Investors Must Ensure All Components of the Investment Are Prepared
We hopefully watch the news as the pundits predict a bottom to the commercial crash beginning with multifamily in 2010 and others worry about a "double dip" on housing.
What a contrast events are to activity two years ago.
As a nation, we have learned hard lessons about conservative behavior.
Certainly, I am among the "educated".
Investor cash must be carefully protected and gains carefully locked into place.
As small investors how do we do this? As investment managers, how do we do this? As owners and property managers, how do we protect investors? Fundamentally, the answers lie in the underwriting requirements.
The key to protecting investor capital is keep leverage modest, keep debt service coverage high, and ensure efficient and effective operations.
How do these points translate into maxims that we can follow? Today, when we consider investments we should seek to purchase residential rentals at reasonable capitalization rates that offer necessary cash flow to easily cover loans.
We must provide very strong cash reserves.
I would recommend 6 months operating reserve inclusive of expense plus improvement reserves and a 10% contingency.
While this will deflate returns this goes far to assure a solid performing investment.
For non-performing properties, much more effort must go into analyzing the area and the competitors.
Locations that don't offer very good traffic should be avoided as the lack of traffic can throw a paper success into permanent failure.
Locations should be carefully vetted for reputation.
If the location reputation is poor don't invest planning on turning things around.
Turning things around is a very risky proposition for the investor.
Insist on contract terms that allow you to pull out for financing risk and for any shortcomings that are identified during due diligence and that are reasonably protected until due diligence is complete.
As you move toward closing, work aggressively to assure every item meets expectations.
Do not expect shortfalls without concessions.
If the rents are down, the price must come down.
If the location is not as strong as expected the price must come down.
Regardless, if the red flags point toward potential operational issues, do not complete the purchase.
As stated earlier, while risk is inherent in investments, do not allow creeping risk and offset the risk by completing investments where the upside covers downside issues.
What a contrast events are to activity two years ago.
As a nation, we have learned hard lessons about conservative behavior.
Certainly, I am among the "educated".
Investor cash must be carefully protected and gains carefully locked into place.
As small investors how do we do this? As investment managers, how do we do this? As owners and property managers, how do we protect investors? Fundamentally, the answers lie in the underwriting requirements.
The key to protecting investor capital is keep leverage modest, keep debt service coverage high, and ensure efficient and effective operations.
How do these points translate into maxims that we can follow? Today, when we consider investments we should seek to purchase residential rentals at reasonable capitalization rates that offer necessary cash flow to easily cover loans.
We must provide very strong cash reserves.
I would recommend 6 months operating reserve inclusive of expense plus improvement reserves and a 10% contingency.
While this will deflate returns this goes far to assure a solid performing investment.
For non-performing properties, much more effort must go into analyzing the area and the competitors.
Locations that don't offer very good traffic should be avoided as the lack of traffic can throw a paper success into permanent failure.
Locations should be carefully vetted for reputation.
If the location reputation is poor don't invest planning on turning things around.
Turning things around is a very risky proposition for the investor.
Insist on contract terms that allow you to pull out for financing risk and for any shortcomings that are identified during due diligence and that are reasonably protected until due diligence is complete.
As you move toward closing, work aggressively to assure every item meets expectations.
Do not expect shortfalls without concessions.
If the rents are down, the price must come down.
If the location is not as strong as expected the price must come down.
Regardless, if the red flags point toward potential operational issues, do not complete the purchase.
As stated earlier, while risk is inherent in investments, do not allow creeping risk and offset the risk by completing investments where the upside covers downside issues.
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