text messages from our investors. “Hey, how is this property doing, how is that property doing?” Instead of having to respond to all those separately, we’re going to start seeing that weekly updated here in the month of April.

WS: Dan, you know, as a passive investor, you’ve got a lot of experience on that side as well, if we’re not currently investing in a deal right now, we haven’t committed to an operator right now, should we just be sitting back on the sideline for a few months to see what happens? Should we really be looking to invest right now if there’s opportunities. What’s your fill on that?

DH: I think it depends on your current situation because if you’re an accredited investor which means you have at least a million dollars of net worth or you have at least 200,000 if you’re single, 300,000 of income if you’re married for the last two years and you expect it to continue then you have a little more cash to play with usually, right? Usually if you have a little bit of excess there, you have the ability to invest, even in times like this, right?

I personally am still invested in this type of a market. There’s actually a deal that I was in just recently that actually fell through. I had already wired the funds and sent it in and it actually fell through and I got the funds back.

But again, that operator was constantly monitoring the situation and they realized that this deal just wasn’t going to be a deal that was going to make sense given the whole situation and so they appropriately backed out. I wasn’t upset with them, I was still wanting to invest with them but I also trust the operators that I’m investing with to make sure that they’re making the right decisions and our investors here at passiveinvesting.com trust us in the same way, right? We’ve had deals before that we’ve had to back out of and they understand that, right?

It’s not been a lot of them but there’s been situations where we’ve been like, “Okay, this deal does not make sense.” Instead of trying to get into a deal that doesn’t make sense, then we would rather just pass on and go find that next deal.

WS: That leads right into another great point as far as just vetting operators and I have talked about on the show recently talked about this is a great time to vet operators. We talked about it a little bit on the underwriting and just as you’re vetting new operators, you know, asking, well, what has this done to your operating models or your underwriting models and how does this change your business plan and learning how an operator operates through a tough time like this, what are your properties doing? But I’d love your take on that as well, you just mentioned too.

Trusting the operator. Even in bad times, you know, you’ve already built that level of trust so you know the operator’s performing at a very high level, you know that they’re doing the best that they possibly can to safeguard those investments of all their investors but I’d love your opinion too just about vetting operators and during this type of crisis as well?

DH: Sure, I originally told you two Whitney but there’s actually three things that I think are really important, especially right now given the COVID-19. Number one on my plate that I look for is I want to see somebody on the operations team that has some form of background and success in business, right? The reason that’s important is because when we’re buying these larger assets which is what we’re doing, we’re buying businesses that just so happen to have an asset associated with it.

I want to have somebody on that operations team that knows how to put in systems and procedures and processes in place, that knows how to manage people, knows how to make decisions in times just like this because these are the times that decisions have to be made. You can’t sit back and just wait to make decisions in this kind of situation is happening.

You have to be decisive and you know, having somebody who has some sort of successful background in business, I think is a very crucial piece. The second piece that I look for is an operator that’s full-time in the business. I want somebody who is full-time, invested everything full-time and that to me is very important because I’ve worked very hard to earn the money that I’ve got. I know our investors have as well and so all of our managing partners are full-time in the business and I want to invest in other operators that are also full-time in the business.

And then the third thing that I look for is more of a structure in the operations team. I wont invest with somebody if they only have one person as the operator because I have heard of stories before and I know you probably have too, Whitney, where somebody has invested with an operator that only had one person as the main operator and then all of a sudden, that person went ghost on them and they can’t find them.

Of course, I know of somebody right now that’s in New York City that is a friend of mine and he invested $200,000 in a deal and his friend invested $200,000 in a deal and the operator went ghost on them and they can’t find him. Of course, you go back to the operating agreement and what did it say?

In order to get out, you got to have arbitration. Well, how can you arbitrate with someone that you can’t find? They’re stuck in this kind of middle space right here where their equity’s caught up, the property’s still there, they’re still generating revenue but they’re not making distributions because there’s nobody to make distributions.

For me, I have to make sure that there’s at least two but I do like to see at least three to five people on that operations team. Probably not closer to five, my preference is two to three really when it comes to an operations team because when you start to get four and five, there’s a little bit too many cooks in the kitchen, just depends on what kind of role they play so there’s more of a minority role with those different operators, then it might be a little palatable for me but I want to make sure that there is at least more than one person that’s in that main operator position because I don’t want someone to go ghost.

And, I will also tell you this that we all talk about masterminds, right? Masterminds are when you get two or more minds together and you start to strategize, think about how to improve, right? How can you do that when you only have one person as the main operator and I’ve seen it right now today that there’s an operator right now that I know is the only operator and that operator has no one to bounce ideas off of and so they’re basically bouncing ideas off of other random people that aren’t even part of the property.

Right now, you have to make sure that you’re investing with somebody who has multiple people because for us, we have three managing partners and so every single day, we’re on phone calls and we’re masterminding, we’re strategizing and we’re making sure that we’re getting things done properly for our investors and for me, I want to make sure that I have multiple operators.

[INTERVIEW 2]

WS: Dave, welcome back to the show. Honor to dive in further with you. Speak to, you know, even pros and cons of multifamily that may be whether we’re active or passive that we should be considering that you all keep in mind.

Dave Codrea (DC): I think one thing right now that when you have to think about when with inflation kind of where it is, and I know they’re going to try and bring it back under control, and they’ve already pushed rates a good amount to do that. But when you look at multifamily, for the most part, you have rental rates that renew every year.

Now, there’s been a lot of news like, “Hey, rental rates are up 10 or 15, or 20%.” Because rates renew every year, commercial assets that could be five years before you have renewal. But hotels on the other side, they get to reset their rates every day. So I don’t think there has been a lot of news about hotel rates have doubled. 

Well, they can raise the rates every single day. And it’s seen as a, it’s not like a stable home that you’re there, you if you want to go to hotel or don’t want to go to the hotel, they’re raising their rates. So I think multifamily, you’re kind of in that middle ground if you’ve got 8, 9% of your leases that are probably turning every month and you can stay up to date with where the trends are with inflation or what rates needs to be in your market. You don’t have to do it all at once like hotels, and you don’t have to wait five years in a commercial space. So I think you’re in a good middle ground with multifamily purely on that inflation in that rate increase hedge.

WS: No doubt about it. I’ve thought about that a little bit as we think about our units and what the rents are. And we can fluctuate rents daily, as far as new leases, as far as what rents are, but you are locked in for a year. But it’s not like being locked in for five or 10 years, like some retail stores. And so what about even moving into 2023, and just advantages you see of being a multifamily investor, as we head into ’23? And maybe what you expect ’23 to be?

DC: I think the beginning of the year is going to be a little bit slow on finding opportunities. It’s kind of things stable out with higher debt. But one of the core things we’ve always done as a company is we don’t do floating rate debt. And we don’t really do interest only. 

So we’re normally doing loans that are out of the gates are already more expensive, because we’re paying principal. So we’ve been comfortable for a long time with a higher cost of debt. And that’s, you know, continuing right now. So I think that’s gonna scare some people away and be like, Well, my debt cost is now double. It’s like, well, when I look at a lot of our loans, where we have a 20-year amortization, and we’re already paying principal, it’s like our debt costs are already pretty high. So we’re able to put that into deals and be comfortable with it. 

So I think that’ll help us for opportunities that come up in 2023. So as long as you’re in the game, there are always opportunities out there. It’s just finding them. It’s gotten more and more challenging, really over the past three, four years to find deals that pencil in multifamily. So saying it’s going to be harder, it’s like, okay, well, it’s been pretty hard compared to 2011, when they were trying to give away apartment buildings. 

So it’s kind of steadily gotten harder and harder over the years to finding good deals, that’s probably going to continue in 2023. And, and there’ll be some challenges, but as long as you’re in it, you’re operating, you’ll be able to find what those you know what those opportunities are.

WS: Yeah, I loved what you said. And that as long as you’re in the game, there’s always deals out there. And I just think, too, you have to be in the game to even know when a deal is a deal. Right? So you know, a lot of people will get out and say, “Nope, I’m not buying anything for a long time.” Well, that’s fine. But you’re not going to know what the deal is a deal. At least I feel like you’re just continually in there like you’re talking about. Are you all going to be continually buying or maybe selling or just holding? Or what how do you see that over the next year as we anticipate a recession?

DC: I mean, most of our residential stuff is hold. Now, we have a good operating team. So we’re pretty, pretty content with holding and realizing our distributions. If you think about recession, or you think about those challenges, it’s important to have reserves, and not just a little bit of like, “Oh, I’ve got a couple extra $1,000 in the bank.” 

It’s like multifamily. You look at the cost of turnovers, taxes, insurance, like you better have some pretty substantial reserves. When we look at ours we’ve got typically we have a year of taxes, insurance, and then operating costs as well. So you have a pretty good reserve balance that you kind of have to maintain through good times and bad when things are good. You’re like Hamish is distribute all these reserves. It’s like you need them. So holding on to those in making sure you have them in your asset will only help it perform over the time whether there’s ups or downs. 

WS: I love that. I love asking that question. I’m sure the listeners know that now say, Hey, how do you prepare for a downturn?” Or somebody brings up reserves like we always ask well, how do you know you got enough reserves because people he’s asked me that, you know. It’s like, well, how do you calculate your reserves? And I hear it just all over the place, right? And from guests and from different people in the industry, and it might be, you know, we’ll have a month up front, and then we’ll start taking it out of cash flow or not have three months up front, and I’m like, oh, boy, you know, I just —

DC: Do the math can get pretty like, all over the place. But, you know, in my world, too, like, we have to have a good amount of investors. So we have to have a consistent message across. It’s too hard to say, “Hey, this deal, we did this. This deal, we’re doing it some other way.” 

So our reserves strategy across the board is the same. We look at all of our assets. And that way, it’s easy to communicate to investors or really anyone else and say, like, look, this is how we do it. And it’s just consistent. So you know, in our world, we do three months of all operating costs, a year of taxes, a year of insurance, and any capex coming up in the next two years. So you take all those and add it together. That’s our reserve plan. And we do that on every deal that we have. So if we’re below that, that means we’re not going to distribute, it doesn’t matter how much revenue or profit that deal made, we’re not at our reserves threshold, we’re not going to make a distribution. If we are above it, then we will distribute.

WS: I love that, as you said, a year of operating costs as well or was it less for operating but a year for taxes and insurance, and two years for any CapEx.

DC: Two years of CapEx.

WS: Okay.

DC: So, anything that’s anything that you know, is planned over the next two years, if you’re phasing out your HVAC units, if you’ve got parking lot repairs that have to be done curbing any that any of that kind of stuff, I feel like you need to be sitting on on that position and be able to pull the trigger when something goes really wrong in one of those situations, and you have an inconvenience for tenants, that’s when you run the risk of losing those tenants. If you’re not able to fix an HVAC, or you’re not able to make a gate repair time, either we like what’s going on with this company, they can’t afford to fix the gate, they’re gonna leave.

WS:  You know, I love your philosophy around reserves. And I’ve talked about it so many times on the show, and the listeners are probably tired of hearing me talk about it, but I just, man, no cash, you crash, right? You gotta have some of these herbs. And I feel like you’re probably as conservative or have a larger reserves and about anybody that I’ve talked to. And so I love that. But how do you speak to someone that says, “Well, Dave, you know, we can get by with six months, and we can do more deals that way.” Or, “We could do this deal over here. But you know, we can’t get to that year, we can only get to six months is enough, right?” You know, because I get combated about that all the time. So I’ve just wondered, like how you voice that back to maybe even employees or investors or anybody that says, “Hey, we could do more deals, if you just ease up on that reserve a little bit.”?

DC: For me, it’s a little bit of, you know, you’re speaking out of both sides. When I look at that, like, I want to go do all the deals that we can possibly do. By those standpoint, if we lose a bunch of deals, because we’ve made bad decisions going forward, I don’t get to do any deals ever again. So I think you got to look at it long term. And yeah, we’re gonna, just from how we look at deals we would buy, just because of our reserves, how I do debt, I mean, I want to have principle pain debt, it already precludes me from doing a bunch of deals that I will have to pass on, just because of the self-restraint that we build into our business. And it’s worked, we’ve been in business now for 14 years, I’d love to see another 14 years. So I think that, that a little bit of self-control, it goes a long way to having a long-term business versus firing away on all cylinders, and kind of crash and burn stuff style.

WS: No doubt about it. Love that. And I’ll share just a brief story, because I’ve shared it a few times on the show, but a deal we closed in March of 2020. And this deal, we had a it was a large CapEx, you know, art renovation to over 200 units. And we had a million and a half dollars in a reserve budget outside of CapEx outside, you know, just the thing. I mean, this was just like a reserve budget. And we were scrutinized a little bit. There were other operators that were investing with us as well. And that deal that I know very well and they rock, “Whitney, she think you could you know increase investors returns a little bit if you had a little less and reserves. That’s just kind of too much.” And, and I say, “Nope, we’re all gonna sleep a lot better.” 

I just want to have that much in there. And so went through that. And then there was the next week that they shut the country down for the Covid stuff, and everybody’s happy. But we were all sleeping, okay. Right? Like, we can weather a massive storm here because, you know, nobody knew what to expect at that time. 

But anyway, so we were so grateful that we just stuck to our guns and said, “No, this is what’s best. And we’re gonna hold our ground here.” So I love your philosophy on the reserves. Dave, anything else on that before we move on? 

DC: Yeah, I mean, I think if you have capital in a deal, you have the ability to make decisions. If you don’t have the capital in the deal, you might be forced into bad decisions because you don’t have any other options, right? And you kind of got your low on reserves. Now you got to make this bad decision. Now you’re deferring this. And that’s how you end up with distressed assets. So I don’t no one wants to see that. See that happen? Oh, really, you don’t want to be an investment opportunity that does happen to it. But you can avoid a lot of that. provide yourself with, with options, as long as you have the cash available.

WS: That’s right. So well said. You also mentioned there actually, we talked about a little bit in the last segment about digging into different asset classes. And I was noticing on your website, you know, you’ll have quite a bit of multifamily. But then you also have a few restaurants, or maybe a few dollar generals, different things like that. Speak to getting into those asset classes. Why you would do that? Is that still part of the focus or the plan? How do you get that fit into your plan?

DC: And we fit it in patiently, right. So a lot of times if I’m driving around, and you see like, “Hey, this looks neat. This looks good. This looks neat.” And it seems like wait a minute here, like I thought we’d stay in focused. But on the other side of that a lot of the fields we bought outside of multifamily started because they were right down the street from a multifamily deal we had. 

So it was it was kind of a natural progression of, you know, one multifamily deal we had on on a street here in Atlanta, a restaurant, when we don’t operate the restaurant or we don’t, we don’t own the restaurant business. But the piece of real estate came up and it was right down the street from an apartment deal that we owned, and we’re on this road all the time. So we know the area, we know that it’s a good property. And it was vacant at the time. So we purchased what is now a restaurant, because it was right next to we’ve already there the whole time. So a little bit riskier. 

It’s not, you know, it wasn’t something that we were necessarily had a distinct skill set in, we didn’t know the area very well, we knew we were getting a great deal. And we were able to lease that. And now there’s an operator and the operator in there. They operate the restaurant, they’re doing very well. That’s kind of the commercial asset that we’re able to get right down the street from one of our apartment buildings. So we have a lot of now commercial assets that are really just there down the street from apartments that we had, and it looked pretty similar. So there was something that we could operate. And we knew about them, just because we were in that specific area. It wasn’t 200 miles away in a different city.

WS: So you all are managing, anything that’s outside of multifamily, you all are managing as well. Correct? 

DC: Yeah. So we have two teams, now we have a commercial team and a residential team. And they work together. We have the same kind of support team around that for accounting and insurance and CapEx work. But mainly because we are buying one in two-story brick buildings, they’re all pretty similar. They’re in the same locations. So we can operate those collectively with the team that we have.

WS: Yeah, that’s awesome. Well, I just wanted to highlight that to listeners. I know we’ve talked about me and saying so focus, but I love that you all said you know what this is we’re already in this area, we know this area will, here’s an opportunity, you all went after these opportunities that were close by other assets that you already had. Well, Dave, is there anything else? You know, around our discussion today, you want to mention before we close out the segment?

DC: No, I think when you’re looking at just other opportunities that are out there, I think you just got to stay focused on the area that you’re in. To me, it’s like as long as you can operate and see how something is working, you can get more comfortable with that, with that investment decision, whether you’re the general partner in it, or if you’re one of the limited partners coming in. And we frequently have limited partners that are local. And they’re, you know, this is their passive investment. It’s not passive for me and my company, we’re very much active in it. But they want to be able to come and see their investment dollars at work they want to become and see how things are happening. 

So I’ve encouraged people to invite your visitors out to the deal, and show them what you’re doing. We think about our strategy with our businesses really like a triangle of relationships. So we have our investors on one side, we have our tenants and residents, and then we have our team. And the more things we can do that really bring those three pieces together on a piece of real estate, the more comfortable everyone can be with it. 

And really just more transparent. It is. I think that’s what probably everyone wants in life is transparency, whether you’re a resident, you know, whether you’re a tenant, whether you’re an investor, you want to know how things are being done, how are those decisions being made, and as transparent as you can be with anyone, I think that will just make that relationship better, and ultimately make your investment perform better as well.

[END OF INTERVIEW]

[OUTRO]

Whitney Sewell: Thank you for being with us again today. I hope that you have learned a lot from the show. Don’t forget to like and subscribe. I hope you’re telling your friends about The Real Estate Syndication Show and how they can also build wealth in real estate. You can also go to LifeBridgeCapital.com and start investing today.

[END]