Getting Started in Real Estate requires Preparation, not “Luck” (Part 2 of 2)

1 Jul

“Luck is what happens when Preparation meets Opportunity” yields 95% ROI in less than 3 months!

Part 2 of 2:

Getting Started in Real Estate

The risk/opportunity factors, as I saw them, were:

1) the accuracy of their value projections for the house once fully remodeled;

2) the likely timeframe to complete the remodel and successfully market and sell the house; and

3) the type and content of the documents needed to define my participation and protect my investment, within reason.

Once I reached conclusions on these 3 risk/opportunity factors, I would be able to estimate my Return on Investment (ROI) and my relative risk to obtain that ROI. Oh, and I still needed to come up with the $25,000 of cash!

Since I had recently purchased a portfolio of rental houses, my operating cash had been depleted, and without dipping into 401k’s or mutual funds (which would have taken too long to convert to cash anyway), I only had about $5k of instant cash in the bank. When Sean proposed the deal structure to me, he was savvy enough to directly ask me, “Mike, do you have the liquid cash to do this deal this week?”. With only $5k readily available in the bank, I didn’t have the liquid cash, did I?

So I answered him like any responsible business person would: “Sure, I’ve got the money to do it; I just need a day to do my due diligence”.

Was I being deceitful? Certainly not!! I did have the liquidity; it was sitting there in my unsecured LOC just waiting for a rainy day… or a great opportunity. As long as I could deliver the $25k of cash, it didn’t matter to Sean or the other investor how long that money was seasoned in my checking account, if at all. It also didn’t matter if I was obtaining the cash by borrowing it from my bank under a pre-arranged credit facility. All they cared about was getting the $25k to finish the remodel and cover the carrying costs until the property was sold.

It was time to dive in and do my due diligence on this deal. The first task was to estimate the future value of the house, after remodel. I used a subscription service to search the county records for information about the house, as well as comparable sales within the last 6 months. I concurrently asked a realtor friend to run reports showing comparable sales and active listings from the MLS. I reviewed the project information provided by Sean and the other investor, to verify the current cost basis of the project, along with budgeted costs to complete. I toured the partially completed house and talked with the General Contractor, getting comfortable that the remaining work could indeed be done within the new budgeted targets. Within hours, I was able to address my first 2 risk/opportunity factors, as outlined above, and determined that the project would likely come in within the new targeted budget and timeline, and that the resulting remodeled house could likely sell within 3-6 months for a price that would net me a profit share of $15-25k.

My last piece of due diligence was to ensure the necessary paperwork was in place to document the transaction and protect my position. After reviewing the contract already existing between Sean and his investor friend, I prepared a Promissory Note and a concise Revenue Sharing Agreement that described how profits would be split after all expenses and debt were first paid off (including my Promissory Note!).

The parties accepted the documents, so we all executed them and I simply logged into the Wells Fargo website, went to my $35k LOC account, and electronically transferred $25k of it into my checking account. Then I drew a cashiers check on that account and bought myself a deal.

Voila! The transaction was completed, and I recorded my financing position with the county recorders office so my Promissory Note would be a matter of public record. That way, whenever the property transferred or got refinanced, the title company would see my Note and contact me for a payoff.

Since I was now a party to the project, I received periodic updates from Sean as to how the project was progressing, and joined him on-site several times to check out my collateral. They did a fantastic job on the remodel and within six weeks, I received $35,000 back (all of my initial investment plus $10,000 more), and then I got another $14,000 six weeks after that, to complete my share of the remaining profits. So I only had to pay interest on my LOC for 6 weeks, totaling about $350. Therefore, my investment of $25,000 yielded a profit of $23,650 — or 94.6% ROI — in less than 3 months. That’s an annualized rate of return of more than 400%!! Not bad for a relatively safe, collateralized investment.

In my corporate jobs, I would have earned roughly the same $24k during that same time period — but that’s where the comparison ends. My corporate positions required me to work around 55 – 60 hours per week for that money, without much incremental upside. This investment, on the other hand, required about 8 hours of time during the first 2 days (due diligence and preparation of the paperwork), and then only about 1 hour a week after that, because the general contractor and Sean’s investor friend were the ones doing the laborious work on the project. I was free to do other deals, and make additional money during those 3 months, which I did. I leveraged other peoples’ time and other peoples’ money (remember, I borrowed the money from the bank) to help complete a successful remodel project and to make a handsome profit at the same time. All because I was well-prepared and was willing to seize the opportunity.

Later that year, I was telling a friend an abridged version of this transaction, and I recall him saying, “Wow, I wish I had that kind of luck”. To which I replied, “Luck had nothing to do with it — this was simply an instance of running into an opportunity that I was already prepared for, and having the good sense to identify it and take the appropriate actions. Anyone can do it, if they first prepare for it”.

****** Author’s notes ********

Make it a point to spend a few minutes this month to prepare yourself for whatever it is you’re interested in, so you will be ready when opportunity knocks. If you are interested in investing in real estate, take the preliminary steps to get pre-qualified with a lender, know your FICO score, line up traditional and creative sources of capital, and identify people whose knowledge you can leverage to increase your chances of great success. I will launching a step-by-step investing series on this Blog, starting next week, so be sure to check back in or sign up for RSS feeds by clicking the button in the upper right hand corner of this page. In the meantime, feel free to improve your ‘luck’ by visiting Sean’s and my website, www.FortressInvestor.com , where we deliver turn-key, remodeled, cash flow investment properties below market.

Submitted by Mike Lima, real estate investor & principal of Fortress Investments 3, LLC.

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One Response to “Getting Started in Real Estate requires Preparation, not “Luck” (Part 2 of 2)”

  1. james 10. Jul, 2009 at 12:41 am #

    This is good sound advice. Having capital and resources lined up before opportunities present themselves will give you the greenlight to pull the trigger once you have OKed the deal.