Jim Randel
The Dow Jones may go up in a year by 10 percent, and equity investors are generally pleased with that. On the other hand, the real estate entrepreneurs I know would be quite disappointed with a 10 percent return on their equity. These people are looking for multiples many, many times a 10 percent return. (Location 90)
My belief is that in order to maximize your success in real estate investing you need to ADD VALUE to either the process by which you acquire property and/or the property itself. (Location 110)
There are techniques for creative acquisition, for finding hidden wealth in a property, for using other people's money to generate disproportionate returns, for using information to create outsized commissions, and so on. (Location 113)
The path to success is not always clear at first. What my friends relied upon was their instinct that good real estate will sooner or later present opportunities for reward. (Location 271)
The purpose of this book is to teach you to add value while investing in real estate either by using the process of buying/selling more effectively than others or by taking some action(s) that quickly (and hopefully dramatically) increases the market value of the properties you acquire. (Location 287)
The next most common way to own investment real estate is in an entity form, which is how most real estate players take title to property. (Location 307)
So, they shake hands and form a partnership, SD Associates, with the intent that title to this property will be taken in the Partnership name. (Location 313)
Well, if Molly and John are real estate players, they may want to bring others into their partnership, leveraging their skills to make money off the capital of more passive investors, a technique we will explain in detail later in the book. (Location 316)
So Molly and John prepare a Partnership Agreement defining how the property will be owned, who will do what for the Partnership, and who will make what money from the cash flow and sale of the property. (Location 323)
Now let's say that although Molly's Uncle Charlie has no problem putting in 95 percent of the equity required to purchase the property, he is not willing to sign for any loans procured by the Partnership. This may mean that Molly and John have to form a Limited Partnership—where only the General Partner(s) is liable for the debts of the Partnership—as opposed to a General Partnership—where (Location 328)
MOLLY: But Mr. Banker, we are forming a limited partnership to own this property, with John and me acting as the General Partners. As you well know, our limited partner will have no active role in this type of partnership. He is just a passive investor and would not anticipate signing for your loan. (Location 342)
Limited Partnership Agreement whereby John and I are the General Partners and we are the only ones with day-to-day control over the partnership. Here's the point: In a General Partnership, all the partners are responsible for the debts and liabilities of the partnership. Not just debt knowingly incurred, like the loan to purchase the property, but also liabilities that may arise if the partnership is sued. That's why most rich people investing in a real estate partnership prefer the limited partnership vehicle. (Location 347)
investors form corporations specifically to provide a vehicle for several different individual owners who may have different roles, responsibilities, and risks as to the property. (Location 362)
Instead of a Partnership Agreement, the document defining each individual's position is called a Stockholder Agreement. Today, the entity of choice for most real estate investors is the LLC or Limited Liability Company. (Location 365)
As we saw above, a corporation protects its individual owners from liabilities. That is not the case, however, with a General Partnership. (Location 369)
state legislators came up with a new idea: in order to make life easier for investors, they created an entity that is a "partnership" for Federal Income Tax purposes but provides corporate protection to the individual owners . . . the Limited Liability Company. (Location 384)
The owners of the LLC are Members and the ownership interests are Membership Units. The agreement defining the rights among the Members is called an Operating Agreement, and the person running the LLC on a day-to-day basis is called the Manager (he may or may not be a Member). (Location 388)
Molly and John have formed an LLC (SD Ventures, LLC), the Members of which are Molly, John, and Uncle Charlie. The bank's loan will come in the form of a Mortgage. This means that the Borrower (SD Ventures, LLC) will sign a Promissory Note obligating itself to repay the $350,000 loan, and will also sign a Mortgage Deed such that the property is encumbered by a lien owned by the bank. (Location 420)
Essentially, a Mortgage Deed says: "Hey, world, SD Ventures, LLC has borrowed $350,000 from me, and if anyone is interested in buying this property, just be aware that I have rights to the first $350,000 of value in the property, and I'm not going anywhere until I'm paid off." (Location 428)
So, what do you think happens when a loan is paid off? Yes, correct, a Release of Mortgage is recorded in the Clerk's records telling the world that the Mortgage Deed recorded on January ___, 2006 in Volume ___ at Page ___ of the Smithtown Land Records is no longer encumbering the property since the loan which was secured by that Mortgage Deed has been repaid. (Location 449)
One way to buy property using a lot of other people's money is to use subordinate or secondary debt—loans that sit in position behind (are inferior to) another mortgage. (Location 456)
John asks Doug whether he would consider loaning him and Molly $100,000 to help them buy the office building. Doug says yes, "so long as the return on my investment is competitive and I am protected with a mortgage on your property." But how is Doug going to get a mortgage on the property when the bank also wants a mortgage? Well, there can be lots and lots of mortgages against the same property. This is where the concept of priority comes into play. Doug can put a mortgage on the property and obtain a Mortgage Deed from SD Ventures, LLC just like the bank, but since, as noted, the bank will only make its loan if it is in first position, Doug's loan is going to have to be subordinate to the bank's loan. In other words, Doug will have a Second Mortgage on the property. (Location 464)
But the news is not necessarily all bad for Uncle Doug. If Molly and John have guaranteed the Promissory Note from SD Ventures, LLC to Uncle Doug, and if he chooses to, he can sue them on the Guaranty for the shortfall of $80,000 (often called a "deficiency"). Then, of course, they need to have the assets to pay any judgment he obtains. (Location 491)
One last point: Remember that Uncle Doug, a yield investor, was very focused on the return on his money. When he agreed to make the loan to Molly and John, he noted to them that being in a second position on the property put him at greater risk than the first lender (and, as you can see above, he was right). Therefore, he noted, he would need a higher interest rate than the bank was getting. And so, although Molly and John were only paying the bank an interest rate of 7 percent, they had to agree to pay Doug a rate of 12 percent. This is often the case. The lower the priority of the loan (a Second Mortgage has a lower priority than a First Mortgage), the higher the interest rate, because the greater the risk incurred by the subordinate lender. (Location 494)
BUT the bank making the loan to SD Ventures, LLC is not satisfied with just the LLC signing the Promissory Note. The bank is well aware of the separation in the law between an entity (the LLC) and its owners, and it wants more than just the assets of the LLC (usually just the property in question) at risk. It wants the neck of the owners (or some of them) in the noose as well—it wants their "skin in the game." It figures people tend to stay focused when their personal assets are at risk, and the bank wants Molly and John very focused. And so the bank asks for personal Guarantees from Molly and John; it asks them to guarantee the loan to the LLC (so their assets stand behind the loan), just in case the real estate investment does not work out as planned. The Guarantee will say: "I, John Doe, promise to stand behind the loan evidenced by a Promissory Note dated ______ to SD Ventures, LLC." It is essentially an insurance policy to the lender. If there is a problem in collecting payments under the Promissory Note to SD Ventures, LLC, the lender can sue John Doe under the Guarantee. Anytime there is a personal signature involved with loan documents, the loan is considered recourse, such that if the lender does not get paid by the entity that signed the Note, it has recourse against some individual or entity that presumably has a lot of assets (usually one or more of the owners of the entity). Recourse protection for the lender means: (1) if it chose to, it could initiate a lawsuit for payment of the Note directly against a Guarantor instead of the entity signing the Note/Mortgage Deed, and (2) it could start a lawsuit against the entity, foreclose the property, and then, as to any shortfall, the deficiency, sue the Guarantor for that amount. In either case, the point is that the Guarantor is theoretically at risk for the whole amount of the debt. (A worst case scenario: a building burns down, the land is worth very little and if the entity owner of the property neglected to get adequate insurance coverage, the lender to the entity recovers very little on foreclosure, leaving the Guarantor liable for the entire amount of debt.) In our example, Molly and John were only able to entice Uncle Charlie to make an investment in SD Ventures, LLC by assuring him that he would not be asked to sign a Guarantee. So Uncle Charlie's personal assets are not at risk. Yes, he can lose his investment in SD Ventures, LLC if everything goes wrong, but that is his maximum exposure. (Location 550)
Finally, under the heading that most everything is negotiable, if confronted with a lender who wants recourse protection (since almost everyone buys in an entity form, this means a Guarantee of the Promissory Note), you can try to limit the guarantee. For example, I have often tried to put a limit on the amount or the duration of the Guarantee when negotiating with a lender (e.g., that it goes away X years after the Promissory Note is signed). I cannot say that I am always successful in this regard, but occasionally, if the lender really wanted the loan, I was able to limit the extent or duration of the Guarantee. (Location 578)
At times a Seller and Purchaser will get creative if the Purchaser would like to assume the Seller's mortgage, but the Seller's Mortgage Deed has language that precludes an assumption. Hence the invention of something called the Wrap Mortgage. (Location 596)
Seller owns a property that he wishes to sell for $5 million. There is an existing first mortgage to ABC Bank. This loan has a principal balance of $2 million. The interest rate on this loan is 5 percent, and the going rate today is 8 percent. The Seller suggests to a prospective Purchaser that he will "take back" a mortgage on sale in an amount of $4.5 million at an interest rate of 6.5 percent. He does this to make his property more attractive to a Purchaser and to provide a cash flow to himself (the 1.5 percent spread on $2 million). The Purchaser is interested in this offer because he would rather pay interest at 6.5 percent than 8 percent. The Seller will likely not even inform ABC Bank what he is doing, and he continues to make the loan payments to ABC Bank. For simplicity purposes, putting aside amortization, Purchaser pays Seller 6.5 percent per year on the $4.5 million "Wrap" Mortgage (annual interest of $292,500), and the Seller turns around and pays ABC Bank $100,000 ($2 million times 5 percent). The Seller has made his property more salable by providing undermarket financing. The Purchaser is happy because he did not have to procure an institutional loan and he is paying an undermarket interest rate. Only the lender is unhappy (assuming the lender is even aware of what happened) because it has $2 million out there earning interest of 5 percent when—if it had that money back—it could presumably earn 8 percent. (Location 601)
One example is an installment contract where the Seller continues to hold title (i.e., no recorded Deed) while the Purchaser makes monthly "contract" payments and operates with all the rights of the owner of the property. (Location 615)
So you need to understand when a contract is a contract in the eyes of the law, and the issue that very often trips people up is the requirement of mutual consideration. (Location 681)
This law says that in order to be enforceable, a contract for the purchase and sale of real estate must contain certain critical elements and must be in writing, signed by each of the parties to be bound thereby. (Location 685)
I assumed that if the Tax Assessor's information sheet indicated the name of only one owner to the property, then in fact there was only one owner. WRONG! (Location 750)
What I should have done, and of course have done in any deal I have negotiated since, is checked with the City Clerk's Office and found the Deed transferring title to Mr. Carey. (It is available online.) I then would have seen that the owners were actually Harry and Barry Carey, and I would have known that I did not have an enforceable Contract unless both Harry and Barry signed. (Location 752)
Therefore, when I am a Purchaser, I always want a Contract executed before I begin my Due Diligence, and, of course, I want a Due Diligence clause in the Contract. (Location 824)
And rents can go up every year or every two years or never. Rents can even go down, and I have negotiated Leases where the rent will be say $X per year for the first three years and then go down to 90 percent of $X in years four and five. In other words, how to deal with rent payments is only limited by the creativity of the parties. (Location 1035)
sf. If a Purchaser is savvy, it will go back, review the history of the Leases, and see that the Landlord offered one Tenant a lot of free rent and another a lot of fit-up money. The Purchaser might therefore conclude that the Landlord "bought" rents a bit higher than market. But (1) not all Purchasers do that, and (2) sometimes the free rent, fit-up, and other concessions can be disguised (not even addressed in the Lease Agreement) so that it is hard to identify what happened. (Location 1072)
Some of the wealthiest people in America are real estate developers. (Location 1438)
There is not a successful real estate player in America who does not have a good understanding of how to use debt (leverage) to his advantage. If you want to be a successful real estate entrepreneur, you too need to have a good understanding of the financing options for the properties you buy or develop. (Location 1462)
Most likely there will be an acquisition loan (when the land is purchased) and a construction loan (to build the building). Once the project is finished and the tenant is in possession of the building, the developer will generally pay off these loans by refinancing and putting permanent (long-term) debt on the property. (Location 1465)
Okay, so what kind of interest rate can we get? Usually, for commercial loans, a lender will offer you a fixed rate for 5 or 10 years based on some spread (often called a margin) over an index. A commonly used index is the 10-year rate on U.S. Treasuries. Let's say you want a 10-year fixed rate. Prospective lenders will look to the interest rate on a 10-year Treasury bill and they may say to you: "That rate is presently 4.25 percent and we propose a margin of 145 basis points over the 4.25 percent, or a fixed rate of 5.70 percent. We'll give you a 20-year loan, with interest changing in year 11 to 145 basis points over the then 10-year Treasury rate and remaining at that rate for the remainder of the term." (Location 1483)
For instance, a trophy office building in a superb location and with an excellent tenant mix is going to be valued with a comparatively low cap rate—perhaps a 7 cap rate. That means in order to value this property, the net operating income it produces is divided by 0.07. In other words, an investor will be willing to receive a 7 percent return on its money (assuming an all-cash purchase) to own this property. (Location 1557)
Let's compare a less attractive property: an industrial building in a declining area of the city that also has a $1 million net operating income. This building is dated and is leased to a single tenant with okay but not great credit. An investor looking at the property will want a higher return on his investment because he believes there is considerable risk. If the tenant defaults or leaves the building, for example, it will not be easy to re-lease and once again achieve a $1 million net operating income. And so the investor community will want a much higher return on this property and will require a cap rate of, say, 13 percent. (Location 1564)
We want to get as much financing as possible, so we go to an appraiser (a reputable appraiser, one with whom the lender community will be comfortable) and we ask him how he might value our property. He will usually reply that there are two or three standard methods: net income analysis, cost basis, sales comps. The net income analysis is what we are discussing–a cap rate type analysis. Cost basis is not often used–basically, this is the methodology of valuing a building as a function of its replacement cost. Sales comparables–tying the value of one property to similar properties that have been recently sold–is only as good as the number of true comparables. And so appraisers often rely heavily on the income analysis. (Location 1576)
He indicates that his range would be 7.5 to 8.5 percent if the credit of the tenant is truly high quality. We now go to the lender community. Although generally the lender is required to hire the appraiser, and the borrower can only make recommendations as to which one, often, if the appraiser is credible and has a good reputation, the lender will go along with the appraiser the borrower prefers. We select a lender who is willing to extend us a loan on a 75 percent loan-to-value basis, and we ask the lender to hire the appraiser we spoke with, and the lender does so. The appraiser visits our property, reviews the Tenant's credit, and decides that the correct cap rate is 8.25 percent. So he divides our net operating income of $800,000 by 0.0825 and gets a market value for our property of $9,700,000–not bad, since the property only cost us $8,100,000. In theory, at least, we have already added $1,600,000 to the value of this property. (Location 1583)
Lots of people in the United States have gotten very wealthy by understanding and executing a plan of real estate development. The key, of course, is to find a good piece of land and to understand what can be developed and at what cost. The developer must also have a good feel for the rental market. (Location 1616)
The most obvious case of this is finding a property that is, let's say, physically challenged. Perhaps it needs a lot of renovation. Sometimes the problem is just cosmetics and the work needed is pure aesthetics; (Location 1632)
One of the most famous real estate books ever written is William Nickerson's How I Made One Million Dollars in My Spare Time. (Location 1637)
Nickerson's point was that you can ADD VALUE to real estate without spending a lot of money by purchasing properties that are cosmetically challenged, redressing and rerenting them, and then perhaps reselling at much higher numbers. And if you do it right, the cost of the cosmetic improvements is generally insignificant compared to the increase in value that results from the enhanced desirability of the apartments. Nickerson's general premise is followed by multimillionaire real estate developers who purchase and rehab office buildings, strip shopping centers, and apartment buildings. (Location 1643)
gross plus utilities. As you'll recall, a gross rent means that the Landlord is paying all of the building expenses (in contrast to a net rent, where the tenant pays, in addition to the base rent, all operating expenses and taxes). Operating expenses and taxes can vary in different areas of the country, of course, but in my community they were about $5 per square foot at the time. So the net rental the owner of this building was achieving was only about $10/sf. The building was 7,000 sf, which means the net operating income was $70,000 per year. (Location 1651)
Therefore, given the new net operating income and the new cap rate the market used, the new market value was $1,250,000! Net ADDED VALUE: $525,000 ($1,250,000 − $650,000 − $75,000). Not bad for two years. (Location 1684)
Find a property that is not renting for what it should be and so long as the cost of changing its image (in order to improve its value) makes sense in light of the projected new value of the property, buy it. (Location 1691)
As entrepreneurs, we operate under the presumption that there is enormous money to be made finding deals with hair on them, especially if the property is in the hands of an "institutional" (nonentrepreneurial) owner. Institutional investors often own a large number of properties, many of which are located far from their corporate headquarters. Often, they do not have the time or the manpower to deal with problems that can arise with a property and so they may neglect to do the things a local entrepreneur would do. At times this can cause an artificial depression in the value of the property. (Location 1698)
I was aware of the foreclosure and contacted the attorney for the institutional lender. I asked him if the lender might want to sell the loan to my group. Note that the lender could not sell me the property; it did not own it. All it owned was the Promissory Note and Mortgage on the property. That is all it had to sell. (Location 1714)
Constantly be on the prowl for undervalued property—have your eyes and ears open at all times. Deals with hair on them are especially intriguing. Use what you have that the owner (or lender) may not have: entrepreneurial energy, local market knowledge, creativity, and the focused intensity that comes with spending your own money (contrast the institutional owner or lender). Often you can solve problems without spending huge dollars; in many situations it is just a matter of rolling up your sleeves and getting a little dirty—something that a corporate executive a thousand miles away is generally reluctant to do. The results of your hard work can be a lot of ADDED VALUE. (Location 1733)
One last point: Developers take RISK. Much more risk than the investor who buys a well-leased building and sits with it. This latter type of investor generally knows a property's downside and is comfortable with the more limited upside that comes with a safer deal. This is the type of investor who will buy one of your developments when you're done with it and have made a large profit for yourself. (Location 1747)
This phenomenon makes an important point about real estate entrepreneuring. One of the ways entrepreneurs have made millions of dollars in real estate is by buying a property based on one pricing model and then selling it based on another pricing model. (Location 1821)
Makeover. Here's the point illustrated by the self-storage story: if you can purchase property that is priced on one model and effect a dramatic change in the use and perception of the property, you may make a lot of money. (Location 1836)
My partner and I had total liquid assets of $25,000 and maybe a collective net worth of $200,000. We had done a couple of small office building deals and we decided that we were ready for bigger things. (Location 1850)
We used all of our cash ($25,000) to put down on the Option Agreement. We realized that this money was at risk and that if we could not close within 60 days, we would lose that money. Nothing like entrepreneurial optimism! Now what? We thought about trying to raise $500,000 from investors, since this was the amount we needed to close (actually $475,000, because our Option payment would be applied to the sales price upon closing). But early in our careers, and with no track record or experience, we did not think others would be interested in investing with us. (Location 1856)
What did we get in return? He paid us a $200,000 termination fee and gave us a $300,000 loan, to be secured with a second mortgage on the property. (Location 1885)
Would the retailer put the $500,000 in escrow before closing so that immediately after you get the Deed from the Seller you go into the escrow agent's office, display the Deed, sign the Termination Agreement, receive $200,000, execute the Note and Second Mortgage Deed, and get the $300,000? (Location 1902)
(I was devastated as Bed, Bath & Beyond continued to grow and grow and grow)—beat you. Get out of bed and continue the fight. What counts most? Perseverance and heart. Those are, in my view, the most important characteristics of a great entrepreneur. Yes, you will screw up at times, losing money and missing opportunities. But every successful person has done the same. Just stay with it. (Location 1996)
Here's a suggestion you should take seriously: If you're going to buy a property that you need to rezone, do not underestimate the difficulties in doing so. (Location 2049)
Third, I learned to never, never, never stop hustling. Above, I mentioned being scrappy. Some of the best real estate entrepreneurs I know are also the scrappiest people I have ever met. They fight and fight and fight . . . and then fight some more. They never take no for an answer. (Location 2119)
The point is that if you want to succeed in the real estate game, especially in the arena of bigger and more complicated deals, you have to get up each day with the same attitude: "I'm in a race for my life. I've got to run as hard and as long as I can. I do not believe my own BS. I only believe in hard work and hustle." Then you'll do fine. (Location 2130)
You're not as smart as you think you are. Do your homework, and then when you think you've done enough, do some more. Speak with people who have done the type of deal you're considering. (Location 2160)
One of the hardest things to learn as an entrepreneur is where to position yourself in a negotiation. Whether you're a seller, buyer, landlord, or tenant, one of the things you must learn to do is to decide, BEFORE negotiating with the opposite party, EXACTLY what you will or won't do, and how to communicate that to the other party. (Location 2187)
For years now real estate players have made a ton of money buying properties wholesale and selling them retail. The best example of this is the purchase of an apartment building that is then "condominiumized" and sold off as individual condominiums. What happens is that a real estate player buys the units at a wholesale price (in bulk) and then sells them off at retail prices (individually). Enormous money has been made doing this! (Location 2274)
Fortunately for us, the seller of the property was "institutional" (read "nonentrepreneurial") and was not looking to add value. The seller just wanted to sell. (Location 2285)
Whenever you come across a seller who is not entrepreneurial, there may be an opportunity for you. (Location 2287)
Hammering at the fact that there were so few 200,000 sf tenants in the market, my partners and I were able to convince the seller to sell us this building for $6.6 million. (Location 2289)
Shortly thereafter we had the building leased to two 100,000 sf tenants, and about a year later we sold the property for $10.2 million. (Location 2294)
I put together a group to buy a 40-unit apartment building. The net operating income of the building was about $100,000 and we bought the property for $1,250,000, about an 8 percent cap rate. (Location 2299)
Every State has certain requirements for converting an apartment building into individual condominium units. Generally, a Declaration of Condominium needs to be filed with the Secretary of State's office and in the Town/City land records. This document defines the condominium units, identifies the common areas, and calls for the formation of a condominium association, usually a corporate entity that owns the common areas (Location 2315)
Is the residential condo conversion play over? I certainly do not think so. Buildings all across the United States are being condo converted as you read this page. What is happening, however, is that the profits one can make from condo-converting an apartment building are decreasing. Why? Because most owners/sellers of apartment buildings are now aware of the potential value of their properties on a condo-conversion basis. (Location 2330)
I own property in Miami Beach, Florida, where we are beginning to see a new phenomenon: condo hotels, sometimes called "condotels." Here is the proposition: you buy a condominium unit, just like you would in any condominium development, but instead of living in a building run by a condo association, you live in a building that is run as a hotel. And if you elect to put your unit in the "hotel pool," (Location 2394)
For example, the first two questions I would ask are (1) whether $500/night on average is realistic and (2) whether the hotel operator will in fact achieve a 70 percent occupancy with your unit (at the times you do not want to use it). (Location 2422)
Here's one project I'm working on that may get your creative juices flowing. I've been buying property in an area where parking is at an enormous premium. There is just not enough of it. There are parking garages, of course, but these are often full, so people cannot rely on getting a space when they need one. My idea is to build a parking garage and then SELL the spaces: "parkominiums," to coin a word. (Location 2437)
By the way, just in case you want to share it with me, my e-mail is jrandel@randrealestate.com. (Location 2450)
And those who bought even five years ahead of the crowd made a lot of money. Wherever you live, there must be areas near you that have potential which is yet to be realized. Where is the direction of growth in your area? Where is there potential for rehabilitation and gentrification in areas that today are blighted, seedy, or unsafe? How do you know which areas will experience rehabilitation? (Location 2462)
existence. I also believe, of course, that the movement of retiring baby boomers from the North and Midwest into south Florida will help. All of these factors tell me that Miami Beach is a good investment. (Location 2493)
As I began to invest in Miami Beach, I also did my homework into demographic trends such as population movements, household incomes, rental rates per square foot (as against other metropolitan areas), and so on. I tried to quantify on paper what my eyes were telling me, and nothing I learned changed my viewpoint. And so I am buying. (Location 2497)
Most assuredly there are areas near you that have the potential to be the next Upper West Side of Manhattan. Today you may need to take a leap of faith to start buying in these areas. Looking forward is hard to do. It's a bit of science, a bit of art, and a bit of guesswork. (Location 2503)
Making money by purchasing ahead of the crowd is just another way of guessing which way the wind is blowing. (Location 2507)
And so along comes an investor from outside the area. He pays the $38 million and does all the right things to the property. Two years later (after having spent about $5 million), he sells the portfolio for about $55 million, laughing all the way to the bank. Now what does this illustrate? I think it highlights something very, very important for entrepreneurs who have been buying in one area over an extended period of time. BE CAREFUL NOT TO GET SO CLOSE TO THE TREES THAT YOU MISS THE FOREST! (Location 2518)
You find yourself talking yourself out of deals because you think that prices have got to stop somewhere. And you may be right. But the way to make that determination is not to think to yourself: "Wow, these prices have gone up so much over the last five years, how much higher can they go?" Rather, you must do an analysis based on supply and demand, the direction of interest rates and the economy in general, the fundamentals of the property under consideration, and so on. Do not do what I (and many others in Fairfield County) did: miss the forest for the trees (and blow a great opportunity) because we could "remember when." (Location 2524)
In the world of the real estate entrepreneur, the game is to be five or more years ahead of the demand. Then buy all you can and wait. If you're right, sooner or later the magnetism of the area in which you purchased will draw more and more people, capital, and energy. And you will be the beneficiary of having outwitted the herd. (Location 2538)
I got my real estate brokerage license, and I'm very glad I did. What's more, in hindsight, I believe there is perhaps no better point of entry into the real estate game than real estate brokerage. (Location 2549)
Generally when one enters the real estate brokerage business, he or she has to sit for a certain number of classroom hours and then an examination. Upon passing the exam, this individual earns what is called a salesperson's license. After some period (it varies from state to state) acting as a salesperson, the individual may then take a test to be licensed as a broker. Some people do it, some don't. The distinction of being a broker is that he or she can operate a real estate office or company under his or her name, while the salesperson has to be aligned with a broker in order to function. (Location 2562)
sales. A leasing broker will, as it sounds, work on lease deals: representing either a landlord wanting to lease his building or a tenant looking to find space to occupy. A sales broker will represent buyers and sellers of investment properties. (Location 2569)
Property owners hire real estate brokers to lease vacant space in their buildings. The property owner signs a Commission Agreement engaging the broker to lease his building. (Location 2573)
As indicated, commissions are calculated off the total rent paid by the tenant to an owner. In Bill's area of the country brokers get paid 5 percent of the gross rental to be paid by the tenant for the first five years of the Lease Agreement and 2.5 percent of the gross rental to be paid by the tenant for the second five years. (Location 2622)
But most real estate brokers work for a real estate company, that means they have to share their commissions with the company. The split varies depending on the length of time a broker has been with a company, his success over the years, and his performance in a given year. Splits vary at the low end from 50-50 up to 80-20 (80 percent to the broker). (Location 2631)
a common analysis used to evaluate commercial properties: the discounted cash flow analysis. (Location 2779)
. Discounted Cash Flow Valuation. Most buyers of investment-grade properties will evaluate a property with what is commonly known as a discounted cash flow analysis. In its simplest form, this is a present valuation of the income stream that the new owner of the property can expect in the five to ten years after his purchase. (Location 2781)
Let's assume that our buyer is considering the purchase of a 5,000-square-foot office building with five tenants. The potential buyer will initially decide how long he intends to own the property. For simplicity's sake, let's assume that our potential buyer intends to hold the property for five years and then sell. Now he will create a spreadsheet (also called a Pro Forma) that projects his income stream from this deal over that five-year period. (Location 2785)
"Given that I expect a revenue stream generated by my operation and then resale of this building of $53,000, $56,600, $45,165, $52,442, $67,180, and $748,586, and given that money today is more valuable than money in the future (assumes inflation), how do I value this income stream?" Well, first he needs to decide on a discount rate, which will be his assessment of what kind of return he desires to achieve on his investment. (Location 2839)
Our buyer decides that he wants to do this deal, but only if he can earn an annual return of between 10 and 14 percent on his capital (we are assuming an all-cash purchase). So he uses his HP calculator (or his Excel software, etc.) to determine the net present value of the projected revenue stream assuming discount rates of 10, 12, and 14 percent. (Location 2845)
Now it's one thing for the buyer to do a Pro Forma and determine that he will only pay $X. The seller may have his own ideas of the value of a property and may be just as facile with Pro Formas as the buyer is. The seller may believe that the building is worth $700,000, notwithstanding the buyer's discounted cash flow analysis. This discussion between the buyer and seller (or their respective brokers) is all part of the jockeying that occurs prior to an agreement being reached. (Location 2854)
As you might expect, there are software packages that make this kind of analysis quite easy to do. Many people in the industry use a software called ARGUS which allows a prospective buyer to make all sorts of assumptions about the property being considered; plug these in and the ARGUS software does the rest. (Location 2858)
As you start performing these analyses, you may also hear the term Internal Rate of Return, or IRR. This concept is similar to the discount rate. It basically analyzes the capital you invest at the beginning of an investment, how and when you receive income and principal back on this investment, and tells you what your rate of return will be over the course of the investment. (Location 2871)
The IRR tells you your return on investment over five years given the indicated revenues. To me it is very similar to the discount rate (Location 2876)
In my view, if you know how to do a discounted present value calculation, you will be fine. (Location 2878)
Note that at times there may also be what is called a "dual agency," where one broker represents both sides of the transaction. (Location 2889)
Why I'm a Brokerage Fan There are many reasons that I'm a big fan of the commercial real estate brokerage business: (Location 2902)
Selling Time A friend of mine says that business is "about selling the minutes of your life." By that he means that one factor to success in business is valuing every minute of your time during the workday, making sure you get the most you can out of each minute. (Location 2921)
In my view, a better model is the real estate brokerage business, where one can earn a commission that has absolutely no relation to the time one invests. (Location 2925)
(A fun and informative read is Barbara Corcoran's Use What You've Got, and Other Business Lessons I Learned from My Mom (Location 2999)
Residential real estate brokerage is a sleeper business. No one goes to college to become one. It is sort of a default for people who have started in other businesses or endeavors (e.g., raising a family). (Location 3002)