It's All in the Timing

This house is pulling itself apart as parts of its floating slab foundation move in different directions, like continental drift.

This post originally appeared on the Hermit Haus Redevelopment website on 2016-06-20.

There’s a fine line between buying too high, buying right, and losing the deal. We lost another deal today by only a few hours. There was a REO (Real Estate Owned—it’s a banking term that means the bank owns the property after foreclosure.) house in the same neighborhood as the Ash House. We had been keeping an eye on it for a while, but the bank wanted too much money for the shape the house was in.

We kept submitting offers over time in hopes of eventually landing this deal. Even though the bank had steeply discounted its original asking price, the discount wasn’t sufficient to cover the cost of repairs. The roof was past its expiration date, and the foundation had problems. A floating slab foundation built in the 60’s on highly mobile soil will eventually fail. It’s just a matter of time. When it does we can repair it and bring it to today’s state of the art, which has improved dramatically over the last 50 years.

The picture to the right shows several red flags that indicate a higher than average repair cost.

• The foundation has cracked and is pulling parts of the house in different directions, resulting in the crack running down the wall.
• This has also let water get into the wall, which exposes you to rotted studs at best.
• The window framing has failed, which also lets water into the wall.

We submitted another offer today, expecting it to be rejected. It was but not for the reason we thought. The bank finally relented and sold it for a price where a reputable investor could:

• Repair the foundation
• Replace the roof, fascia, and gutters
• Rebuild the fence
• Retain a reasonable budget to repair the interior of the house

The problem was that our offer came in two hours after the bank accepted another investor’s offer. We don’t know what that offer was, but we were told ours was “in the ballpark.” Timing is everything. You snooze; you lose. Yada, yada—just keep working to find the next one.

Eight Exit Strategies

Sorry. There isn’t an Exit 8 in Texas. Or, at least, I can’t find a picture of it. Photo by TBD

This post originally appeared in substantially altered form on the Hermit Haus Redevelopment website on 2016-06-17.
 

Seems to me

You don't want to talk about it

Seems to me

You just turn your pretty head and walk away

—Joe Walsh

I’ve mentioned “exit strategies” in a few posts. I thought it might be worthwhile to discuss the exit strategies we use at Hermit Haus Redevelopment, LLC (HHR). But first, let me define the term “exit strategy” as we use it in the redevelopment industry and more specifically at HHR. Simply put, an exit strategy is a way to get out of a deal once you’re involved in it. Each of the exit strategies I discuss here can be applied in various parts of the deal cycle.

Okay. Let’s get down to it. Here are the eight exit strategies we use:

Before Going under Contract

If you exit the deal before going under contract, you essentially have no risk, not even opportunity costs. You don’t tie up any of your funds. The worst that can happen is you find out a better negotiator got the house and made a killing. This has never happened to me. Yeah, right!

Walk Away from the deal.

Speaking of “walking away,” it seems like whenever we go hiking I spend a lot of time looking at receding butts. Am I just slow?

Believe it or not, walking away is the most important exit strategy you can acquire. Most of the deals you see won’t make you any money. You have to recognize these bad deals quickly and not just walk, but run away. And you can walk away at any point of the deal cycle. You just have to be aware of the consequences, especially if you have already taken title to the property.

Refer the seller to a Realtor®.

Many of the deals that come your way are really retail sales. There is little value you can add to the property, and the owners need more money than you can pay. Period. These deals can help you maintain a good relationship with your Realtor by referring the seller to your listing broker, who can help the seller get the seller get the most for their house. Since this is another form of walking away, you’ll only refer out a deal if you can’t do anything else with it.

Of course, if you are a Realtor yourself, you could always list the property as an alternate way of monetizing your time.

Under Contract but before Closing

Simply by going under contract you are incurring some risk. If you can’t sell the contract, you could lose your option money and your earnest money. Then there is always a chance the seller could sue for specific performance, however unlikely.

The contract is what makes a deal real. This is the beginning of a contract where we bought a house from a wholesaler. In Texas, anyone acting as an agent (except, I believe, a lawyer) for another person is required to use a standard contract.

Wholesale the contract to another investor.

You have to have an equitable interest in a property to sell it without a real estate license. In most states, the contract to buy the house is an equitable interest that you can sell for a few thousand dollars. At this point, all you have invested is your option and earnest money. So if you have $100 down and assign the contract for $10,000, you can make a tremendous return on your investment without ever owning the property. A couple of caveats:

• Wholesaling is not legal in all states.
• It works best when you already have a list of buyers who might be interested in the property.
• In the states where wholesaling is legal, you must have a valid contract to sell.
• I recommend you always use an attorney when wholesaling.

You’ve closed on it. Now you own it. What are you going to do with it? This question is what exit strategies are all about.

After Taking Title to the Property

After closing on the purchase, there is no doubt that you have embraced risk. You own the property. Now you have to pay for it and the needed renovations. Unless you use the double-close method of wholesaling.

Double close on the property.

Although this is technically a type of wholesaling, you actually take title to the property. Because of the cost of closing twice, you would only want to double-close in a few situations:

• Traditional wholesaling is illegal in your state.
• You’re making enough money on the deal that you can afford the double close.
• You don’t want one or both parties to the wholesale transaction to know how much you’re making on the deal.

"Prehab" the property.

Prehabbing is doing the extreme minimal amount of improvements to a property needed to sell it to another investor. (Yes, you could call this another type of wholesaling.) We haven’t had the opportunity to prehab a property yet, but the most common example I’ve encountered of other people prehabbing is with hoarder houses. A friend of mine bought a hoarder house for $45,000. He then spent $500 to have the garbage hauled off and sold the house to another investor for $70,000, making almost $30,000. The investor who bought it put another $30,000 into the house and sold it for $150,000. In my books, that a win-win-win.

Rehab or redevelop the property.

This is our bread and butter. At this point, all of the properties you see described on this site is a rehab or a redevelopment project.

Buy-and-hold (and rent) the property.

Holding rental properties are a great way to build wealth. You use someone else’s money (mostly) to buy the property, and your tenant makes the payment for you. HHR doesn’t hold rental properties. We do, however, sell redeveloped properties to our sister companies to hold.

Owner finance the sale.

To owner finance the sale, you must have sufficient capital to absorb the risk. I have to say this is one of the riskiest exit strategies you have, and it is fraught with drawbacks. First, you have to pay taxes on the capital gains without having the income from the property to do so. Then you have to assume the buyer will continue making the payments you rely on either for income or to make wrap payments yourself. And finally, it eats the capital you would need to continue your investment business.

So that’s it: Eight different exit strategies to keep in mind on any deal. We use one of these strategies every time we look at a property. By far, the one we use most often is to walk away.

St. John’s House: Cleaned and Primed

St. John’s house is much improved just by scraping the old paint and priming the exterior.

This post originally appeared on the Hermit Haus Redevelopment website on 2016-06-15.

Here’s a quick update on St. John’s house. Our contractor, Abigail, has stripped all of the old paint from the exterior of the house, repaired the siding, and primed the exterior. She’s still working on the drainage and will have to rebuild and reinforce the pier and beam foundation.

Pier and Beam Construction

Pier and beam is a method of building that was more common in the first half of the 20th century and before than it is today. It is much more suitable for soils that move than a concrete slab, even a floating slab. When St. John’s house was built, at least one of the piers was an old tree stump. For much of the 20th century, piers were simply cinder blocks stacked on the surface and shimmed to make the house level. Today, most new piers are formed concrete sunk into the ground. The depth of the pier depends on the depth of bedrock and the type of soil. (Technically, there is a functional and semantic difference between piers that hit bedrock and those that don’t.)

This isn’t the prettiest graphic you’ve seen, but it does a fair job
of demonstrating the key points of pier and beam construction.

Beams are usually 2x12 or thicker boards that run the length or width of the house. The beams can be sistered (nailed or glued and screwed together) for additional strength. Floor joists run the opposite direction and sit atop the beams.

Pier and beam construction leaves a crawlspace under the house, which is both the primary advantage and disadvantage to this type of construction. Leveling the house is often a matter of shimming between the piers and the beams. The crawlspace provides easy access to plumbing and much of the electrical if you need to make a repair. On the other hand, if the crawlspace isn’t secured with skirting, it provides a wonderful habitat for animals such as rats and raccoons. Unskirted crawlspaces also allow winter winds under the house, making the floors harder to heat (even with insulation, which was not usually installed before the 1950s) and adding to the risk of broken pipes.

Back to St. John’s House

All that leads to the drainage problem I mentioned above. St. John’s house had multiple leaky pipes, and the grading retained water under the house. With the rains we’ve had this spring, Abigail’s team is still working to drain the water that pooled under the house. Once that’s done, we can level the house and work on the yard to prevent the problem from recurring.

Another One Bites the Dust

Failure to do your own due diligence is a trap that can reduce your profits to single digits or even to a loss. Photo by Free Images

This post originally appeared on the Hermit Haus Redevelopment website on 2016-06-10.
 

And another one gone, and another one gone

Another one bites the dust

—John Deacon

We had to back out of another wholesale deal today, even though the numbers looked pretty good at first blush. I’ll call the wholesaler Dick for this post. You have to be really careful when dealing with professional wholesalers. They know the business well enough to know what you are looking for, and they can make the numbers look good—often by inflating the after repair value (ARV) or underestimating the cost of repairs. You have to do your own due diligence and trust your own numbers.

In this case, Dick was going to make enough money on the deal to require a double-close. That is where the wholesaler actually takes title at one closing and then sells the property to the wholesale buyer at another closing. These two closings can take place minutes apart, enabling the wholesaler to make a tidy profit in a very short time without disclosing the amount of that profit to either the original seller or the wholesale buyer.

Because a double-closing incurs two sets of closing costs—one when the wholesaler purchases the property and another at the sale—this exit strategy is generally only viable when the profit on the wholesale is at least $20,000. Now you may say that’s a lot of money.

Why wouldn’t I have a problem knowing the wholesaler is making at least $20,000? Because it all comes down to the numbers. If there is still room for me to make a reasonable profit, I don’t care how much the wholesaler makes. Dick found the deal, after all. If he hadn’t found the deal and sold it to Hermit Haus, we wouldn’t make any money at all. And 30% of something is better than 100% of nothing.

Hail damaged shingles can be difficult to spot unless you climb up on the roof yourself or hire an inspector to do so. Photo by Home Standards Inspection

In this case, the numbers worked only on the surface, and this is another reason why I recommend hiring an inspector on every house you buy. The inspector’s job is to find hidden problems. In this case, the problem wasn’t so much hidden as missed. The roof looked fine: 30-year architectural asphalt shingles in reasonably good condition to my eyes. But the inspector found signs of hail damage, which would require replacing the roof before any bank would finance it for the new seller.

The estimated cost of the roof was about $10,000. That would move the deal from a fairly reasonable profit range to the danger zone. There would be no contingency repair budget left, given the ARV. We have learned to never go into a deal without a contingency budget of at least 10% of the repair estimate. We could be placed in a position of either having to cut corners or lose money, neither of which is in our vocabulary.

When confronted with the bit about the roof, Dick said, “That’s a good roof. I don’t have to replace it. Nobody can make me replace it.” We all agreed. But there are two things to consider:

1. A new roof is the single best investment you can make in a property. It relieves new buyers of an expensive contingency to their purchase, making them feel safer about the purchase.
2. And while banks don’t require a new roof to finance a property, they do require an undamaged one. If you want to sell a house with a damaged roof, you had better fix it.

Since we couldn’t come to terms with Dick about the roof, we backed out of the purchase during the option period. It’s not that I expected him to replace it; I simply needed to have room in the deal to replace it myself.

Replacing the roof was the right thing to do. I believe in doing the right thing. In this case, scrubbing the deal was the right thing for us to do. We could have gone forward if we could renegotiate the purchase price downward to account for the unforeseen cost, but that didn’t happen. And Dick may still be able to sell the house to an inexperienced, unsuspecting purchaser, but we won’t be put in the position of choosing between taking advantage of someone or losing money.

Work-Life (Im)Balance or “My Why”

I’m sure I’m not alone in feeling this is how we balance work and life in Corporate America. Actually, I should’ve tipped the scale a little more toward work.

You’ll never find this guy in an airport. Driving the country enables you to enjoy life and see the country. Photo by Carolina Bird Club

A glass-bottomed boat captain told us it would bring five years of good luck to have our pictures taken standing in the embrace of this tree. So here we are. Not that we’re superstitious or anything. Photo by Anita

This post originally appeared on the Hermit Haus Redevelopment website on 2016-06-09.

When I used to work in the corporate world, management had this thing they called work-life balance. They understood on some level that you couldn’t just work people to death. One even told me with a straight face, “We work to live; we don’t live to work.”

Unfortunately, management always lost sight of that goal at some point, no matter how much Mahogany Row would like to. Between product release deadlines, understaffed departments, and the unending goal to “do more with less,” the employees (if not the management) began referring to the work-work balance. In other words, “How do I work hard enough to keep my job without going crazy or postal?”

Well, that is one of the reasons I love running this company so much. You haven’t seen me post on [the Hermit Haus] blog in over a week because we ran away to Florida to celebrate Sue Ann’s high school reunion in person. No, I’m not putting a number to the reunion. (Sue Ann says, thanks.)

We chose to drive, because I think you miss out on so much of the country when you fly. And driving lets you avoid being treated like a piece of pink slime in the airports. But seriously, when was the last time you saw a roseate spoonbill in an airport? We saw several—not to mention countless other interesting birds—in their natural habitats while driving through Texas, Louisiana, Alabama, Mississippi, and Florida. Did I mention the Everglades?

I got to meet a lot of my wife’s oldest friends, and I liked all of them. I’m not usually good in a crowd of strangers unless I’m on stage or have a microphone in my hand. But I have to admit all of the folks she’s kept in touch with are genuinely nice and interesting people.

I have to admit; I didn’t leave my phone at home. We participated in the daily huddle meetings while driving or from our hotel rooms. Nor did I stop marketing. We told everyone we met about the business. Almost all of them brought it up first. We sprinkled a pleasure trip with business contacts. We also looked at projects wherever we stopped. You can truly do this business anywhere.

So that’s one of my “why’s.” Sue Ann and I were able to take a week off and drive across the country with minimal involvement in our business. While we were gone, work continued on all of our active redevelopment projects, and our acquisition pipeline kept active. I met old friends who may become new partners. And I had a genuinely relaxing and good time while doing all of this.

After decades as a wage slave to corporate America, I can finally say I have achieved that elusive balance between work and life. And that’s not counting my dad’s adage: “If you love what you do, it’s ain’t work.” That attitude kept him planting corn when he was 92. I hope to be redeveloping houses at 100.