Fixing a screwed-up building

Got a call today from a guy who inherited control of a screwed up apartment building. I have a lot of sympathy for people in that situation, since it happened to my family back east.

The dilemma is this: You know you have an asset which is not performing. You know that it will cost a lot of money and (more importantly) time to untangle all of the problems and get it performing again. You want to sell, but you know you’re not going to get a full price, because the building is screwed-up.

The temptation in this situation is to try to hire someone to fix the problem for you. And, of course, there are plenty of people and management companies out there who will listen to your problems and tell you they have the answer if you just pay them a few thousand dollars.

Don’t hire one of these charlatans. Remember: People who know how to do this stuff (like me) make a lot of money sorting out troubled buildings. Why on earth would we do it for a few thousand dollars?

No one will care enough about a few thousand dollars to do the hard work necessary to clean your building up. They will instead be happy to take your money for a while and not deliver any results. That’s what happened to my family and to this guy I spoke with today.

Instead of hiring a charlatan, choose from one of these two options:

  1. Commit to sorting out the building yourself. This is painful and risky. It will require more of your time than you can imagine. You will spend a lot of money. However, the payoff could be sweet.
  2. Sell the building. You won’t get top dollar for it. But you will not go through the pain and heartache that comes from doing one of these projects.

That’s it. Do it for yourself or sell to someone else who will do it for himself.

Remember the BATNA!

What’s a BATNA? Jabba tried to feed Skywalker to it.

Just kidding. It’s the acronym for “best alternative to negotiated agreement”.

BATNA is a term of art in the world of negotiations. It’s intended to represent your best choice besides taking whatever deal is on the table.

For example: Let’s say you have only one offer to buy your building. If you don’t consider any alternatives besides selling, you’re basically at the mercy of the person across the table, because that’s the only game in town. But, if you are willing to consider alternatives, you might realize that you could also re-finance, pull out some cash, and hold the property.

Once you realize that your BATNA isn’t so bad, two things probably happen:

  1. You get confidence in your negotiating position and stand firmer, knowing the alternative to striking a deal isn’t so bad; and
  2. Your negotiating partner, recognizing your willingness to go another direction, moderates his demands.

So, far from endangering the negotiation, considering your alternatives actually has a way of making it more likely that you negotiate a fair deal.

Right now, you need soft eyes

There are no perfect deals right now. Think about it: People don’t generally sell perfect buildings where everything is going great. They definitely don’t right now, when the alternative to owning the building is to hold the money in their money-market account earning 0.25%.

Does that mean you shouldn’t buy anything? No. There are definitely good deals to be done, both relative to the other stuff out there and also in absolute terms. Just yesterday I came across a fairly large, non-rent control deal that a savvy investor could get into for less than 9x the rent in a good area. That works out to a 6.7% cap, which is probably an 8+% / year cash-on-cash return with some decent leverage.

Is this deal being marketed as a 6.7% cap? Absolutely not. It’s more expensive than that on its existing rents. To understand its potential, you need to understand where the neighborhood is going and what you can do to improve the apartments and raise the rents.

In The Wire, McNulty and Bunk, two detectives, talk about having “soft eyes” when they look around a crime scene. What they’re referring to is the ability to avoid jumping to conclusions and to see all the different possibilities. That’s exactly what you need to do good deals now: soft eyes.

How to start a settlement negotiation

I remember when I first got started buying and renovating apartment buildings, a broker told me that if you haven’t been sued yet, you’re not really in the business. Fortunately for me, I’ve avoided being sued so far.

But that doesn’t mean I haven’t had to discuss settlements with people. Everyone once in a while, in business, someone wrongs you or you wrong someone and you need to come to some kind of agreement about making things right.

But there’s a problem when you want to talk to someone about a settlement: How do you go about doing so without giving them ammunition to use against you in court if the settlement talks don’t work out?

I asked this question recently to my lawyer, Bob Levinson (who I highly recommend, incidentally) and this is what he told me (Disclaimer: The following is not legal advice and should not be relied upon. Consult your own lawyer!): Settlement negotiations are not admissible as evidence.

What this means in practice is that, if you clearly label a communication with the other party as a settlement offer, they can’t throw it back in your face as a tacit admission of guilt during a trial.

It’s very reasonable, if you think about it. It’s almost always in everyone’s interest to settle cases before they go to court, because it saves everyone money and time. The law doesn’t want to do anything to make it more difficult to settle. Quite the contrary; the law wants to encourage you to settle. So, the law protects either party that makes an offer to do so, in order to help get the ball rolling.

Every once in a while, in business, you run across something that’s well thought-out and reasonable and it makes you smile. This is one of those things.

Ways into the apartment business: Leasing

Further to our earlier conversation about ways into the apartment business…

Another good way into the business is through leasing. Technically, you are supposed to have a real estate license to lease apartments. However, many management companies use unlicensed leasing agents, in part because very few licensed sales agents are willing to work for the relatively small commissions available in leasing.

Here’s how the leasing business works: You get hired by a management company to fill units. Generally, you are responsible for posting ads in the relevant places (Craigslist, Westside Rentals, etc.). You take the calls, arrange showings, take applications, and then close leases.

Generally, the pay is something like $100-400 per closed lease, depending upon who you work for, the rents you’re getting, etc. Obviously, the less your management company wants to charge relative to market, the easier it is for you to close leases, and the less they’ll want to pay you.

The career path in leasing has two different branches. Someone who can close should probably go get a real estate license and then start selling property on her own, because the upside is much better in sales (tens of thousands of dollars, instead of hundreds).

Another possibility is to stay in leasing, but move to high-end, luxury properties, particularly ones that are just opening. Because these buildings desperately need occupants (in order to stabilize their rent roll and be able to re-finance their expensive construction loans), the companies that manage them are generally willing to pay very high lease commissions. You could do pretty well closing 20-30 leases at $750-1,000 / lease at one of these buildings.