Wasted a ton of time this weekend due to broker error.
This genius, who will remain nameless, listed his property for sale on the relevant listing databases. The property is odd, but it has a ton of potential if you change its use.
We spent a bunch of time running numbers and dreaming up a strategy for how to get the change of use.
When I called the broker this morning to confirm it’s still available, he casually asked if I knew the property was a ground lease.*
No, I did not… because it’s not on any of the marketing materials!
Obviously, there’s a huge difference between (1) investing a ton of time and money in a property you own; and (2) investing a ton of time and money in someone else’s property.
#1 is fine; #2 is likely to end badly. Glad I spent the time on this, rather than hanging out with my kids…
*What’s a ground lease? It’s when an owner wants to keep a property for the very long term, have nothing to do with improving it, but also collect rent from it. He will sometimes allow someone else to develop it under a very long lease, usually 99 years or something. The developer builds and operates the structure while paying the (usually quite low) ground lease payment to the owner. At the end of the 99 year period, if the lease hasn’t been extended, ownership of the structure reverts to the owner of the land, and the developer is out of luck.
Regular readers know I’m not exactly a big fan of the suburbs.
My chief complaint is that the lack of density pretty much guarantees that municipalities will not be able to fund upkeep of the infrastructure, because there are too few people / businesses per mile of road / sewer pipe / water pipe / etc.
(Because of our insane zoning in LA, where it’s incredibly hard to build densely and you need to provide unbelievable amounts of parking, we experience similar problems – just check out the potholes in the roads you drive on every day.)
Today, I stumbled across strongtowns.org, an interesting website that’s trying to help suburban towns make smarter choices about development.
Thought you might appreciate watching a TED talk from the founder of the site:
Seriously, it exists, despite the fact that East Hollywood is really far from any bodies of water.
Because the Army Corps of Engineers created a flood zone around the intersection of Santa Monica and Hoover, banks will require that properties in the area carry flood insurance during the time the property is mortgaged.
The problem is that, due to the insane Biggert-Waters Flood Insurance Bill (which Congress thankfully toned down today!), you need to get an elevation certificate before you can get a reliable quote on flood insurance.
And, to get an elevation certificate, you need to get a survey, which is pretty expensive.
Fortunately, because this particular problem bit me in the ass on my last deal in the flood zone, I have a guy willing to do the surveys on a contingent basis, where you only pay a small portion of the fee upfront and the balance if/when you close on the deal.
Brokerage, it turns out, is mostly about coming up with creative ways to solve the niggling little problems that come up on every deal.
The NY Times has an interesting piece today on cities trying to help long-time homeowners whose property taxes are going up as a result of gentrification.
Here’s the money quote:
“The initiatives, planned or underway in Boston, Philadelphia, Washington, Pittsburgh and other cities, are centered on reducing or freezing property taxes for such homeowners in an effort to promote neighborhood stability, preserve character and provide a dividend of sorts to those who have stayed through years of high crime, population loss and declining property values, officials say.”
Here’s what the cities are trying to prevent: Area gets better, new people move in, prices go up, property taxes get re-assessed upwards, existing residents can’t afford to pay, existing residents sell and move-on, community suffers.
In California, Prop 13 protects homeowners in this situation, because property taxes are pegged at roughly 1.25% of the purchase price and can only be increased by a maximum of 2% annually thereafter. So, price increases of more than 2% annually have no effect on CA property taxes. (For more on Prop 13 and its implications for property owners, read this and this.)
But our experience with property tax limitations in CA does point to one interesting problem with the policies contemplated by the above-referenced cities: If you limit property tax increases, you dramatically slow the rate at which neighborhoods improve.
To illustrate why, consider two examples:
1. The case of the vacant lots on La Brea, just south of Wilshire. (If you’re too lazy to click the link: There are vacant lots on La Brea, an incredibly important and valuable street, because the prop taxes are low so the owner has no incentive to sell or develop himself); and
2. All over the city, but particularly in Silver Lake and Echo Park, there are people who bought their homes in the 1980s for peanuts. Many of these homes have now fallen into disrepair because the owners are insufficiently well-capitalized to maintain them. These owners almost never sell, because they are living for very, very little. So, their properties will remain eye-sores in perpetuity.
So, if cities are going to opt to help the original owners stay, they ought to put in place some standards for property upkeep and, possibly, a program to help pay for upkeep if the owners can’t afford it.
Word comes today from the Eastsider that the Silver Lake Neighborhood Council has just approved the Sunset Gateway project on the eastern edge of Echo Park.
Regular readers know that I’m a big fan of dense, in-fill development. And the part of Sunset on which this project is sited is particularly grim and in need of investment.
So, why am I worried about the project? Well, I’ve seen the insides of several of the mega projects that have gone up recently in Hollywood, and I’m concerned that Aragon Properties is going to screw up the interiors the same way those other developers did.
Here’s the deal: Rents in Silver Lake and Echo Park are high and rising. That’s why Aragon targeted this site in the first place. However, the type of tenants who are paying those high rents are doing so because they are attracted to a very specific kind of lifestyle which they believe is reflected in the neighborhoods and which they like to have reflected in their apartments. I know this because we cater to them in every development we do.
The interior design choices made in those projects (fake wood floors, yellow shag carpet in bedrooms, shiny black quartz counters with cheap stainless sinks, showers out of a 1990s hotel in Vegas, bad light fixtures, etc.) are not going to fly with the type of tenants who are paying up to live in Echo Park.
If Aragon does the same bad interior design job those other guys did, they may never know it, because rents and absorption may live up to their pro forma. So they may never know that they left a whole bunch of money on the table by doing a sub-optimal job on the design. But we’ll know.
Sorry, have to vent:
1. “So and so grew the value of the business from $100MM in 1985 to $500MM today”.
That sounds really impressive, but it’s only a roughly 5.9% annual growth rate with compounding. Any time a journalist quotes two numbers divided by a period of time, s/he should automatically give you the compound annual growth rate. This would allow you to very easily distinguish between a truly remarkable result (of the type Warren Buffet created at Berkshire) from someone who was just buying t-bills or something.
2. “Target’s profits dropped 46% as a result of the hacking scandal over the holidays”
Obviously, a 46% percent decline in profits is a bad result. But retailers have very high fixed costs (they pay lots of rent and salary) and work at very low margins. So, relatively small declines in revenue have major impacts on their bottom lines.
For example: Say you’re a retailer with $100MM in revenue and $90MM in costs, implying $10MM in net profits at a 10% margin (that’s actually high for retail). Of your costs, assume $50MM fixed (rent, salaries, etc.), and $40MM variable (cost of goods sold), implying a gross profit of $60MM on $100MM of revenue, or 60% (again, not that unusual). Now, assume your sales drops by 5%. Revenue is now $95MM, gross profit is $57MM, and net profit is $7MM.
Your net profit just declined from $10MM to $7MM, a decline of 30%! But that was off a decline in sales of just 5%, which is pretty small and easily explained by changes in the weather, economy, etc. So, business journalists ought to be required to put in some kind of a disclaimer about how high-fixed cost, low net margin businesses can experience large swings in profitability on relatively small changes in sales.
We have a buyer inspecting one of the properties from Fund 1 today, so I thought this would be a good opportunity to discuss how you ought to behave when you, as a seller, attend a buyer’s inspection of your property.
Here are the key things to keep in mind:
- Be honest. You never, ever want to lie during a sale process. If you get caught, the buyer instantly loses all faith in what you’ve told him through the entire process, making it much harder to make a deal. If you don’t get caught, you’re setting yourself up for a lawsuit later on, once the buyer finds what you’ve hidden from him.
- Admit when you don’t know something. It’s ok not to remember something about the property. A perfectly fine response to a question about, say, whether you replaced the sewer line in addition to the drain lines is to say “I don’t know. Let me get back to you in writing by tomorrow afternoon.” That’s a much, much better answer than lying.
- Don’t ramble. I’m guilty of this one all the time. When someone asks you a question, answer it. But there’s no need take off on a major lecture. The buyer is there to see the property, not interview the seller.
- Give the buyer privacy with his inspector(s). Don’t hover / eavesdrop. It makes everyone uncomfortable and possibly causes the buyer to doubt the veracity of what his inspector tells him (“maybe he was holding back because the seller was there…”). If there’s something wrong with the property, believe me, you’ll hear about it in writing from the buyer or his agent.
- Don’t take things personally. Some buyers like to spend the inspection period pointing out niggling little issues with the property. That’s their trip; you don’t need to go on it with them. Just smile, nod, and move on.
- Be personable, but not overly friendly / jocular. You would be amazed at how many deals go bad because buyer and seller interact and decide they hate each other. It’s hard enough to make a deal without that kind of interpersonal nonsense getting in the way. So, keep it calm and friendly, but also business-like. No need to risk screwing up a deal by rubbing the other guy the wrong way.
We’re getting closer and closer to finishing the 4plex at 3210 Bellevue that we bought last July.
It’s an interesting deal, in that we got smaller units than we did at, for example, 1012 N. Virgil, (825 sq ft instead of 950), but a lot of land (10k+ sq ft).
I like these little bungalow deals with big lots because they’re pleasant to live in… there’s usually a lot of parking plus space for decks, yards, etc. I expect we’re going to blow the doors off on a rent $ / sq ft basis, because the units will feel like little homes.
Anyway, here are some pics of the progress…