Achieve Wealth Real Estate Investing Podcast

James:. Hi, audience and listeners, this is James Kandasamy from Achieved Wealth through Value Add Real Estate Investing podcast. Today we have a special session with Rama Krishna from Zovest Company from California. Hey Rama, you want to say hi to our audience and listeners?

Rama:

Yeah. Hi James. Thank you for inviting me on this special session. I know definitely the primary reason is we are attending so many webinars on this COVID19 impact for multifamily, a lot of other groups that we're discussing. I wanted to just compile all that strategies that I have compile and also mine as well. What I'm actually going through right now with my properties, compiling the blog posts and whatever you wanted to talk about it.

James:

Yeah. Today's a special session. I'm trying to make all this podcast release. I'm actually rearranging all my podcast releases to make it really timely. So all of you guys, listeners, can we take action from whatever you're listening from this podcast and listening to podcast that was recorded one or two months ago, which is like super boring because all that is pre-Corona. I'm sure all of you guys are wondering what is this guy talking about. 3% rent growth at that time, so this is timely. We're going to release as soon as possible. Rama has done a really good job compiling fifty strategies for multifamily operators and asset managers to tackle Covid19 and we're going to go to each one of those quickly and also in detail so that each one of you can take a pencil and paper and write down what are some of the things that you can use right now. Rama, let's get started.

Rama:

Yup.

James:

What's the first one?

Rama:

I think before even getting there, I'm reading the primary thing that we need to do here is, people lost jobs in the sense that we need to become passionate about the way how things are going. I think we are actually suffering as operators. We also have to put ourselves in the tenant's shoes and they got impacted. Some of these strategies to also have to work with them to see how they can weather the storm, including us, have to weather the storm here. Another thing is, I mean, there are federal regulations right now that we cannot evict tenants. So in a sense, even though, we can do some of these things, but the strategy is what we have before we cannot do it because of the regulations in place and then also shelter in place right now.

The first primary thing that we wanted to do to alleviate the problems of tenants is the late fee waiver. We actually wanted to not to communicate this thing until the fifth, but we did communicate before that itself, just wanted to give some assurance to the tenants saying that you're not going to charge late fee for the month of April and May. That's the first strategy you want to do. Also they cannot; they are impacted. The primary thing we wanted to do, James is when you're working with the tenant that they have an issue, you want to get a proof from them that they got laid off from their job and then put it into your resources, your folders so that in case if you're applying for any other benefits in the future, any ADL program or a PPP program, or maybe a forbearance or forgiveness, you can have all these things noted in your documentation.

The second thing is some of the tenants are not misusing this thing. There is a late fee waiver. There's a flexible payment plan, but if you're not impacted, you're not eligible for that. That's the reason. The second point where we wanted to put them into a payment plan, if they are impacted and then they can continue catching up these payments. The second thing again and then typical guidelines to the tenants saying that you need to do the shelter in place and follow the state or CDC guidelines to make sure that there are protected. The last thing that you need is a Covid19 patient in your properties and then they're spreading and they don't know what, and God forbid there's a death. There are lot of things that you need to do to make sure and also fundamentally you want your tenants and everyone to be safe. Then follow the state guidelines and what you have to do or they have to do somebody tested positive in your property. How they can do self quarantine and how you can help them also.

I know maybe there is one more point in here is to, for us as an operative to disinfect the common areas and especially, I think we'll come back to those points again in the later strategies is to disinfect the common laundry mailboxes and other things, leasing office and other things. The other thing from a financial standpoint was security deposits. When we found out about this program called [05:15unclear] there other insurance programs, even not just for this one later also the operators can use this strategy to actually use in lieu of security deposit. They can actually get into some of these insurance programs like the Rhino or like Nash tag, Lemonade, where in this strategy, James, I think you might already know. Let's say the security deposit is thousand dollars. They need to pay $5 per month as insurance and they don't need to deposit this thousand dollars. So somebody coming in new as a tenant instead of paying first month's rent plus a security deposit of say $2,000. Now the need to only pay $1,000 and an insurance program for $5 a month. If it is $2,000, it will be $10 a month.

It covers both security deposits and also any damages that they do, including they haven't officially confirmed but when I talked to rhinos representative, they're saying even wear and tear. Say if we want to do and make ready and there is damage that you have under the unit it covers that. So the way how it works is, so let's say if the tenant vacates and you go and do the move out inspection and you saw overall to make ready of this is twelve hundred dollars, and you do it claim to rhino and then they pay you within 48 hours and they collect from the tenant later because it's still learning deposit. There is wear and tear or some damage happened to the unit.

James:

So that is a sayrhino.com, that's what you're saying?

Rama:

Yeah.

James:

And there are a few other people as providers?

Rama:

Providers, yeah.

James:

Let me get a bit more structured here. We are on that line item number five, which is basically the first one, is look at late fee waiver. Second is look at payment plans for your residents who are impacted, make sure they are impacted. Third one is a make sure that you communicate to residents and make sure they follow the shelter in place and follow the State and CDC guidelines. Fourth is basically if they are exposed to Covid19 patients who are tested positive you want to do a self-quarantine as well. If you as a property manager knows about whether any residence has been impacted, usually a lot of property management software have given us access to additional fields in the tenant information to mark them as Covid19 quarantined and all that. I do have it recently on my property management software. So check with your property management company, so they can mark it as someone was impacted or quarantined or what's the status.

The fifth one is basically using some of the security deposit for some of the two months rents using some companies like sayrhino.com where you can use it as an insurance for evictions and if they evict out or if for any make ready, if the tenant cannot pay.

Rama:

If you collected the security deposit, you can convert to a sayrhino agreement.

James:

Okay.

Rama:

The minimum is at least they need to have six months more left in the lease because at least whether the new person coming in or maybe like another two months are done in the...

James:

But this program already existed before Covid19? Rama:

No, sayrhino has 700,000 units insured.

James:

So they already existed right now. So you can just use this at this stage, I guess. Use some of the current security deposit and convert it to this insurance program, I guess.

Rama:

Exactly.

James:

Okay, got it. So sayrhino.com and REIG insurance, call home, [08:59unclear] king.com and these are the some of the providers?

Rama:

Yes, there are some other insurance providers in lieu of a security deposit.

James:

Okay. Let's go to number six.

Rama:

Okay. Let's say from an operator perspective you feel that there is one more point here that we can come back to this. I think I haven't ordered this in the right format, right numbering. The first thing before doing that is to privately segregate our profile tenants. Go each lease by lease and profile your tenants how exposed are they with this Covid19 impacted businesses. Are they in restaurants, are they in travel tourism industry or whatever it is to see what would be the impact of it. Say if you have 50% of your tenants are in medical profession or maybe some other which are not really impacted into that. So at least you will know yourself if you own [09:55unclear] unit, Hey, like, I'm 50% of my tenants are restaurants, maybe. Then you can actually be really alert and also do go to these programs, what we're talking about here. Talk to your Fannie/Freddie lender and see if they have any mortgage forbearance or relief. No, they already have it. Fannie and Freddie already rolled it out, for 90 days you can forbear your mortgage not to pay that. Then how the payment plan of twelve months to catch up on this 90 day payment.

But make sure that there will be some negative remark or agency loan history and to see, make sure you go through all the agreement before actually signing up. But yeah, if you're really impacted, definitely if you're going on water with not being able to make mortgage payments, for sure you should consider this mortgage forbearance.

James:

Okay, good. Let's go to the next one.

Rama:

Yeah. And then so that is one aspect of it. The other aspect of it is the SBA disaster loans. There is an EIDL emergency loan...

James:

I think it's called Economic Injury...

Rama:

Economic Injury Disaster Loan. So that's the loan that SBA is giving up to $2 million for small businesses including rental apartment owners, there is 3.75% interest and then there is some times that you need to pay. The idea here is based on your situation you can actually apply for this a disaster loan for EIDL program so that you can weather the storm for the next three to six months or nine months. There's another loan for a payroll protection program, PPP, which I can update this as well. If you have a payroll that you're running by yourself, you can actually apply for this PPP program to get two and a half months of payroll from the government or if your property management company actually runs the payroll, you can ask them to apply for this PPP loan so that they cannot bill you for the next three months for the property management personally. James: Yeah. I think the caveat is anybody who's applying for it to be having less than 500 employees.

Rama:

Exactly. I think they figured out some more than 500, but overall, yeah, up to 500. Yes. And then also thing from I think from a tenant perspective some of this one's four or five points series. If they are actually having some hardships right now how they can use some of these federal programs. They're actually sending a $1,200 to $3,400 checks every person who actually filed their taxes. Also they can apply, if they are a small business, they can apply SBA loan or they can apply a PPP loan and they can weather the storm and actually use that money and then if they get referred, they can file the taxes immediately and use that money to pay rents. Some of these aspects that you can think on their shoes and see how these federal programs can help them as a tenant. Maybe one of your tenant is a restaurant owner, then you can see how the federal programs can help them so that they maybe they can file an employment benefits and then you can tell information about that or you can find local companies which are hiring and then see if some of these tenants that actually wants to find a job right now. Then you can ask them to continue pay the rent.

James:

Yeah. Let me add some more things. Some of the apartment association in many big cities have given renters resources, which includes how to file unemployment. What are the resources for them to get different types of help from different organizations.

Rama: Yeah. So again, two aspects of our operations, one is income and the other is expenses? Right now we've talked a lot of stuff from income perspective and some are expenses perspective. The other aspect that we kind of brought in is with all these people talking about are expenses. So in the non-essential expenses, even send email like a message to all the tenants, memo the tenants saying that, if you have any emergency only like create a service request, non-emergency service request will be done once the things settle down. Now if you are a light bulb vendor where you can fix it yourself or you leave the light bulb at the doorstep, let them fix it. Instead of you exposing your maintenance staff to more people, either they can fix it themselves or we can drop the light bulb there or they can wait for a few weeks until these things settle down so that you can cut your non-essential expenses and other controllable expenses that you can eliminate and you can close all the amenities, pool, the common amenities so there is no need to continue maintaining them.

James:

I think also you do not want to people to use that and spread the virus more.

Rama:

Exactly. Those are shelter in place, not using the common amenities, throw a party in a club house then you will have 50 people infected there. Primary thing is the common amenities. You have laundry room, everybody's coming in there to do the laundry, how they can sanitize this thing or maybe one person at a time or have a roster, Hey, this building one to ten people using Monday to Monday 9:00 AM to 12:00 PM some roster so that not everybody coming in Saturday morning to do the laundry. Or maybe some mailbox to see if somebody is there at the mailboxes, have some instructions that say wait for them to leave and then you go, wait for a minute and then you can go and pick up your mail.

Some of this stuff that you can instructions at the mailing and laundry, or in any common areas. The other thing is aspect of income perspective is primarily focused on the leasing aspect. Can you put some deals on renewals or lease modifications or if you already gave notices and then maybe cancel the notices and then pause the rent increases right now to make sure that you're at least a hundred percent physically occupied and then later on 100% how it can be economically awkward as well. At least at this point right now if you can make this a hundred percent thing, James, both physical and economically, you can weather the storm for the three to six months and come back and again go back to your typical asset management strategies to increase the valuation of the property. Right now it's more a fight or flight mode right now. Let's see how to make it smoother for the next 90 days to 120 days is the strategy here.

James:

Yeah. So what you're saying is rather than pushing for rent, try to keep people in the units, whether they're paying or not.

Rama:

If you renew it, we're going to not increase it, let's say if you renew it in April, May, we're not going to do any rent increases. The last thing for you to do is make this unit empty right now and then we don't know what the situation of leasing activity in that building. So continue withholding rent increases, especially if you renew it in the next two months, we will not increase the rent, for example and the things that were discussed already, it'd be sympathetic and then also profile your tenants, see what jobs they do. Another strategy on this is, you don't need to pay April or maybe May but that rent will be amortized in the next 12 months. That's another strategy they're doing. Hey, you know, you're affected. We're not going to charge you for April or maybe half of May as well, but that $1,500 will it be amortized for the next twelve months. James: Okay, so you'll give them a break for one month and you take that money and amortize over 12. Rama: Yeah. Just like forbearance from a mortgage, same thing. That is amortized for the next 12 months. Same thing that you can do here, but some of these are lease modifications and see how painful it is, but whatever that is kind of, it takes it to get this thing done right and extending the leases. One more thing in the leases we can come back to later on is usually when you do a short term rentals at the three months lease, six months lease, you have a premium. You can actually reduce the premium, no premium for short term rentals. Say, hey, like, we are leasing right now. Hey, you want a six months, and then it will be same as the 12 months' rent. So at least you can fill up your units by doing that. James: Yeah, even on a month to month. I think they can usually we charge premium for month to month, but you can either reduce it or don't charge that for now. Rama: Exactly. So I think maybe for them also they also wanted to try for month to month, three months, and then they can do an annual release after two to three months. So you can at least fill them in coming in, let them pay, and then you can think about this after three months. The same topic we discussed before is the go to a local; even though there are jobs lost, some are trying to hire. Amazon is hiring for the warehouses, grocery chains, hospitals; some of them, they're not able to have enough staff. So you can find these in your market, in your sub-market and see and take those information and then send you to your people who actually came, Hey, I lost my job. Hey, why don't you try to go to Amazon warehouse five miles from here, they're actually hiring. That you can help to see if they can come back to the employment at least for temporary for the 90 days until this thing comes back.

A lot of these people are furloughed right now just because they can get unemployment benefits, but if they can get some other job for the next 90 days, because what if just delays more, they can get some job for the next six months and come back to the workforce later. Another thing is something similar is lot of charities and churches and they pay the rent and if they're part of the local church or a charity program now there are so many people paying rent and also their utility payments.

James: To help our residents and one good resource that you guys can use, all the listeners can use. It's findhelp.org, that has all the completion of all the organizations which are helping people in terms of money, housing all kinds of things there, so use that resource. Rama: Yeah. And like this is the first step. So whatever that's happening for us or for them, the message to tenants is the rent is due, just because we have to have utility payments, we have to have mortgage payments, we have to pay salaries for employees. This is a laser thin business. This is not; we're making 50% as profits here. So we had to send that message properly that we also have expenses. We cannot just not forego this thing, not paying rent. That's the message that I might not be putting into the right way here, but you have to [21:24unclear] because some of these articles in some of these markets saying, Hey, don't pay rent for three months. So it's just showing a wrong message, but they're not thinking about the operators.

James: Yeah and the government or our mortgage providers did not give us a break on our mortgage. The rent is still due, we do sympathize with all the residents. Let's work out some plan. But rent is rent and it still needs to be paid in some way. So we have to figure that out and see. Rama: Then another thing is if you're doing renovations, if you have draw requests, it's already competitor immediately do the draw request because there might be some delays right now because of this demo here, the inspector might not come in to verify that renovations that you did to approve the draw request. Submit your draw request as soon as possible so that your money, you had to pay your vendors. James: So this is the capital or replacement reserve, what we're talking about here? Rama: Exactly. So you renovated like say five, ten units and usually the bridge loans, other loans which we have escrow money. Get the draw request and then get the money at least and then you can pause. The idea here is to release what you did to now, get the money, pay your vendors and pause your renovations for some time until this is done. Another aspect is until it is utilities, because now everybody's at home. They're going to use all their deliveries for the maximum, the water, the electricity, the heaters, the air conditions, and the internet, everybody utility company is right now maxed to the capacity. So just keep it down on the utilities and see how things are going on that. All bills paid or you're doing the reps program. Do you need to increase the reps? Like whatever it is, just keep an eye on it. It'll definitely be a much higher. James: Yeah. I think because everybody's staying at home right now and the one or two months when the utility bill hits to everyone is going to be much higher and now I appreciate why all this spend people go to work, somebody else is paying for their utilities when they are at work. Now operators do feel the heavy load here, but it is what it is. Rama: And also the load on this, if you're continuously using something like your HVACs maybe break broken, or your water, something that issues that you need to make sure that you do the regular maintenance of these stuff and then make sure that you have ducks in row. Like, hey, we're talking to the Water Company, talking to your Plummer, talking to your electrician or HVAC Company, making sure they're ready for any service request that comes in. Because if the HVAC broken or some water broken, last thing is that the tenants are not happy.

James:

Correct. Correct.

Rama:

So I think we discussed it the month to month of high risk tenants, rental increases on this. Yes. Pausing all upgrades and the distribution side. Another thing is we've talked about lenders, talked about the tenants but you did not think about the investors. If you're syndicating this deal or if you have the private money that you raised or whatever that you have investors in your deal, make sure that you inform them about what's going on and how well your assets are performing and what are the things that you are doing as an operator to get some of these strategies are what your strategies that you're already applying to whether this storm and maybe there are some other great topics, uncomfortable things that you need to talk to them. Say there might be some pause on distributions because we don't know what's going on here. We need to preserve the cash, preserve our reserves right now, what if this goes beyond 90 days. So maybe pause or reduce your distributions or pause it for now and then you can catch back once everything kind of settles down. That's one of the conversations you should have. James: Yeah. Make sure, I mean, just a caution to everyone who's listening. Make sure that any operators are communicating to the passive investors more frequently than what they used to know. This is very important right now. Just because everyone knows Covid19 is happening, the whole country is in a lockdown, doesn't mean that you can't communicate. So make sure you communicate all your plans and what are you doing to your passive investors? Rama: I think we kind of came through this reprint reserves. We need to make sure that you're are person maintenance; so make sure that now is the time that you have a pause. So you can actually flag kind have all your depreciated items, have HVACs these other things. Make sure that you have all of them done properly. Also, again, the same thing, use audit, full use audit to categorize your employers. So their dependents are at risk or not. James: Yeah, I mean, you can do a general lease audit as well because most of the time, right now our offices are closed for public. Most of the apartment office. So in my company, most of my staff are doing lease audits. Just as part of the normal thing, but to keep them busy.

Rama:

So this is the right time, everybody give it time we are running, now is the best time to profile your tenants lease audits and make sure that what strategies that you can employ to make them in place and again, same thing as utility, like just how you can do savings of utilities. Is it a new water leaks that are happening. Let's see your old bills in the last six months or one year. See any patterns that you can identify or any other measures that you can save utilities because the utilities will be stressed in the next a few months. Again from the expenses side, completely renegotiating all your contracts and [27:30unclear] every insurance, everything that you spend, your controllable expenses like non-controllable, property taxes and mortgage. You cannot do anything. Maybe yes, if you can refinance now if you have ability you can do that, if the rates are low. But if the controllable expenses you have the negotiating ability, your pool vendor, hey, pause for a few months or maybe renegotiate the contracts, go through every line expenses that you have and try to get renegotiate these things.

There are even companies it seems, which can do like this, that can help you go through all your bills and then find anything that you can renegotiate the contract. The thing is noise notices because now everybody's home. There will be a lot of complaints. Hey, like my neighbor is making a lot of noise. Make sure that you again send it across back to the tenant notification saying after nine o'clock it is a quiet time for what it is like in the night. Any of the notices that you want to do, the courtesy notices to make sure that everybody's people are working from home. Whatever it is and again, so a lot of people kind of saying maybe on the section eight, what's yours? Maybe this is a time to think about rethink...

James:

It's the best time to get section eight vouchers because that's guaranteed income for now.

Rama:

Exactly. So if your property is already approved and you have a few tenants in section eight now go through, go to your city and say, hey, do you want any more? We have vacancies right now. Hey, absolutely we have so many people are looking at it and we are already approved as section eight for your property, they'll let them send your way. And you can fill up easily and these are at least for the next one to two years, it'll be like in a way standard and then not all section eight is bad, just make sure that you profile your tenant properly and then...

James:

Yeah. And I also heard that the government provided a lot more funding for housing people so there could be a lot more section eight vouchers coming in and what you're saying, they're not bad people. I mean they are definitely a lot of good people there you just have to make sure that you screen them properly and make sure you get the good ones.

Rama:

Yes. I think we kind of briefly touched based on this too about the [29:57unclear] and all the forgivable loans or the loans and then property managers can use some of these loans. Each LLC, that own asset can use this. Check with your lending terms to see that it's not violating any terms. There are a couple of things, I got it from the CVRE webinar, make sure that you have fire productions on the building equipment and backups and mission critical operations that you have. These are kind of into the back-end of it that we already usually ignore. Make sure that all the buildings are inspected properly by the fire inspection because now that everybody's at home, there are higher chances of some of the stuff they could make big dormant happen. Do you have your backups of emergency? And then any mission critical operations your cooling any heating water or anything, we have redundancy on these things.

Make sure that you're building physical aspects of your buildings, make sure that you do those and then if you don't have credit card payments, for rent payments, make sure to enable them and also inform tenants that you can pay rent through credit card or maybe in that you can actually give back the money or the transaction fees. Usually in a credit card payment there is a two and a half percent transaction fee. Hey, you can use credit card. If you use a credit card, let us know. We can refund you the transaction fee.

James:

Yeah. That's something that we are happy because we moved all to online payment for the past one year. So now it's so much easier during this kind of thing because...

Rama:

Especially if you're not yet on the credit card payment option, make sure that you talk to your property management software and enable that and then also inform them, Hey, like you already have ACH but you have an option to pay through credit card. That's another thing and also another incentive is, I think Neil was using his, if you can give some credit, if they pay the rent before fifth of the month, or if you pay April and May upfront now you'll get a $100 off or $150 off. Give them incentive to pay for the next two to three months upfront. So that if somebody has that capability to do it now they can use up the program and they can get, they can get a credit for that and make sure, again, this one is, I think should be the first stop. If you're working with the tenant, either a late payment waiver or a traded audit, lease modification, any other that you're working with them, make sure that they show the letter that they lost their job. Otherwise people will make use of these features that you would actually giving. So that's the primary and then the couple of things we already talked about the short term rent leases and renegotiating the contracts and other one is primary, the model unit. Now that nobody's coming in and seeing the units, maybe you can use your model unit as lease apartment for short term, but this is the [33:07unclear] idea and lease to traveling nurses because right now with the Covid a lot of these hospitals are actually getting healthcare professional from outside, from other towns, other places and they're hiring more people as a temporary staff, but these traveling nurses and healthcare professionals need to have some place to stay. You can go; I had to find this link, James. I'll talk to Ellie and then send it to you as well later on; you can put it into your notes.

James:

Is this a link for traveling nurses?

Rama:

Yeah, there is a way to find out these people and then post your apartments there. Hey, if your apartment is say five to ten miles from a hospital major hospital and you can actually use these resources to actually post, hey, we have available short term rentals, maybe for lease or not, we can give you this for the next 90 days to 120 days. That's another way to actually fill a unit.

James: That's awesome, it looks like we went through the list. So let me add one more thing, which I just remembered. If you have never done a virtual 3D tour of your units, you want to prepare right now, there's a lot of photographers out there that they can do a virtual 3D two of the units. Right now that's very useful because right now we can't use our leasing agents to go and tour the units, we just tell them to go themselves or drive around or look at the pictures or look at the videos. But if they have a really nice virtual 3D picture, there'll be a really good way to attract leases to you. Rama:

Rentally has a self-touring technology. You can purchase webcams. So if you're using Rentally, also Rentally is also an app into existing property management. You can put the webcams there. You don't need to be there, your leasing staffs are not exposed. So they can come in 24/7, you'll send them the lock core. You'll open the unit and you can monitor from your leasing office or whatever desk you are and then do that, Rentally has that. James: Yeah, I did look at that as well. So that's awesome. Rama, thanks for sharing this. Is there anything else you want to mention to the audience and the listeners? Rama: Yeah, I think we have some light on the other end of the tunnel. The government is helping us. Hopefully I think this will pass and we'll back stronger and stay safe.

James:

Yeah. Yeah. Multifamily is still one of the best asset classes to invest in because there's so much help we are getting from all our different sauces. Imagine if you are an office or warehouse or industrial or everything is closed down, or hotels. Right now things are doing really badly in that asset classes. But shelter is part of the Maslow's hierarchy of needs, food, shelter and safety. So absolutely everybody needs housing to stay on and live on. So thanks for coming in and hopefully we can add this as soon as possible and that's it. Thank you very much, Rama.

Rama:

Yeah. Thank you, James.

James: Hi audience and listeners this is James Kandasamy from Achieve Wealth through Value at Real Estate Investing podcast. Today I have Anton Mattli from Peak Multifamily who is one of the leading multifamily financing agencies. Anton is a CEO of a big multifamily funding. He graduated from Zurich Business School. He's from Switzerland originally, love Switzerland for the view of it and he has been advising family officers' high net worth individuals and has done billions and billions of dollars of loans. Anton and I was discussing before this interview started saying it's not fair for lenders to declare how many billions they have done because that can be a lot of money but the experience level and the knowledge and the acumen of the industry matters a lot when you're doing financing. Hey Anton, welcome to the show.

Anton: Yeah. Hi James. Thanks for having me.

James: Absolutely, absolutely. Actually we are having, originally I planned to have a meeting with you to talk about what could happen similar to 2008 crisis because we have been talking about it for past few months, but now we are in the middle of corona virus recession, I would say and we are in the first or second week of this happening. So basically we don't have to predict what the recession can be, but we can predict what are the outcome from this event could be. I think a few months ago you and I have a lot of discussions about how the market would turn, how dangerous is the market right now in terms of operators or sponsors or syndicators buying things because overleveraged, overpriced and all that. What were your thoughts before this Covid19 recession came about and how was your state of mind in terms of how the economy was and how everyone was buying deals and we'll go into the details on Covid19 and what's happening now?

Anton: Sure. As you write on the operator side have seen quite a number of deals that for me personally didn't make sense but I didn't know a deal was financeable from a lender perspective, from a debt service called [02:36unclear] particularly when it's an agency loan, does not necessarily mean that it's a good deal from an equity investor perspective. Even though we were able to finance some of these deals with a number of them I would not have felt comfortable to invest in those deals. There were plenty of deals that still made a lot of sense, so don't get me wrong, it's not all of them, but there were only the number of deals that in my view, didn't make sense over the last two years, only have increased dramatically compared to before. At the same time we have also arranged bridge loans and as you probably know, bridge lenders, they're extremely active. They have taken a major activity uptake over the last few years.

So there was a lot of competition in the bridge lending space, which meant that you were easily able to get 80% of cost for your C class property and sometimes in really tough locations and bridge loans make perfect sense when it's a true value-add deal. When it's not really a value add and it's mostly to do with soft rehab, but you feel that you get the agency loans when you need it and you go with a bridge loan, then I think it was much more problematic. So with that obviously we have seen quite a number of these bridge loans and deals that I believe particularly in the current environment will likely struggle. Because this bridge lenders they are not like the agencies and that came down now with the forbearance offer. Don't expect that from bridge lenders.

James: Yeah, I know. It's crazy. Now I feel so happy. I'm all in [04:41unclear] for the past one and a half year I've moved to [04:45unclear]. So are you saying on the bridge side there is no forbearance or what's happening on the bridge side with the Covid19 crisis right now?

Anton: Well as a general rule, bridge lenders have never been; some of them, the good bridge lenders they have always been willing to make adjustments when they see that a borrower is behind of the original plan, the ones that are really in there as a partner, they have been willing to cooperate and I think those lenders, and they are not really that many among all the bridge lenders that are out there, they will continue during these times to help a borrower to get through that time. But the majority of bridge lenders are not maybe staying, very often it's not their own money so they essentially have orders behind that that they buy into and they have kind of an obligation to fulfil that loan agreement to the letter and their investors demand that they fulfil their obligation as per the loan agreements.

So some of them are very aggressive just by nature and the others have to force from the investors they have the loan funded from do actually go into enforcement or you can call it loss mitigation as the nice term sounds with these loans very forcefully and very quickly. So now maybe the [06:25unclear] is a little bit of a shine of positive light here that they may say, look, yes, we could foreclose right now, but maybe it's not a good time to do the foreclosure now anyhow so let's just go through another couple of months and then see if we want to foreclose. But it's still in my view that just kicked the can down the road for a very brief period of time until they go all way in with their loss mitigation process.

James: But I think it only depends on what's happening in April, right? I mean, we have another 10 more days to go [07:03unclear]. But in general, I am already seeing even in my properties, they are residents who are declaring that they can't pay and this $3000 a door family units. I'm not sure, as you mentioned they're going to use it for rent or is it one time? I'm not sure for how many months is that? But the thing is the delinquency will be higher. So I believe the sponsors or syndicators who are halfway to value add and right now they are not done with the value add. So their value add might be struggling. If it goes below certain level, they're going to be stuck because it's going to be negative and as you mentioned, bridge lenders are or private people. They have the obligation to whoever gave them the money.

Anton: That's right. Yeah. So if you have already a property that is, let's say a third empty because you planned all your rehab, even if you do rehab, a lot of tenants that you now can attract and so you would have to attract them with very aggressive terms. If you find them and then you still know that at that level that you need to be based on your performance, which the lender wants to essentially base their decision on to release more rehab money for future doors. So then essentially that rehab money sits with the bridge lender, you have not performed as per the loan agreements. So if you want to go ahead further, you need to inject more equity.

James: Yeah. It's basically...

Anton: It's kind of a vicious cycle.

James: Yeah, it's a downward spiral because now I believe on the bridge sites, a lot of loan are based on LTV, loan to value and they're going to assume the values are going to drop. Because now your rent is going to drop [08:54unclear].

Anton: Yeah. It's a combination of loan to value, but as you go through the draw process, it's more driven by some amount of collections that you need to achieve and why and then the dead deals that you need to achieve with that. So it's a little bit of a different measuring sticks. But at the end of the day, it doesn't really matter what you use, it's maybe hard to achieve these points that you need to meet at some point in the timeline, then you property is not performing and so the reality is all these bridge loans they typically have very aggressive timelines to start with. So if you fall behind just by a couple of months, it can become very problematic. When it says after six months we should achieve this and you are essentially behind by two or three months and it continues to go in the same direction as you fall behind once you are at the enrolment then, and so long. So I would say the ones that have enough cash on their own that they can inject as needed, they will be fine. So the ones that suffer the most are the sponsors that just kind of get by with their own personal financials and they don't have the ability to inject a couple of hundred thousand as needed to get the ball rolling at the property.

James: Yeah. But it is tricky, right? Right now, I mean most sponsors can use this Covid19 and burn the equity and get out or they can keep on injecting and try to; because no one knows what's going to happen in the next six months. So it's a gamble. A lot of sponsors or syndicators need to take whoever on the bridge loan if they need to continue injecting more money or give it back to the bridge lender. But right now they have a valid reason. They can say the whole world is collapsing. I'm getting out now.

Anton: Yeah. If you're a syndicator. So you essentially can ask your investors, look, we are in really deep trouble. Do we want to inject more money? Generally I would say what typically should happen is that you do a capital call and if no one wants to do it, then you would have to lend yourself or you come up with the equity yourself. But in most instances it's not equity, but it's more a loan by the partners. But again, that all requires that the channel partners actually have the cash available if we lend to the property and a lot of them I've seen out there they don't have that capacity. So they'll be very interesting. Obviously that always assumes that things really get bad but we don't know yet. Maybe it's a miracle and all that stimulus money somehow entices these tenants to pay the rent.

Obviously I hope for you and for everyone else who operates properties that that's going to happen. But based on history I don't think that that is really going to happen. I think last night I do have Brian on and he was referring to the situation during the hurricanes in Houston and that's a perfect example I would say but you cannot compare with 2008, I think we all agree with that, but certainly what happened with Harvey and the flooding is probably much better comparison. Because everything had to be shut down. It was very localized, but it had to be shut down. As Brian correctly mentioned like the properties across the board suffered with delinquencies. So I would say we will likely see that we just do not know yet how big the percentages by asset class and by location.

I think it will depend a lot on locations obviously places like the Northeast, the greater New York City areas only suffer more. Same thing in Washington State, in Texas we would have to see how bad it is. Obviously we have also the additional element of oil and gas that has laid a massive negative role here for us in Texas, particularly for the property owners in Houston and we don't even have to talk about Midland and Odessa. But even in Houston it's only something that will in addition to Covid19 will have a negative impact on these properties. So it will be very fascinating to see how the performance looks like in the next a few months.

James: Yeah, I'll get a good indication in the next 10 days. But we are already getting our property managers to start probing with tenants and who's having trouble and all that. So we are compiling that, trying to understand and trying to work with them. Some kind of payment plans. That's what Texas apartment association or we call it TAA has given us guidance. But I think a lot of it depends on which sub market you are in. I mean, I know sometimes we use and it depends on and then people think, okay, my property's good but there's a lot more details to it. So whether you have a base manufacturing in that area or not, or whether you are CTO or whenever you invest it's a lot of its service industry or not a service industry is dead right now. Las Vegas, we used to be the best place to invest before two weeks ago, but up until now, the whole Las Vegas is closed down. I'm sure you people don't have money there because they are both more leisure business and gambling, hotel business. So basically there's no money, so within two weeks, things change now. So compared to places where there's a lot of manufacturing happening, this diversity of employment, you can still reduce the rent slightly and then you still get people who can pay because they are still being employed.

Anton: That's right. Yeah. Yeah. And if you're right next to an Amazon logistics center, you're probably good.

James: Correct. Correct. Correct. Absolutely. Absolutely. I am still getting rent right now, up to now for the past two, three days, I'm still getting rents for April, so that's a good sign but ours is all automated. It's all virtual. So probably they already set up, the ACH is all coming online, but we'll know more in the next 5 to 10 days, where it's very interesting times. But as I say, I mean last time, everybody was doing very well because the market was doing very well. Right now no sub market location becomes very important and the good thing is whoever has this agency load, I think they have many ways to weather this; either take the forbearance or just ride it through because your loan is there. But guys with short term loan, this is very, very tricky right now and you talked about the bridge loans and all that. Do you see the same issue with loans on credit union, the banks, small banks and all that? Do you think they still have issues similar to bridge loan guys?

Anton: No. I mean, what we have seen was actually so far has been very positive where particularly these small credit unions and banks have been very cooperative in finding solutions better rates for barons. And that seen before it started. Why it's almost like, okay, we understand, we are reaching a now a tough period of time and that you're willing to either modify it along to stretch it out to lower the right. So they feel very at least a good number of them that we have heard back from, from various borrowers have had a very good experience there.

James: Got it, got it. So are they being managed by a FHK well? The small banks and credit unions?

Anton: No, it's all balance sheet based. So these are really the easy loans to long straddle which unite the loans and then secured the heist then too, they are in the same boat as I would say all the other loans that are out there. I'm talking the ones that typically it's more the small loans somewhere in the $300,000 to maybe 2 million, 3 million range. So not really the large lumps, they are some exceptions there but they are loans that are not a significant burden on their balance sheets and it's much better for them to work out these existing lumps that they have on the balance sheet that are on the basis of still that we sound them just going through a hard time but they are willing to work it out with the borrowers. So that's really for the ones that are on balance sheets and the ones that really have had success, the borrowers or the ones that have already very good established relationships with these banks. So they know the owners or the branch manager and that brings us back to that relationship. Now is more important than ever. Whether you do a new loan now or whether you already have an existing loan, the way you will have managed your relationships, whether it's your tenants, whether it's your property management company, whether it's your lender. Now that all comes back to you but if you treated them badly, they will remember if he treated them well, they are more willing to work with you.

James: Yeah. And just for the audience, I mean, if you guys read my book, Passive Investing in Commercial Real Estate, I did very, very specifically mentioned that bridge loans may not be the best loan during the market peak. I'm not sure how many people read my book, but I did mention it there and that was written like two years ago. As I say, I stopped doing it just for my peace of mind and I want to make sure that I protect my investors' money as much as possible than doing these flips at the end of the cycle and giving them; taking large risk and trying to do a flip at the end. I rather go on a much better, safer bet with the better finance strategy. So when was this triggered to you? I know we are talking about; I think we are like two weeks into this crisis right now. But this happens so quickly. When did you feel like, okay, we are in trouble right now because you and I spoke and we had like 12 different reasons why the market can go bad. We have Brexit, I don't know if we have 12 things. I can't remember what the exact things. We had so many things we laid out what could go wrong, but I believe this is completely out of the norm. A medical health issue, a virus infection that's causing everybody to stay at home. I mean, is that right? When did you start to think that, oh my God, this could be the next recession?

Anton: Yeah, I mean, we have seen already pressure in the system for a while, where we have seen that already [21:06unclear] was an issue and in the banking system we have seen it already last fall and we have seen it in January and February. Just because of the all whole world view that we have reached a point where everyone is getting more concerned. But it was still possible with the fad essentially doing all these liquidity measures in the past, as soon as there was the slightest view that there might be a little bit of a slowdown. So they were able to essentially put as much liquidity into the market as they needed to. Now, I would say the current situation and where we are now on the lending side really has started just about two weeks ago. It's not that it really built up. Obviously everyone was watching what was happening in China and then slowly in Europe. And as it was building up in Europe, suddenly the clouds came out. But you may recall at that point the treasuries dropped significantly. The fed already dropped the rates once and that actually resulted in some of the best time to borrow and to refinance. So that we had maybe a period of two weeks, maybe three weeks. But I think it was just around two weeks. Then we were able to get essentially 10 year and 12 year loans at close to 3%.

I know someone that was not arranged through us, but I know someone who bought the rate that was below 3%, I think it was 2.94 or something like that and that lasted really just for a brief period of time until two weeks ago and everyone realized we have a problem and that problem really just was shown again in the market that there was no liquidity. And the fed will stay in coming out with their one and a half trillion injection where they said we are going to buy as much treasuries as we need and we are going to buy commercial papers and that still didn't do anything to the market. And then so the spreads started to do tighten on the agency loans at that point and then we were up into the mid two, three, 3% in Olin rates. And then this weekend and the lamps, as you may recall last weekend, that we, the fed announced that they are now buying also agency NBS for as much as it is needed.

So now obviously the hope was there that they would provide the contents to the market that was so much liquidity that they are willing to put into the market that no investor in these NBS should be concerned and that that would stabilize at least the multifamily market. Always leave a half note to say that they will buy all the commercial mortgage backed securities like hospitality or retail based NDS. But it still did not help when it came to the agency side. And I would say that was probably the biggest surprise so then that deal ended on Sunday and then on Monday the agency spreads actually went up by 75 to 100 basis points. So, even though they announced it that they will buy us many agency mortgage backed securities as the market needs to get the liquidity in the market, obviously they didn't believe it and spreads moved up even further and we all still in the same situation today.

So if you wanted to get into new agency loan today with the new Fannie loan, ten year Fannie loan, your rate will be at four and a half percent for a large Fannie loan that passed some form of, as we call it, permission-based, like with affordability elements to it. If there was no affordability element to it, you're probably closer to 5%; and that's coming up from just three weeks ago when we were at the low threes. That's all grim because the markets, there are no buyers out there, so no one is able to price right now. Obviously the hope that that will be sorted out and I think as market participants see how the impact on multifamily is going to be in April or May it will calm down because then they understand how big that impact is and are able to determine where the priority should be, but until then, it's essentially there is an old one that is buying. That puts Fannie and Freddie in a very difficult position because obviously they are obligated to buy that loan from a lender that originates that loan and then they need to securitize it and sell it. They do not want to keep it on their book.

Even if they keep it on their book, they still have half the credit risk transfer buyers that they are going to so they're good. Fannie score has always been that they will find and Freddie too that they find other risk participants and in order to find them, the loans need to be priced so that these risks, participants are willing to buy whatever share of risks that they are participating in and right now, no one is willing to take that risk.

James: I know it is crazy. I mean where we are looking at to do deals or to refinance should wait a few more weeks or because, I don't know, a few more weeks or months or what do you [27:43unclear]?

Anton: Yes. I think for refi is in my view is easier. Why? Because you are not really under immediate pressure unless you're really in a very difficult financial situation. But then it's probably the last thing to consider refinancing now. I would wait on the refinancing side until the market has calmed down. Why would you want to now deal with an interest rate that is four and a half to 5% when the 10 year treasury holders are under 1%. If the market calms down, there is a reasonable expectation that the spread narrows again and that you're back down. Maybe not to the three and a half, but maybe in 4% or four and a quarter. It is such an uncertain time, but in my view it just doesn't make sense to campaign and apply for refinancing.

Also the other point is since your future collections are still taken into consideration. If you apply today, a lender may underwrite your T12 up to March and everything looks great and as April and May and June come in and if the drop is pretty significant, that will impact your loan proceeds at that point too. So not only have you applied for a loan potentially at a very high rate but now with the loan proceeds are getting customers. There is so much uncertainty that in my view just doesn't make sense right at this point unless it's an absolute emergency to do so. When it comes to acquisitions I mean it needs to be a blazing deal in my view to even consider an acquisition. Because you have the same situation. How you negotiate with a seller? What clauses can you put into a contract in terms of occupancy and in terms of collections that a seller would feel comfortable with, but you are also comfortable with? Because that's really what you should do, in my view, if you go under a new contract, you should say that the occupants who need to be at certain level and the collections need to be at a certain level. And if not, then it's going to be through a re-trade.

If you don't have that, then I think the risk is just too high. And on the other side with the loan, it's essentially the same thing. So yes, you can apply for that loan, but unless you have these clauses in that PSA, you'll run the risk that you go in for a higher price. You should reprice the seller, but you cannot. But the loan amount is still being cut. So my recommendation is if you find that deal the first step is we need to get these clauses with the seller and the PSA. And if you have these clauses the way out, then you need to decide whether it's worthwhile to spend, let's say 20,000 in loan application fees and all that that you may lose. But that's ultimately the session that depends on that you feel that deal is so good. So I wouldn't say don't do it, but have these clauses in that PSA that allows you to re-trade with the seller that essentially then reflects the lower loan proceeds that you would likely get the occupancy and collection slow.

James: Got it. Got it. Got it. Yeah, and also, I think it's a very tricky situation. You want to raise money but I'm sure if you find a deal, which is screaming good and you fear an experienced operator, you probably can raise the money. But it's just so uncertain right now and I don't know whether you probably already know this, I heard Fannie Mae right now is asking everyone to put like 12 months principle and taxes and insurance into escrow, I guess, right?

Anton: Yes. Up to 18 month. It depends on the tier, if you're on tier two; it's up to 18 months. It's massive. At least I say it's cap that 10% of the loan amount, it's a massive amount. So obviously what does that mean? Now you need to raise more money. So you've likely also, I would say there haven't really lowered the LTV or increased that service, Coleridge recline that may come too but I would say it's more on a deal by deal basis anyhow now but let's assumes they are still in place that you still get can get these maximum leverage and the same service coverage. Just the fact that you have full these escrow that you need to build is a on top of the higher interest rate deal, which means that you need to get the lower price from the seller, there is just no way around.

James: Yeah. Yeah. I think Fannie is just saying we are actually out of the market, but if you can meet this, we maybe come back. Let me just basically break it down.

Anton: Yes, that's right. Yes. Yes. So actually that's always the conventional Freddie side and Fannie on the Freddie SPL side. I mean there has nothing being communicated officially, but there are solely some rumours that Freddie may stop any new origination for a certain period of time just to see their things all settled. So it will be again, the next few weeks will be extremely fascinating to watch how the market participants will from tenants to operators to lenders respond and right now we just do not know, but it's already extremely difficult even to get an agency loan into place that makes sense. But also would say it's really dangerous if someone still seek quotes from brokers and lenders that come in at the three and a half percent, because I guess they often threaten you or just to get the borrowers into the door knowing that it will be re-traded. That is another thing that borrowers really need to be acutely aware of. Do not trust any quote until you have it validated and validated, ask the broker, ask the lender multiple times, is that still valid?

Again, what we said just a couple of days ago is already outdated. It's important to be really on top of it and know what the current situation looks like. So maybe just to go quickly back to the forbearance discussion. Obviously it's a very attractive program. It's good news when you have agency loans, but I still would caution to use that forbearance and just would, because you can. Both Fannie and Freddie obviously they have implemented it. It came down from FHA, so it was not really Fannie and Freddie that wanted to do it, but it's essentially a government driven decision that it's necessary and I think it's the right thing to do and it's a very good backstop for all the operators. However, if you operate the property in a good fashion or take it if you have owned the property already for a year or two years you should have enough operating reserves to get through a month or two without having already to suffer so much with let's say a 20% or even 30% collection loss that we needed to go back to the lender and ask for forbearance.

Now could you do it? I would say you probably could, but generally speaking I would say you really should only go back when you see that you are getting close to the 1.01105 of that service cover and essentially make a case, look, it's all bad at my property. I have a collection drop for 40% or whatever it is, I need your help. But if let's say the drop is 10% or even 15%, even 20% and you go right now to Fannie and Freddie they may agree to it, but I think it will be a negative Mark with them down the road when you go for a new loan that they feel that you really haven't attempted to work out the solution on your own first before you lend to them. So I will just to be a little bit careful there in how quickly you want to pull that trigger.

James: Yeah. Yeah. And also forbearance is not free. You have to make sure you don't even meet the person for 90 days or whatever time that you're getting that forbearance.

Anton: Yeah. That's actually an interesting part. So with Fanny, it's actually not just the 90 days. If you have that forbearance, so you're allowed essentially you have that 90 days and then you can pay it back over a stretch off twelve months without any late fees and interest charge on it. Now, Fannie has communicated that you are not allowed to extend the 90 days of forbearance, which is obvious, but also that you're not allowed to be late until you bring the loan current, which includes that 12 month of repayment period if you choose to scratch it out for the 12 months. Now, Freddy so far only refer to the 90 days. I suspect that they just forgot to mention that by the way, you need to bring it current. So I have seen it on Facebook and in some other places where people say, well, Freddy is easier because you only need to have 90 days. The eviction is halted and then you can do it again.

I suspect Freddy will probably also come out and announce that you need to bring the loan current and only then are you allowed to run your evictions again. So in other words if you want to or if you need to go back to normal that your property allows to do action, the property manager, you essentially do pay after these 90 days, then if you do not and you want to stretch out for an another three month or all the way up to 12 months, you essentially have potentially 15 months at your property. They cannot do any of evictions at all.

James: How do they track whether you're doing evictions or not?

Anton: I don't know how they...

James: There's no way to?

Anton: Well always a way that they can, I'm pretty sure that they all have access to the local court system and validate that you have not filed any evictions.

James: Got it. Great. Yeah, but somehow it may trigger bad [39:49unclear] if you go and not follow the agreement [39:53unclear]?

Anton: That's a good question.

James: You can only say you violated our agreement, so...

Anton: Maybe it's not triggering the bad [40:02unclear] but don't go back to Fannie or Freddie if you didn't follow these rules to the dot.

James: Okay. Got it. Got it. So it's just so crazy. So I mean are you already seeing that a sponsors and syndicators are getting bridge letters for people on bridge? I mean it's still very early right now to say?

Anton: No, we haven't seen anything, what we have seen is that the number of bridge lenders walked away from their loans at the last moment, I mean there are several bridge loans that we know of. Lucky for us it was none that we were arranging, but I know of a number of a sponsors that had bridge loan commitments in place that are supposed to close within a week to two weeks and the bridge lender said sorry we cannot fund. So these are situations that have happened already. It's more that lenders essentially have pulled out, but we haven't heard anything yet on existing loans that are in place by then. It's really too early. We need to see how April comes in and I would say probably takes until May until things get really bad, if a property has a massive loss of collections.

James: Based on your experience, because you have gone through 2008 and you have been in the industry for a very long time. Let's say right now Covid19 is gone within one month, so everybody start going to work, what will the impact be as we move forward to the financial market? Because that's a big shock happened in the financial market. There are a lot of people, who didn't have income for one or two months, is there a downward spiral or are we a good back again, the sun shines and everything goes back to normal. Where do you see it? What would happen?

Anton: I wish I had a crystal ball, but I think the harder we land over the next few months. I think the quicker the upturn is going to be, but I still feel that they probably will take 18 months to two years until we are truly stabilized. I know some feel that everything will jump back up again right afterwards. I think the damage to consumer confidence will still be a lingering around for quite some time. Yes, there is that pent up demand for some items, but places will still suffer particularly the small businesses, some of them really are suffering tremendously and some of them are not able to come back and also I think a lot of the service employees, restaurants will be very slow in hiring. It also the reason to keep wages lower so it's the impact I think on the GDP or we probably go through obviously little jump up very quickly, again, form from a deep drop, but this year it definitely will be negative in my view but Goldman Sachs talks about roughly 3.8% for the year after a 25% drop.

I think Morgan Stanley in talks about a 30% drop, who knows? But I think when you look back on 2008, also when you look back into the savings and loan crisis I haven't been around for the actual savings and loan crisis in the past but I was when I first started out in New York in banking, I was involved with a lot of the workouts of loans that went through in the early nineties that were caused during the savings and loan crisis in the 80's. So it still took several years to get out of that. And as we have seen in 2008 it took a long time to get back running. Yes, it was a very different situation then, but here the shock, in my view, is so much faster and also it's at the global level, the global economy is suffering so much and a lot of the US companies are dependent on global rate too. So everything just will take much longer to recover. That's my personal view and again, I think it probably will take two years, 18 months to two years just to fully stabilize.

James: Got it. Got it. So yeah, that's a lot of discussion about, H=hey, this is going to be a sharp V. So we go down very quickly we're going to come back and everything is normal. Even the government saying our economy's going to be roaring back again and everybody go back, it's normal again, but what you're saying is in terms of recovery, a lot of us businesses, global trade, yes, impacted, maybe the hiring would be slowed down because the profit has been lost I guess. They want to be careful, I guess. But for example, let's say a restaurant has been closed down for two months, so the third month they open again, back to business again. So do you think that will be slower in terms of hiring as well? I mean, because they're back in business. I mean they probably have two months of rent that they didn't pay.

Anton: So it won't be very interesting to see how the human behavior is going to be at that point. So particularly the first six months to nine months. So you have seen that if all the governors at federal level to say now we all clear, obviously the virus is still lingering. So I think people will still practice a little bit more of that social distancing. Everyone is a little bit more careful. Personally I feel air travel will probably not pick up nearly as fast. Why? Because everyone feels why should I want to be in that airplane with other people next to me, I cannot really walk away. Also I think launch events will have a much harder time to come back. It's really hard to tell but I just feel based on all the downturns we have gone through. Very often people say, well it comes back fast and I think the initial recovery undoubtedly will be extremely strong. I think there is no doubt about that because we are essentially shut down to a large extent so it has to come back drastically. But really come back to the confidence level, where we were before I think it will take much longer.

James: So you're talking about consumer confidence?

Anton: Yes, yes and business confidence.

James: Got it, got it, got it. Yeah, I mean I read somewhere that consumer confidence is the most important indicator for any economy or any crash or any recovery. If that comes up, everything comes up; if that goes down, everything goes down no matter what you do that consumer confidence in terms of probably spending money and doing events and taking flights and so. So for example, let's look at class A, B and C renter's base plus B and C is a lot of service industry. People are on pay check, pay check. I don't know I'm just thinking this quickly, they may be okay. So about third month, fourth month we are back in business. I mean, unless they are wage is lower than say impacted them but if their wage is the same they probably have that wage coming back to them again. Maybe they are scared. Maybe they want to go to a lower rental amount. Maybe, I do not know. But I think still the impact to the flights and to the big companies it's going to be more because now this is a global trade. So could that be the A-class renters are more impacted compared to B and C in the long run? I'm not sure. I'm just thinking this quickly. It depends on how fast it comes back and what is the wage they are getting and how confident they are buying.

Anton: It think when you look at most people that live in any class properties they have really decent jobs and always leave some of these jobs are now being lost or at least they are in a furlough, so they are not getting paid right now. So they can collect their unemployment; and I would say if they cannot afford it then the A class, they may move down to the B class. So that's where I would see people that struggle in these shops do not get back that I need to move down into B. I just do not see that someone who is in an A class will be willing to go into a C class property. So I would say they would probably rather move somewhere else than into a C class property. I feel kind of the same for the people that live in B class properties that moving into a C class property is for them in my view, is also kind of the last resort. Now the big question is how the residential market will evolve. We haven't even talked about that, will there be a massive dropping in prices in the short term, because no one now in some markets can even see properties.

James: Are they getting forbearance as well, the single family houses?

Anton: I think when you are a residential and not active at all in in the single family space but my understanding is if it's your own primary residence, you get forbearance you can apply for forbearance too but not for less than property. But I think I'm more wondering how it would work for someone who is in the B class property would they have an opportunity potentially then buy a property and if still not able to buy your single family home. Whether they will be able to rent a single family home instead. I just do not feel, and again, some people say that doing the last downturn, a lot of people move down from A to B and from B to C, it's hard to track. I do know that really believe anyone has been able to properly track that, but based, at least on what I have seen during that time, there was not really much movement. There was a lot of moves from A to B because of that pricing point, but it's still a decent quality property. When you are used to an A class property, but they have not really seen much coming from a B class to a C class. But again, I'm not an expert in this light there may be economist out there that have studied this.

I just feel that these movements are really happening. Now when it comes to the service employees I agree with you. Once they start back up, they need to employees right away. There is no doubt about that and that thing that's really in my view is kind of that positive flight for C class properties at the end of the tunnel. Once the shutdown is over and restaurants are able to operate again and stores are able to operate and all the other service type related business including hotels they have a job again.

James: Provided they don't have a negative wage growth, I guess which could happen as well. Businesses may be covering this, but this is, I mean, within two miles, if I'm an operator, if I'm a restaurant, I will hire back the same people. I mean I have two options, either pay them the same amount before they leave or I pay them slightly lower. I just don't hire, that's the option [53:36unclear].

Anton: So there the question again is how many restaurants are able to reopen. So we just don't know if it's just for another month or two month, I would say the majority are able to cover the loss and go back to normal afterwards or go back to business. But a lot of them I think will without some form of a bailout, wherever that comes from will probably not be able to reopen. So that's fair. That question comes in. It's there all sort of pressure, at least in the short term on wages that whoever is in the service business now does not have as much choices as they've had pre-Covid19.

James: What about the construction loan? What's happening in that space? I mean people with construction that is ongoing right now. From what I understand, the construction loan is also a loan where if the value of the building that you're constructing drops, they may ask whoever the developer is to put in more money right now, could they be in trouble as well?

Anton: Yeah. They haven't really seen that yet. It probably depends on what phase you're in, in that construction loan. If you're in the early phases or just started the earth movements or started with going vertical and you're still in year last to start your lease up, I don't really see that that impacts it that much. If you're already doing your lease up period span, I think you need to go back to your lender and find out how you can extend that loan. You'll see, usually you may have to do three years, two and a half to three years of the construction before you go into perm and you may not need another six month to complete that lease up, but if you're early or right in doing the construction I would say it shouldn't be such a big issue because when you consider the leverage for most of these loans is relatively low anyhow. Value at your 60, 65 of cost, maybe 60, 65 to value if it's a more an established sponsor. So the leverage is not really in most senses, it's not that high to start with. So I don't think that these lenders will be holding back. I'm more concerned about, again, the harm on the construction lenders that are out there too.

James: [56:31unclear]

Anton: Yes. So where you are in your eight, nine, 10% construction loans, so these players I'm more concerned about.

James: Is there a chance for the construction loan guys to say, okay, I'm not funding anymore because they go on draws based on the progress of construction. Is there a chance they said, okay, we are done. We are no more funding you; we are out, even though they have signed the commitment because they probably don't have the money. I mean it's all come from some pool of money?

Anton: Yeah. I would say you have that risk. The law to the player I would say the less likely it is. I would say if you have a strong bank, a bank will continue to do lends, if you have a life insurance company that has provided that, they're likely will continue to lend and have the access to the funds but if it's a private lender then that would be probably more concerned that they are able to continue to fund the draws.

James: Yeah. That's interesting because I think in 2008 that's what happened. A lot of construction projects. Everything stopped because everybody ran out of money.

Anton: I mean, it could happen, we do not know but at least so far we haven't seen it where they have come to a complete halt. And again, the private space I do not know, but suddenly the institutional space hasn't come to complete halt yet.

James: Got it. So the other thing that I want to just give some education to the listeners is how a loan can be made from non-recourse to recourse. And I know since we talk offline in the past crash or you had that one of the function that you are familiar with or you are doing is like lenders are trying to figure out how to make deals from non-recourse to recourse. What are the potential ways that that can happen? I mean, we know we talk about this [58:48unclear] agency loans.

Anton: So obviously I think most of your lessons that for now have that [58:54unclear] which essentially means that if you cause fraud or gross negligence, then that loan can turn into a personal recourse and one of the examples for this kind of obvious when it comes to the property operations, when it comes to gross negligence can be that you are not maintaining the insurance. That can be, even if you forget about it, that's gross negligence. So even if it's unintentional, it's still gross negligence. If you do not verify that the insurance meets all the agency requirements, particularly when you might change the insurance from one to the other and the somehow you feel, oh, I get a better rate and then suddenly you get that better premium, but you may not meet all the requirements of the loan insurance requirements. So these are kind of the obvious things like this now will all be [1:00:10unclear].

James: But usually the agency have the specialized insurance department to verify all insurance requirements met whenever we change the insurance provider?

Anton: Well, yes they should. It's essentially the service server is supposed to track this but it's still up to you to verify that you would actually need these requirements. You cannot say well the service from that lender didn't save me anything so I'm fine, that's not the way it works. It's really important that with an insurance change, always leave if you'll get the approval from the insurance person that the lender or whoever they are hiring and gives the green light and it's a different story, but that's not as you are in a loan, that's not necessarily happening, I'm not talking about when you apply for the loan, but more down the road when you make changes to that insurance.

James: Yeah. Yeah. I mean, my experience has been like they are very, I mean, even I've made changes to my insurance and the insurance department is so particularly they go into every line item, they make sure we are reading it. So there could be some of those lenders, which is not doing a detailed job, I guess.

Anton: Yes, that's why and it really varies from lender to lender how detailed they are now. What a lot of people do not realize and that's something that we have to discussed offline is that your representation and your order, guarantor representations when you apply for that loan are also part of that bad boy car found. So what that means is that if you or any of your guarantors make a representation when you apply for that loan, that can ruled as inaccurate. And I'm not talking about, oh, I put in a value for a property that I felt was a million and it's only 900,000 or 800,000. I'm talking about a gross misrepresentation of your financial strength, of your experience but particularly your financial strength that can be triggering that bad boy carve out and we have seen that in the past.

You need to understand why particularly when it comes to Fannie, what a lot of people do not know is that each Fannie lender has a loss share agreement with Fannie. So they take a loss. If Fannie takes a loss, they take a loss too. And though they have that first loss arrangement. So they have an interest of loss mitigation. And obviously if the property somehow will not pay back the loan plus all the accrued charges they need to look through all the solutions. Then one of the items is that they will have a in house or external lawyers look at all the representations that were made pre-application to approve that loan or aside from all the documentation that was submitted throughout the loan being in place.

So it's very important that you trust your partners that they are or not lying. We have seen it a lot, a lot of people claim that they are accredited investors and they are participating in deals that are a 506 deals and because we don't need to verify that you are an accredited investor with these 506 deal offerings but then they suddenly then pop up and do their own or attempt to do their own syndication and then you suddenly realize, well you are not really an accredited investor.

James: But that's not really a loan thing, that's more of a system guideline?

Anton: No, that's not a loan thing. I completely agree. But that is just an example of another thing to read, most people they are so desperate to get into deals, particularly on the GP side, so many times they are stretching the truth or into deals that they are sometimes stretching the truth of what the true situation. So it's really important to ensure that all the partners and guarantors that you have on board, that they are not grossly misrepresenting their situations. Whether it's experience, financial strength, that everything on the REO schedule is really true. No one is really verifying this.

James: Oh yeah, no one read that in detail.

Anton: No one is looking at tax returns. So there is solely a risk that someone can inflate their balance sheet and their experience tremendously without being verified.

James: Got it. Alright Anton, why don't you let our audience and listeners know how to get hold of you?

Anton: Yeah, sure. So my email address is [email protected] and that's probably the easiest to reach May also then when you're on Facebook or LinkedIn, just type in my name and then I will pop up. It's a pretty unusual name, so you should find me there and I would say that's the easiest to reach me.

James: Awesome. Thanks for coming on the show. I think this is a really, really timely show in terms of discussing the loans and all that. So sometimes when nothing happens, when we talk about how risky bridge loans are, nobody really cares. No passive way to look at what a sponsor is taking loan; they just look at the numbers and did that. But keep in mind, I did write it in my book like two years ago. So if you have read it, I mean, there's a lot of resources out there as well. You would have been warned about it, there is nothing wrong is just market risk, sometimes you make a lot of money doing bridge loans as well, but it just depends on the market cycle and the sponsor and the syndicator, how strong they are as well. I mean, there's a lot of sponsor who's going to write this bridge lending uncertainty as well, fine. But just for anybody to be aware of, I guess. Thank you very much Anton.

Anton: Yep. Thank you James.

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James: Hi audience and listeners This is James Kandasamy from "Achieve Wealth Through Value Add Real Estate Investing Podcast". Today we have Jim Maffuccio, who is co-founder and CIO of Aspen funds. Jim specializes in notes buying, which is a new topic for me. And I think for a lot of you, who has been following us on the commercial real estate aspect of the real estate business. Hey, Jim, welcome to the show. Jim: Hi, James, great to be here with you. James: Good to have you here too. So, tell me about, let me make sure I understand notes, right. So, notes are basically that on real estate, right? It's not really the equity side of it, but the bad side of it, right. So, take it from there, tell us, tell our audience a little bit more about how does notes. like from people like you play a function in a real estate business? Jim: Yeah, well, you know, almost all real estate transactions, and holdings involve debt. You know, a small percentage of properties are owned free and clear without debt, but most properties do have debt. Our focus, our business focus is on residential debt. So this would be, quite simply just the mortgage that people have on their homes, somebody owns that mortgage, somebody has that receivable. Those payments are being made to somebody, they're usually paid through a loan servicer. And the investor behind that servicer who actually owns the paper most people never know the names of but we are one of those entities that actually own the note. So, you know, there's two parties, well, basically two basic parties to a loan, there's the lender and there's the borrower or simply the lender, and we are not loan originators, we did not originate this paper, but we actually purchase, we purchased the banks position, if you will, the lenders position and you know, usually we have two different aspects to our business model. One is we buy non-performing loans. So, this is where a homeowner stops making payments on their mortgage. And the institution who owns that loan and the servicer who services that loan, throw their hands up and say, we don't know what to do it this. It's not our business model. We don't want to foreclose and take properties necessarily. So, this is real general, obviously, they do foreclose. So, we come behind and we purchase this loan, we purchased the put it so. So, if the loan balance is $100,000, let's say it's a first lien, we can purchase that loan for maybe $50,000, but the borrower still owes 100. So, now we go to work trying to get that borrower to resume making payments or we modify the loan to make an affordable payment for the borrower. And if the borrower can't or won't work with us, then we do exercise our rights against the collateral and we foreclose and that gives us the right to take the property, because the borrower hasn't met their obligation, that's really simple terms. So yeah, I'll just let you lead me with questions. James: I have a lot of questions based on how-- Jim: I bet. James: So, let me understand. So, because I think a lot of people do not know this side of the business, it's very critical that I make sure everybody understand. So, if I buy a rental property, there's a lot of hard money lenders. And then I mean, this has nothing to do with hard money lenders, but I think this is the long term loan that Fannie and Freddie give to a servicer, right? And then, I mean you don't buy that kind of loans, I guess right? So, you don't get any more, I think you look for a bank, because, the bank right now, I think they want to clear their book because some of the loan is not really performing, they do not want to have in their books. Now, if they fit, they call Aspen funds and let them buy this right? And they sell it to you at deep discount, I guess. Jim: That's right, we don't buy real hard money loans in general, we have done some of that, we've done some fix and flip lending on our income side of our business because we also have passive investment funds where we purchase re performing loans, where these are loans now that we're in trouble at one point in time in either ourselves or somebody else has done a workout with the borrower. Now the borrower is back on track making some sort of payments on that loan. And we actually have income funds where we buy those income streams and then pass the coupon payment off to our investors and we make a management fee for managing that work. We're consistently growing that portfolio, tomorrow it's the less active, it's the more passive model in our business but back on the other side, yeah, we're buying non-performing loans and we are buying mostly institution originated paper. So, as you said, James, it would be, you know, Wells Fargo, Citibank, Nation star, these would be the names of servicers, but it's this kind of paper off when our particular specialty and this is maybe going a little bit deeper into this than you care to, but we actually have been specialized in buying second mortgages or junior liens. So, this would be where somebody maybe bought a house and they took out a first maybe they bought a $200,000 house and took out a first for 80% of that 160,000 and then later they refight or they took out a second, or they got a purchase money home equity line, and maybe that balance is $40,000 on that loan. And those loans when they stop performing the institutions, they charge those off after like 90 days, they're not treated the same as a 30-year mortgage would be by the institution. So, it creates a tremendous opportunity for us because we purchase those on a you know, literally anywhere from two percent of what's owed to 60% of what's owed, depending on how much equity there is above the senior mortgage. And depending on whether the senior mortgage is still performing, the vast majority of the loans, the second mortgages we buy, will be behind a first mortgage that is still performing. So, the homeowner is making their payments on the big loan, the senior loan, but they stopped making payments on the second loan. So, we pick these up at a deep discount, and then we go to work with the borrowers and try to get them into an affordable pay plan, and back to having some equity in their property. We've been very successful at keeping people in their homes and creating an affordable payment structure and still making a good profit for investors doing that. James: Got it. So, that's really good on the junior, on the second loan, right? But I want to come back to the first loan or the fundamental concepts first, right. So, the economy is doing very well, right. If someone is not servicing their loan, right now, right, why not the bank forecloses on it and sell off the property, rather than selling it to you at a deep discount? Jim: Yeah. And so, as far as the first liens go, as you know, right now, foreclosure rates are very low historically. I mean, we went through the end of the 2008 mortgage crisis, if you want to pin a date to it, the subsequent three to four years, there was a glut of these non performing mortgages, the institutions basically had to do whatever they could do to get these assets off of their books. By the time they took properties all the way through to foreclosure, the regulators are breathing down their back, their balance sheets look terrible. So, they started moving upstream and selling the non-performing loans simply to get them off their books. And of course, they got all the bailout funds and all of that that we know about and have read about. So, there was a period of time where there was a large inventory of these non performing senior liens, now things have settled down from that. So there is still a good amount of those that trade in the secondary market. There has always been I mean; this business model has been going on forever because I think I heard a number the other day that historically 4% of all residential mortgages are in default at all times. And that number might have spiked up to seven or 8% during the thick of the mortgage crisis. But I mean, that means that you know, 92 to 93% of all mortgages, were still being paid by the borrower. So, you know, a doubling of the defaults is, it was a big number and it created an opportunity for a lot of people to jump into the space and like ourselves, only we just decided to jump into the junior liens because there was less people, you know, interested in that. It sounded risky, it sounded like why would you want to do that, until we started looking at what the numbers look like and the leverage that we get. So, there's not as many senior liens available now, the pricing has gotten to where it's pretty competitive, you have to really know what you're doing to buy senior liens and make it work for you because, you have to beat the clock so to speak, because the margins are a little bit stronger.

James: Okay, so, to recap, there's not much, the normal loan is available nowadays, because economy's doing well, the percentage of it is too low and the banks are not really, I mean, they have many ways to get rid of the load rather than just selling it to you, but you have been focusing on the second lien where people sometimes take double loan, I guess, right on top of one loan, they take another loan, and-- Jim: That's right. James: And, that's what you call a junior loan? Jim: Junior lien, a second mortgage, a home equity line, there's all kinds of names, but, yeah. James: Where do they sell these? I mean, how do you know about it? Jim: Well, you know, really, I started going to conferences within this industry and you know, the mortgage industry, there's always been large players in it, but it's kind of a niche for small entrepreneurial investors like ourselves. We're not a pretty entrepreneurial firm, I've been in real estate related in the industry for self employed full time for 33 years now. So, I just go to a lot of conferences, I like to learn, so, I like to learn real time. So, I'd listen to podcasts, watch webinars and go to conferences. And I heard a gentleman talking about the junior liens at a conference, and he was in a little breakout room and there was only about a dozen people in there, because everybody else was in the main hall listening to how to buy senior liens, how to buy the first you know, and I heard him talking about secondly, and immediately I got it, the light came on for me and I said this is where I want to enter the space, because I understood it and I understood the leverage and I understood that the price points and so, I jumped into this niche and where we buy them is from other people that are in our world, I mean that have relationships with banks. We've bought some stuff direct from banks, we buy most of our paper through read traders, larger hedge funds, that don't know what to do with the seconds, they don't want them necessarily. So, truly in this space, one man's trash is another man's treasure, that adage holds true. We've just developed a core competency and a skill set to be able to buy, to know what to pay for these second liens and know how to do these workouts with borrowers. And it's been very lucrative for us, and it's been very helpful to the homeowners as well. James: Got it. So okay, so interesting. So second lien the problem is they can't really foreclose on the deal, right, because now they are not the first in line, right. Jim: Yeah, and actually that's misunderstanding right there, is exactly that part of what created the opportunity for us, because for some reason people are under the impression that you cannot foreclose from second position. And of course, you can, you know, any lender, any real estate lender, the collateral, the security for your loan, what's motivating you to make the loan is not only the borrower's ability to pay, but in the likely in the event that the borrower cannot pay, you have to be able to exercise your rights against the collateral. And so of course, a junior lien, it's a lien, it's a lien on the property and we have all of the rights of any other lien holder, of a first lien holder. It's a little bit different in that, if I foreclose from second position, typically there's some exceptions to this. But typically, if nobody comes in bids at the courthouse steps for my second lien position, I end up with the property, I get title to the property, but the first lien is still in place. So in a sense, I've just bought the property subject to the first. James: Got it. Jim: You, follow me. So, the first doesn't go away if I foreclose. Now, in some states, the first will then, you know, they'll trigger their acceleration clause and say you now owe us, you have to pay off the first as well. But in most cases, if we foreclose from second, we end up owning the property with the first mortgage still in place. Now, I want to say this upfront, our goal, our business model is not to foreclose on properties, we've actually had to do that less than 2% of the time over thousands of transactions. And there's even been cases where we've foreclosed and we've turned around, and we've unwind the foreclosure and recast a new agreement with the borrower to keep them in the property. So it's not our game, but we absolutely have the right to foreclose from second lien position. James: So on the second lien, you're basically the game that you get when you take over the property, you basically wipe out the equity from the original owner of the lien, of the of the loan, I guess, right and then you get 20, 30% off of the property, right? Jim: Well, it's kind of I mean, whoever, let's say whoever held the paper before us, whoever, let's say it's a just for simple numbers, let's say it's $100,000 loan, and if we buy that loan for, you know, $25,000 we still own an IOU from the borrower for $100,000. The borrower still owes us $100,000, the bank or the originator or whoever we bought that loan from, they're out of the picture. They're gone. they assign their rights to us. They do an assignment of mortgage to us, they endorsed the note, promissory note over to us and now we are the new lender per se. Okay, so the borrower's equity is what is at stake and so, if the borrower has equity above our loan or above what we're willing to settle the loan for, then we have, you know, then we have a good position to go to the borrower and say, hey, let's work something out here, we really don't want your property. And they sometimes will say, yeah, but I don't have any equity in my property. Now, we really would like to stay, but we can't afford it. Well, what they don't know until we get talking to them is, look, we have a whole lot of room to help you to work with you. It's $100,000 loan, but if we can recast that loan, this is just an example, if we can modify that loan and get them on a payment program. And over time, say we forgive some of the principal that they owe to where maybe now they only owe $70,000. Well, that 30,000 goes right back into their equity or towards their equity in the property. Now they're incentivized to make the payments on the second, so we look at their finances. We have a pretty sophisticated underwriting team and tools that we use and we have a lot of people that have banking and loan origination experience. So, we're underwriting these people, we're not throwing usurious high interest rate loans out, our goal is for them to be able to stick, you know, they get back on track and they don't have any more speed bumps, and they can pay their mortgage at a reduced rate. And so, we might take that loan that we, you know, if the payable is $100,000, we paid 25 for it, we might get them performing, and now we've created a loan that's to us, it's worth, we could turn around and sell that loan to another investor that wants to cash flow for 50 or $60,000. So- James: Got it. Jim: So, we can double and triple our money by creating a performing asset out of the non-performing asset that we have. James: So, your value add in this case is you're basically buying it at a deep discount, right let's say 100,000 loan, you're buying at 25,000, now you're going back to the house owner and telling you own hundred thousand, we want to get you back on track, we're going to forgive you for 30,000. Now you own 70,000, right and get them to start paying back the mortgage. And you probably will sell that 70,000 mortgage to another lender, right? Who might be, 50,000, so you basically level 25,000 to 50,000, I guess. Jim: Yeah, so we have various, we have like seven different exit strategies for these non-performing loans that we buy. And I would say 60 plus percent of the time, we end up with either a fast settlement from the borrowers at a discount, or we modify the terms of their loan and we create paper that's now worth, our average over, you know, eight years now doing this, and thousands of loans. we're averaging and this is including the good, the bad and the ugly, the ones that become worthless for various reasons, but we're averaging in about mid twos, like two and a half times what we pay for the loan. So, if we buy a million dollars' worth of loans, we're going to generate two and a half million dollars in revenue, it's a pretty nice multiplier. Now there's a lot of work, there's a lot of regulatory issues we have to deal with there, and there's a lot of debt forgiveness that happens in that process. But again, you hit it James, because we're buying this paper at such a deep discount, we have a lot of tools where we can make it work for both parties, both our investors and our borrowers. And that's what makes us feel good at the end of the day, we're serving, we're really serving two different groups of people. James: So, what's the reason the origin of the first lien, the original second lien lender did not give that discount to the homeowner? Jim: Yeah, you know, in some cases, they actually do. It's pretty rare, but at the time when a lot of these loans were going into default, these institutions they just had trouble on their hands in every front, and again, they're their bookkeeping, if you will, their accounting these Junior liens is different than on a typical senior lien. So, they have to charge this paper off. So, they take the hit on their books, and it really becomes a very low priority for them to do anything with these loans at that point in time, but I think the biggest, the main answer for you there is they just had so much trouble on their hands, it was a low priority. James: Got it. Yeah, that makes perfect sense, I mean, this bank makes billions of dollars, sometimes, you know, second lien is just a small department in their whole balance sheet, right? They don't want to deal with it okay, we lose 75%. Jim: It's actually treated differently from a compliance standpoint. James: Okay, got it. Jim: It's not it's not the same as a 30-year mortgage. James: Okay, so maybe they have more flexibility in terms of compliance to get rid of it and just get rid of it. Jim: Yeah. James: And companies like you take advantage of that inefficiency of the bank. And you know, basically make a business out of it, which is really interesting. I mean, this is complicated stuff, I'm sure it's not simple. Jim: No, it's not, there's a lot of trips and traps, and there's a lot of regulations and we're very compliance minded. We're licensed pretty much in every state now to do what we do. We've, you know, pursued licensing from the beginning because it's the right way to do it. And we're very consumer minded, and we try to keep up with all the credit laws and regulations because it's, you know, it's important to do so. James: So, let's say someone want to do like what you're doing right now. What kind of license and experience do they need to get started? Jim: Wow, well, gosh. James: I'm not trying to create a competition for you, but--

Jim: No, I'm not worried, I'm not worried about that. James: The banks as billions of dollars to dispose. Jim: Yeah, I would say that the best way for a person to get started, honestly, is to go to start attending conferences, there's some education that you can find online. Our company is not, we're not an education company, we're actually doing this business. I mean, if people want to reach out through our website, we can certainly point people to some resources. As far as licensing goes, everybody's got to decide their own, where they're going to stick the fork into that one, because it really depends, every state is different. It's there's, some similarities, obviously, but, there's two or three different levels of licensing and then you've got 50 states. So, we, you know, we spent a lot of money pursuing licenses in the states that we thought we would end up buying the most loans in. But in our business, the pickier you are as far as what states you buy loans, and the more you're going to pay the less product you're going to find. And you're not, it's not going to be a super scalable operation, we are a growing company right now and we're scaling up our operations. We just decided we'll buy in every state, and what does it get the licensing needed to be able to do business. So, it's a pretty sophisticated operation, it's not to say a small investor can't get involved in it. But most people that invest in this space that we encounter are actually people that are interested in investing in our funds. And we you know, we have our funds are really for only for accredited investors. And, you know, that's a whole other topic, but it's a 100% passive investment for our investors that invest in our funds, invest in our business, our company operates the business models, and they just basically are passive investors, but for somebody to get in and become a note buyer or note seller. The best way to do that, honestly, is to start going to the industry conferences, listening to the presentations, talking to the people out in the sponsor hall and meeting people, that's how I started this business. Some of the people that work for us I met at some of the very first conferences I ever attended. And the people we buy notes from and the people we sell notes to, almost 100% have come through relationships built by getting out there and attending conferences and networking with people. James: Yeah, it seems to be very niche because, you know, there's no gurus teaching this right. I mean, otherwise, everybody's-- Jim: Super niche, there are a couple gurus teaching it. And again, I mean, offline, I can be glad to help some people and point them in directions, some people that I trust, and I know in the industry that actually do training, so it is available. Like anything, there's some fluff out there, but I find most people that are in the notes world are actually pretty down to earth good people. They're not trying to, you know, it's a small enough space that if people do something really stupid, the word gets around and you know, which it should, it should, the word should get around. James: Yeah, so I think, I don't know. I mean, correct me if I'm wrong. So, compared to like, buying Real Estate, versus buying notes, notes are a very transactional business, it involves a lot of coordination, right? So, because you think you're going to move like in a system by system, I have to do this first, I have to do this first, and there's a lot of complication in terms of compliance and all that. So, somebody who enjoys that kind of work. Now I'm going buying a deal and rehabbing it and seeing it looks pretty right now, or drive around that real estate and show everybody this is the property that I have. Jim: Yeah. James: Your job is really, you know, this is not being seen anywhere, but it's all about transaction basis. And that's how you make the money. Jim: Yeah, and the upside of it is, you know, you can manage a lot of real estate value. These are the mortgages, you know, across the country, it's very scalable because you know, we don't get involved in the tenant's toilets and trash, unless we have to foreclose which is very rare. And there's an infrastructure out there for our business, there's servicers, there's vendors, there's attorneys in every state that we use. There's document vendors that that check all of the collateral documents, the notes, the mortgages, all the assignments for us. So you can scale and you know, the one thing though, that real estate has that the note industry doesn't, is if you buy real estate, you might have more work on your hands, you might to get your hands a little bit dirty, but you actually own an asset that's not going to go away in 30 years. So, the paper business is really clean, and we love getting monthly checks or ach deposits into our account from thousands of borrowers, it's a wonderful thing, we don't have to go check on the properties etc. But at the end of the day, we have to keep buying these notes and creating new cash flows. Because if you own a, you know, 100-unit apartment building, that asset is going to be sitting there 30 years from now. James: Like forever. Jim: Yeah. So, I really think just in general terms, a good strategy for an individual investor is to do both, have a hand in both. But we do invest in real estate, you know, personally, and we'll probably eventually start some funds for purchasing key types of real estate. But we started our company in 2012, based on doing mortgages, and it's been so lucrative for us, and we've built a great team and some great models and systems. And right now it's like 100% focus on scaling this business because it's just going so well for us.

James: Yeah. And I think in the note business, I mean, you make the money in the crime section, but is there any tax benefit to it, I mean, that anybody can realize like for you also, for passive investors who invest in the funds like what you guys offer? Jim: Yeah, the tax aspects of it, I'll just be honest, it's not really my end of the business. From what people within my company say, yeah, we have some pretty advantageous tax treatment, but that's, again, there's a lot of gray area in this business and that's something that, I mean I can't say, it's something like the opportunity zones or it's you know, you have depreciation like you do with rental real estate, there's nothing that stands out to me that's worth going on the air and saying that oh, tremendous tax advantages because of x, y and z. That's out of my skill set and I wouldn't want to say something that would get somebody in trouble down the road. James: Okay, that makes sense. So, tell us about how passive investors can get involved into your notes, is it like you have a big fund where you go and buy you know, notes you know, in a bulk but they invest into this fund and they get certain percentage and how does that work? Jim: Right. So, I'll just give you in a nutshell because we have two different business models and we build funds around these models. But, where we started and where the largest frankly is in our workout funds, are our non-performing loan funds where we buy, we go out and buy, you know, pools and pools of these non performing mortgages. And then we turn we board them all with a national servicer, first of all, and then we bore them with our workout team, that gets busy doing our exit strategies with the borrowers. What we do is we raise, again, for accredited investors, we raise serial closed end funds. So, we'll go out and we'll raise say $10 million, and over the course of maybe one to six months, and then as soon as we start as that capital starts coming in, we're spending it, we're always buying loans. We're always working out loans, and we're always exiting loans, but we'll put together like say fund number one, and we're actually working on funds number four and five right now. So, the investment capital comes in, we're bidding and buying loans, and we're working out those loans and then as those loans are exited, we're directing the revenues back to our investors, and until they get their capital back and then we have a profit split that we do with them. So, that's our more speculative growth oriented strategy. It's not a liquid strategy. So, person invests half a million dollars, we tell them, you know, don't count on seeing any of your money, at least for the first 18 months, because it takes a while to get these things worked out and get, we'll see some early exits, you know, six months, 12 months, but by the time we hit three years, most everything has been wound down, we've executed our exit strategies, the investors have gotten their money back, plus their profit. And, you know, we target and we've performed this, you know, anywhere from the high teens to the low 20s, mid 20s. In terms of a real IRR, that's a time loaded rate of return. So, it's a very lucrative end of the business for people that understand it. And for people that don't need, you know, the cash flow or they don't mind a three-year lockup on their money, or other side of our businesses, the Income Fund, and this is where we're buying loans that are already performing. So, we're buying cash flows, we have a sophisticated underwriting model. So, an investor puts their money into our fund, and we basically start paying, and we pay a preferred return of eight and a half percent. And, you know, this is just mailbox money. This is for somebody that wants to, you know, wants cash flow on a regular basis. And, you know, so our investors actually own, our funds actually own the loans. We do not own them, we only get paid if we're successful, and we get paid for managing the fund. So, there's no you know, there's no fluff in the middle, and it's been great. We're building both sides of the business and having really good success right now. James: Got it. How does your business model changes if there's a recession? Jim: Yeah, I love this question. I feel like we're so well positioned for this, because I'll just compare it to say, I'm going to just focus right now on the income side of our business, because that would be where you would think that recession would be the most immediately effective. On the non performing side, we're already buying these loans at such deep discount. So, we have all kinds of, we can be patient with those, there's all kinds of ways we can exit those successfully. But on the income side, first of all, we price into our model, a pretty substantial default rate, like 10% of our loans, we price them as if 10% of them are going to go into default. We have never seen anywhere near that in our track record, but you know, we have that built into our pricing. One thing that will tell you-- James: What about in 2008? Jim: What was that? James: What about in 2008? Jim: So Well, we only started the business in 2012. So-- James: Okay, got it. Yeah. Jim: So what if another big event like that happens? So, our Income Fund, our loans are spread across the country geographically. Our typical loan is a you know, $120,000, $150,000, home in the Midwest, these are workforce houses, these are bread and butter houses, the only way these loans are going to go into default, is if there's a sustained loss of income by these borrowers, these aren't speculated bubble markets. We do have some loans on the west coast and on the East Coast, we're covered with a pretty substantial amount of equity because of when we bought most of those loans. Frankly, we are balancing our portfolio, we're looking at our portfolio all the time and divesting ourselves and what we perceive as a higher risk markets, but you got to keep, this is a really important point I'm about to make here. You got to keep this in mind, If I'm lending money to a fix and flipper. And they, you know, they see that they're, it's taking them longer to finish the work. The expenses of the of the rehab are increasing, and the resale values are coming down. At some point in time they look at that project and go, I can't make any money on this deal anymore. If you're lucky as the lender, they hand you back to keys and you got to have finished rehab project in a remote location, that, you got to go take care of okay. You're not a passive investor in that scenario. In our situation, again, your investment is spread across hundreds and hundreds of bread and butter homes where people with real jobs and real kids that go to the real school down the street, they live in these homes. They're not looking at the metrics, they're not looking at Zillow every morning and saying, hey, look at this honey, we don't have near as much equity in our property, we should hand the keys back to our lender. This is a this is home sweet home. So, even if they end up in a negative equity situation, there's what we like to call in our business, emotional equity. You know, people don't want to get foreclosed on, they don't want to file bankruptcy, you know, they want to keep paying their mortgage, it's their home and they're on their way to owning it free and clear at some point on a typical 30-year mortgage. So, they're not looking at life the same way as a rehabber or a business to business lending relationship would look at life. So to me, this is our biggest, I don't think anything on the planet is recession proof. But I think we're recession resistant, I think we might see in a serious setback, if there's a big unemployment reversal, that would be probably the biggest thing that would hurt us, but even there, because most of our properties, if we had to foreclose, and take the property back, we could actually rent those properties out for more than what the mortgage payments are now. So, we're pretty capital protective. And I think our cash flow is pretty well protected as well. So, I love our models for that reason, exactly. James: Yeah. So that's, very interesting. I mean, I'm looking at it right now. Yeah, it makes sense. Right. But if something like 2008 happen, which I don't think so, but there will be a lot more mortgage default, right? I mean, yeah, you It could be a problem for your current portfolio. But the systems and process that you already have might be a really good opportunity for you to you know, to buy-- Jim: Yeah, actually, I hate to say it because it sounds like the undertaker saying, hey business was great, this year, a bunch of people died, you know? James: Yeah, I know.

Jim: It's not something that you want to, I'm not looking forward to people having trouble or the economy having trouble. But the fact of the matter is, if we go into another 2008 type event or anything even close to it, it's going to be back up the truck for us, because like you said, we have the systems, the processes, the teams in place, and the expertise and so it would be business wise, it would be a very big time for us. But as far as our existing mortgage portfolios, I just don't think we're going to get hurt if there's a, even if there's a pretty significant turnaround, because again, it's tied to the jobs more than anything, our business is tied to jobs, not so much what's the appreciation rate or depreciation rate of real estate, that's what we love about our models, they are very uncorrelated to both the real estate market and we're super uncorrelated to Wall Street. I mean, we saw what happened just a couple days ago with stocks and bonds. And I might say, well what happened to your portfolio? What would happen to your investment and Aspen? Well, absolutely nothing, people's pay their mortgages on the day that they were due, and we got more that will be paid this week and more the next week, and life goes on. And it's just we're really not in that world. And that's what we love, and that's why we see more and more, even institutional investors moving into alternative investments. And you know, like your own James and like ours, you know, there's just, there's a real pent up demand for uncorrelated places for people to put their money. So, this is a really good time for people like us. James: Yeah, absolutely. Hey, Jim, why don't you tell our audience and listeners on how, you know, how to get hold of you and your company? Jim: Yeah, sure. So, the best way would be, I think you're going to have in your show notes, a link, a private link for your listeners to our website, but I'll go ahead and just give you, it's just go to our website and then request information, but it's, aspenfunds.us. So, Aspen funds is one word, "aspenfunds.us." And just search around there, and there'll be a place where you can request some information or somebody to reach out to you. And if you're wanting to get involved in buying and selling notes, we can direct you to some great resources. And if you're interested in our funds, again, you have to be an accredited investor, and we can walk you through that process as well. James: Got it. Well, thanks for coming into the show, I really learned a lot. I mean, I do not know much about this note business, but I think I really learned a lot in it. It's very interesting. Jim: All right, very good. Happy to be here. James: Thank you.

James: Hi audience and listeners, this is James Kandasamy from Achieve Wealth Through Value-add Real Estate Investing. Last week, we had Ivan Barratt, who owns almost 3000 units, almost $300 million assets and he's doing a lot of deals in the Midwest cities and the States. So today we have Reed Goossens from Wildhorn Capital. Reed owns with his partner Andrew Campbell, who's also a friend. They own like almost 1800 units valued at $250 million and they've been it doing almost four and a half years. Hey Reed, welcome to the show.

Reed: Good day, James, thanks for having me, man.

James: Thanks for coming. I mean I was on your show like a few years back. And you know, it's great to have you back here and I know you guys are doing a lot of deals in central Texas, like where my backyard is. I also do Austin and San Antonio, so it's going to be a good discussion on what do we see in the market, right?

Reed: Exactly, exactly.

James: So did I miss out on something in your introduction?

Reed: No, not at all. You've hit the nail on the head. I'm sure a lot of people have heard my story. An Australian guy, moved to the United States back in 2012. My background is in instructional engineering. I moved here to be an expat and just to live in New York City and you know, all these years, seven, eight years later, I have found financial freedom through investing in US real estate and I moved here with little funds, no established network. And my whole shtick is that if I can move here halfway across the world and make it happen, then so can the average American sitting, you know, get off the fence and start investing in real estate because it truly is the, you know, in terms of the Western countries, it's the premium in terms of Western countries for yield and commercial real estate. And we can get into that in a minute. But yeah, that's really my background.

James: Yeah, it's very interesting. I think sometimes people who have never lived outside of the US knows how much you can achieve in the US. Your own sweat equity, right? You can really work hard and come up and live and they have to really go outside and see how difficult is it to come up. And you can work day in, day out and you can work 24/7 you know, for seven days. There's always a limit your progress. Right?

Reed: Exactly. Exactly. No, 100%.

James: So let's go back to the market that you guys are focusing, right? Austin and San Antonio, right? So why did you choose these two markets?

Reed: Yeah, so historically, originally back in four and a half years ago, we chose central Texas. I chose central Texas, it had moderate cap rates compared to, I live in Los Angeles, California. I live on the coast, very compressed cap rates, looking for something with a little bit more moderate cap rates. At the time, I was, you know, Koji paid a couple of deals with some preexisting partners. I had my systems from underwriting to deal sourcing. I sort of had that down pat. But what I didn't have down pat was a business partner, boots on the ground and that's where I met Andrew Campbell and we formed a partnership. I was getting involved in underwriting deals in Dallas and San Antonio, not in Austin as yet, you know, that will morph into that in a little bit, but in the beginning, it was just like underwriting small deals, you know, between 50 and 100 units.

But what I was missing was the boots on the ground, the broker relationships. And so, what I needed was a partner like Andrew who was there, who was in the thick of it, who could go and you know, hang around the hoop and bug brokers while I sort of underwrote deals and did sort of the more the back end operational stuff. And we found a partnership back in 2007-15 I think it is. And yeah, the rest is sort of history.

We underwrote a lot of deals in the beginning, people took a bet on us in terms of, you know, brokers taking a bet on us and then we got their first deal done. And that morphed too quickly in the second deal and now going on nine deals. So it really came, it stemmed from the fact that I was needing to get a business partner who could take some of the workload off me and do something that I had a skill set that I didn't have, which was boots on the ground, access to brokers, access to deals and walking assets and I really focused on the operational side on the backend. So yeah.

James: So can you give some advice to our listeners on, I mean, I know you say you needed boots on the ground, so you looked at the market and, I mean, I'm trying to help some of our listeners who are trying to do like what you're trying to do, right? You are in California, you have a partner here in Austin, Texas. And how did the discovery of that partners and boots on the ground, because it's not like I find a guy in Austin and I'm good with it. There must be some qualities in him.

Reed: Yes.

James: And how did you assess that?

Reed: Let's just rewind the clock. I'd been doing deals prior to meeting Andrew when I was living in New York City, when I first moved to LA, when I first moved to the United States. I flipped a few houses in Philadelphia and I had a business partner on that and it was sort of a JV more than a business partnership. I had people tell me that that particular person not to be named, wasn't the best partner to work with. You know, he was unorganized and blah, blah, blah. And looking back on it, he kind of was and it didn't go that great. Well, I'm no longer in business with that gentleman, but it was, I tell you that story because it's a learning curve, right? My first flip deal in Philadelphia didn't go very well. But between him and I, the old business partner, we were able to get the deal over the line.

We didn't lose any investors money. And you know, we then parted ways after that because we just realized we wanted different things in life. But I say that because when you're looking for a partner, you need to understand that there's going to be some times you're going to get into partnerships that may not necessarily jive because you're hungry to get deals done and you're hungry to get the business off the ground. But when you first get started, the thing that attracted me to Andrew and what he attracted to me was we had skill sets that complemented each other. And I think that's the most important thing is the skill sets to complement each other. Because if you don't have those skill sets, then what's the point? And actually, you don't wanna be working on the same thing.

So, I saw in him that he had a skill set that I didn't have and he saw in me a skillset that he didn't have; complementary skill sets are really, really important. Also, just the fact that both of us wanted to grind. We were not afraid to roll up the sleeves and work hard. At the time when I met Andrew, he was working a full-time job, I was working a full-time job and we were hustling on the weekends. He had kids, I don't have kids as yet, but you know, he had all these other external factors and so did I, in terms of, my mom was sick in Australia. All this stuff was happening and really, but we still knew that our North star was to get financially free and create a business.

And years later, we've achieved that, which is awesome. But when it boils down to it is we are business partners first and friends second. I view Andrew's one of my better friends now, but that's because we came through business partnership, right? Andrew also runs a different crowd than I do. He's very much in the, you know, play golf and all this stuff where I'm more of the go surfing. If you're watching this video, go surfboard in the background. You know, I'm very, very different. Ying to his yang and we did a presentation last week at the best ever conference in Denver, my sorry, in Keystone, Colorado. And what we were talking about where was that real estate is the art and science, right? Real estate form is an art and there's a science of it.

Andrew is very much the art and I'm the science behind it. So it's the marriage of two different polar opposites that can really make a successful business and partnership work. So all that type of stuff is like you have to assess what you're good at, right? You have to assess your pros and what you're bad at and do what you don't want to do. But you have to also realize that being in this game of real estate investment, you know, whatever size you do, whether it be from flipping houses all the way through to doing large commercial multi-families like what we do, James, you and I, you have to realize that you need a team. And having someone, a copilot, a co-captain sitting right next to you, bearing taking some of the responsibilities and taking some of the pressure off you as an entrepreneur and business owner, it's so vital.

It's paramount to the growth because you will grow by bringing on a partner that works and is harmonious with. Then, you know, looking back, I wouldn't be sitting here today talking about 1800 units and a quarter billion dollars worth of assets under management if I didn't go out and find Andrew, vice versa. He wouldn't also be sitting in the same position if he didn't find me. So it's a combination of seeing what you're good at, what you lack at and seeing if you can find someone that can meet you halfway in the middle and that you can get on and you have those similar goals and visions, but you also can work hard to achieve a goal.

James: Got it, got it. So I mean when you guys, I mean, I'm trying to go into this partnership because I think a lot of people are trying to get a partner to partner with them and they just need to know how does a successful partner look like when you were like, cause you guys are very successful in partnering up. So how was that discussion? I mean somebody brought up, okay, let's find out, we partner up. Right? So, and what was the other person saying? Because sometimes people say, Oh, well, I'm not sure yet. Right? So there's not going to be like, let's partner up and everybody's going to be partnering.

Reed: Look, let's not beat around the bush here, it is like dating. If anyone's been out in the dating world, same fricking thing. [09:46crosstalk] a few times. I guess

Reed: Exactly. [09:48crosstalk] a few people before you get into bed with someone and skews the crass. But you know, it's an interpersonal relationship. It's a feeling you get from the other person that, Hey, this person could work. Now, it could've gone badly, but it's the same, you know, when you do go out on a date, you get an energy from that person, you can feel that they want the same thing that you want. You have conversations, you get to know one another. It wasn't just like, Hey, let's partner. It was over a period of, you know, three to six months that Andrew flew out to LA with his wife. He got to meet my wife. I flew out to Austin, I met his kids. It was a courtship, you know, similar to how you would date someone.

And through that, we were able to have candid conversations about where we're headed, the goals and really align with, you know, he'd lost his mom through cancer, I'd lost my mum through cancer. So we had some very much some things that aligned. Plus also the fact that we could hustle and we could grind and graft hard. You know, that was a plus. And we had complementary skill sets. It sort of was ticking a lot of boxes. But at the end of the day, the first couple of deals, we were very much Reed and Andrew. It was RSN, which was my old company and Wildhorn and we took down this first couple of deals, really as individuals but you know, using our entities to partner in case something did go wrong and we can just, okay, look, we'll sell the deals and we'll go our separate ways.

Over time, that morphs into one banner, one marketing arm and that's where RSN falls away and we went with Wildhorn because he was based in Texas and we became more of a partnership. And look, I'll tell you here today James is that partnerships also don't last forever. You know, Andrew and I have had conversations. I'm from Australia originally. I know that in 10 years' time when I'm 43 years of age, I want to have some investments back in Australia. Andrew might not be involved in those deals but for right now, we're looking to double the portfolio in the next three to five years and we're looking to make some successful exits. And that's all I can promise, right?

I don't know what's going to happen in 10 years. The biggest thing for me, James, is that I picked up the book Rich Dad, Poor Dad back in 2009 and, you know, we just finished 2019. So a decade later, I'm sitting on a podcast with you telling you about my assets under management. I had no fricking idea that I would be doing that 10 years later. And so what the message is, don't plan your 10 years ahead, work right now. What's in front of you. See what doors open, which is, you know, Andrew and I are having a really successful partnership and relationship and we're going to double our portfolio next three to five years and just be okay with that. And don't worry, the future will figure itself out from there. You know what I mean?

Because you can overestimate what you can achieve in a year, but you can underestimate what you can achieve in a decade. And so my whole story, my main message to people out there is when you do look at partnerships, understand that they morph over time. They may come together for five, 10 years and they might go apart and that's okay. That's how businesses evolve. That's how entrepreneurs evolve as human beings. And you have to also, not sacrifice but surrender to that and understand that that might change in the future and that's okay. Right? Because as you know, multifamily isn't very hot right now. It's everyone, every man and their dog is in there so you might have to pivot and change different business structures.

James: I mean, absolutely. That's really good conversation there. But some of the key nuggets I want to recap, right? I mean, a lot of people talk about a partnership is always complementary skills, but it's not that, right? I mean, that's one thing, that's just one part of it but there's a lot of core values. I mean, you and your partner have a lot of core values similarity and take time to discover that, right? I mean, based on your family stories and based on your goal because you can find a partner with complementary skills, but who may not want to hustle. He may not have the goal that you want. I mean, there are certain aspirations that anyone who's hungry for achievement want and you know, he expected the same on this partner and I'm sure you guys found that.

So let's go back to the market that you have chosen in central Texas and I'm sure people have learned it's not only a compromise, it's a lot more than that and you guys have to discover it. And one more thing I want to recap on the partnership is the way that you guys set up your company, right? Two of you guys, I remember the RSN Capital Group, if I'm not mistaken and Andrew has his own and you guys kept it separate, which is really good. That's how I would recommend to anybody who wants to do a partnership. Keep the entity separate, put it into one LLC and buy a deal and in case something doesn't work out, you can always fade it out. Right. So yeah, I've seen a lot of people where on day one itself, create one LLC and hold partners on one LLC and they can never split up when something happens. Right. So, awesome. So let's go to the market. You chose central Texas, you found your first deal. Did you find the deal first or did you analyze the submarket first?

Reed: All of the above. I was looking in Dallas, I was looking in San Antonio. I was just really seeing what... I was underwriting a lot of deals. Before that first deal came to me back in 2000...sorry, leading up to that point was when Andrew and I met then we went and underwrite like a hundred deals before we go that first deal under contract. But if I look at the why behind central Texas, you also gotta understand where I come from and I made this speech last Thursday night at the best ever conference, I come from a country in Australia and you have to put it in context, right? Because part of my special power, part of my superhero, part of my special sauce that I bring to Wildhorn Capital is my international perspective.

And the reason that is so special is though I can look at things through a different lens. So what do I mean by that? Well, I compare just to Australia and America, right? Australia and America, the land of mass, I'm talking about excluding, let's ignore Alaska for a second, but just those two landmasses, they're roughly the same size, give or take. However, in Australia, we can only inhabit about 18 to 19% of our land because the rest is a desert. And so everything is full. Everyone is forced into major cities. Everyone's forced to the coast. And so we have a small population, we only have 24 million people. Unlike here in America where you can inhabit North to South, East to West and you have 300 million people so we don't even have 1/10th.

The reason I'm bringing all this up is because I grew up in an area where we have a high demand but low supply environment, right? What does that mean when you have high demand, low supply environment? You have low cap rates. In major markets in Australia, in major markets in other Western countries, commercial real estate cap rates are sub 3%. I'm going to spout off some big names, but you look at London, you look at Sydney, you look at Hong Kong, you look at Singapore, office space and then there's probably the only thing that is a common thread between all of them. Office space in those markets are sub 3% maybe even 2%; where you can buy office space in New York City or LA or now even Austin for full cap.

And so when you've got these international perspectives of like, wow, I've come from a market where historically there's been low cap rates for decades because of supply and demand and I see the same thing happening in central Texas where the GDP of all of Texas is greater than that of all of Australia. I'm doubling down on that and that market, because a place like Austin, Texas has now transitioned from a boom-bust town into a tier-one market like Los Angeles, like Sydney, like Singapore, like London. Where dirt is trading for as much or even more as the coastal market. So when you have high demand like you do in Austin, low supply coupled with a very high barrier to entry for new product, which means buying dirt, getting an approved construction, doubling down on existing assets in a market like Austin means that coming to the recession in the next couple of years, you'll be able to ride that out because you have a high demand and a low supply.

I also come from a country where we have not had a recession in over 27 years because of, obviously physical policy, the way in which we invest our pension funds is a lot deeper than that. But again, I say this all to give you the lens that I look through when I'm looking at different assets. One other thing that not many people know, multifamily does not exist in Australia because of the lack of financing vehicles. We only have 25 million people. We have four or five major banks. Those four or five major banks do not lend money on a new apartment construction unless you've pre-sold X amount of units, which is a combo market. So they lend on a build to sell, not a build to own. Right? And so when you don't have those sophisticated financing vehicles as you do here in these States, you know, Freddie Mac, Fannie Mae interest only for 10 years, Ameritrade over 30 years, the fact that multifamily doesn't even exist in Australia when I first moved here coupled with population GDP growth, seeing markets transition from a boom-bust into a high demand, low supply environment, seeing markets transition into, it's a high barrier to entry for new product, all those things add to why I would double down in a market like that into help me ride out the next 10 years.

Because remember James, the last 10 years that we've had just had, since 2009, has been the best 10 years for multifamily, probably in history, right? We're not going to see the next 10 years are not going to be the same. And so as an investor, as an operator, you need to look for markets where there's true growth. Now, you compare Austin to New York and San Francisco and LA, money is still being invested in those markets because of the demand. So people still invest in these coastal markets because of the longterm gains that they are going to make. And a lot of people have made a lot of money in a short term period over the last 10 years and I think that's going to be the same trend moving forward. And that isn't completely incorrect. And if you think that's going to happen, you need to go invest in something else, in my opinion,

James: It's crazy on how much the tide has gone up or the past 10 years and everybody thinks multifamily is the same, right? It's a commodity now, but it's not. I mean, at some point the wage growth is going to hit some limitation and you're going to have a problem, right? So you have to be really ready as when you say; that's really awesome. And the other thing about Austin though, other than coastal cities, a lot of coastal cities are getting rent control, whereas Austin, I don't think that we'll ever get a rent control. Even those20:30unclear] city, but it's in there.

Reed: Yeah. Even if that was to happen, people still make a lot of money in places like LA, New York, San Francisco, they're making a lot of money and it's because of the value of the dirt. And everyone's got to realize you buy real estate for the value and now that is what is intrinsically is going to grow over time. The fact that when I first moved to this country, I noticed that land, at least in LA, in New York and San Francisco, land is key. You're right, it's what holds the value that, the asset depreciates over time, but in central Texas, the asset is more valuable than the land, that's slowly starting to change, right? As demographics changes, people move as population grows, as GDP grows, all that sort of stuff in terms of supply and demand; that then means that dirt is worth more, right? Dirt is where the value is. And if you hold it for a long period of time, I'm talking seven to 10 years, you're going to do just fine.

James: I was happy to know that. You know, I'm not sure whether you'd known, Tim Ferris moved to Austin like a few months ago, a few years ago. I need to find out why. I mean, I listen to his podcast and his podcast is awesome, right? So, let's go to underwriting. So let's say you get a deal today, right? What are the things, what are the sniff test that you do before you look into the second level details?

Reed: Yeah, look, stiff test, it's a hard thing for a sniff test these days because there's so much more to this story. It goes back to the art and the science of underwriting. Back in the day, five, six years ago, yeah, you can do back of the napkin and does it make sense? Yes. Does it not make sense? No, because you had so much, you had a cap rate that was moderate and you had an interest rate that, you know, was a Delta of maybe 200 basis points you could get cash flow. Today, it's not like that; that spread between interest rates and cap rates have compressed, right? Its cash flow becomes harder to achieve, thus you need to understand the story and that's where the art comes into it, not necessarily the science. So I still look for a spread between going in cap rate or a stabilized cap rate and interest rates. I want to make sure there's at least a hundred basis points in there and that's growing over time and when I model it out over five or seven years, that continues to grow.

But I also want to see now, I'm looking at deals where there's other opportunities. So, we are about to buy a deal south of the river in Austin, Texas. It's the lowest cash flowing deal we've ever put out. And we're oversubscribed to that deal because of the location. Now what you don't know, if you looked at just at the numbers on that thing, you think, Oh God, it's a really low cap rate, but you don't realize that if you don't know the story behind what's happening in that area, 600 units are going to be completely demolished and taken offline in the next 24 months. So do you think that's going to have an impact on our rents and the occupancy? Of course, it is. But how do you underwrite to that? You can't, you've got to underwrite it if it's a value add multifamily.

This is where the story comes in and where you need to go bigger than the sniff test because this is what market we're in. Also, we know that this land that we're buying, we're buying 12 acres where the density could be doubled on this plot of land. It can go from 294 units, we could go and put 500 units on it. Now whether you go and execute on that as a different thing, but that could be an exit option for someone in the future for a developer to buy if all these investments in the South of the river there near the Oracle is to come to fruition. Then again, I'm seeing very similar trends as if I'm looking at an ally or a New York market.

So these are all the things that I look at now and you have to go deeper. You have to do more than just a sniff test because we're not in those days anymore. We're in a different market and we have to spend time. I have four analysts that work for me and they spend a minimum of three to four hours on any one deal. Andrew is the guy that makes sure he feels out the deals that we see but if he thinks that there's a bit of a something a little bit more to sniff out and he's got a little bit more an art to it, than the science, then we will dive deep into it and we'll spend three or four hours underwriting it. And it still might not work at that point, but we've gone and exhausted all avenues to make sure that it isn't a deal that works for us.

James: So, what you're saying is you have stopped looking for the normal cash flowing value-add deal. You're looking more for the path of progress and you know the story behind the deal as the future appreciation I would say, future potential in that deal., I guess.

Reed: Future potential because your whole podcast name is called increasing your wealth through adding value, right? You may add value by entitling the land to have a bigger a density on it. That is adding value.

James: Absolutely. Absolutely.

Reed: Any way you add value but historically it's been all, we'll put lipstick on a pig and hopefully it looks good. So that's gone, right? There are still those markets out there. There's still these deals out there. You can still find them and don't get me wrong, but when you become more sophisticated when you become more advanced in your underwriting when you become more experienced, you start seeing different trends and why the big guys, and let's not beat around the bush here, I've worked for big developers in LA, in New York, and they don't have podcasts, they don't have books, but they own half of Beverly Hills. The reason the way the big dogs are, they're still buying these pieces of dirt, they're still buying these trophy assets and putting it in. They're still selling to rates, they're still selling to insurance companies and making a lot of money and you've never heard of their names. So I've come from that background and that is where exactly how my mindset has now shifted to start understanding the pennies dropped, ah, and now I know why those guys do what they do is because of the value which the supply and demand curve, we go back to that a lot, that demand is high and supply is low.

James: I mean it's very interesting, look at things differently. And I met someone the other day who was buying land on a, it's called a submerge land, land under the Lake. And she was saying, Oh, I sell that. I say, how do you sell that? So it's a very interesting story on when a boat comes, you know, you need to dock on your land, even though it's under the water, but they can still sell it. Mixed with different kinds of people, go out of this, the normal value add, I would . To see those kinds of things. So yeah, it's absolutely, you know, it makes sense to do creative stuff as long as you're doing it in the right market.

Reed: It does all come down to market and it does all come down to just reacting to the market. Right? You got to react and you go to, as entrepreneurs, we're riding the wave, the wave of change is ever-evolving. And so we have to be ready to look at things through a different lens to not be ignorant of other options that you can do to your property. Because you know, it's about being creative, just be creative with the piece of land and you can figure out many different ways in which you can make money from it. So it's just understanding that rather than just plugging, implying and you know, buying at a six cap and getting interest rates at a full cap and having all this cashflow and yada, yada, yada. There are still those deals out there, they're a lot harder to find and thus you need to be a little bit more educated in terms of the value that you bring to your asset now coming into, you know, a new economy that we're in.

James: So do you see some of the investors who are used to getting cashflow and doing value add on the rent and all that, do you see some of the investors dropped out? I mean they don't buy into the idea or you think a lot more people buy into the idea or you just finding different people buying into the ideas?

Reed: Last year we rolled out and we were the first ones in the industry to do it in the multifamily industry, at least in our little circle, the AB structure, we brought that to market first. We closed on a deal first. The way we do that is by offering 25% of the equity has 10% preferred return paid current. And that means that you can satisfy those cashflow customers or investors with that class A bucket. Class B bucket that they have an accruing pref but they get all the back end. They get 70% of the backend so they're looking for the equity multiple and we then divide it out the investor group into two pots. We can now see who wants what but what it does mean is that if we buy a deal that cashflow is 2% out of the gate, which is pretty much a lot of deals only cash flow very little out of the gate, you can pay that 10% pref straight up to 25% of the equity.

If you have 25% of the equity not participating in the backend, then that juices the IRR to the class B. All these things we are doing in terms of structure because we are reacting to the market and because we're not just blindly going along and not getting any deals done because, oh, it doesn't work like it used to work. Well, we're changing the way in which we structure ideas. We're changing the way in which we underwrite ideals to back into making sure we're appeasing our investors that have some cashflow, a bucket but we've also got the equity appreciation bucket and having honest, candid conversations with our investors that, hi, if you give me 100,000 bucks, does it really matter if I give you seven grand every year? Is that going to change your life or does it more matter that you give me $100,000 and in five or six years' time, I'll give you back $250,000? Is that more valuable to you?

When you have those conversations with those investors, they start thinking differently. And people that they think, Oh, the pref isn't being met, oh, that means it's a bad deal. No, it just means that the deal is getting out of the gate into different velocities where another deal is. And so looking at the longterm play, real estate, James, is a longterm play, not a get rich quick. And that's why I say a lot of people have done so well with their money in the last 10 years. They've doubled, triple their money in three to five years and I think that's still the norm. Well it's not and that's where you have to readjust your expectations. And that's where, again, my international perspective where I've come from a country where if you double your money in 10 years, you're doing just fine. The longterm play is what real estate is and people sometimes lose that vision of what longterm means and they think long term is three years.

James: Yeah, that's true. Sometimes people are just so used to what they make in the past 2012 to 2017/18, keep on looking for the same yield and you know, that kind of deal is no more existing.

Reed: And investors appreciate being candid. Investors appreciate having those open and honest conversations. And why would you take a lower return? You're taking a lower turn because it's risk-adjusted. You're not investing in a tertiary market or a secondary market where it may get really rattled if they have another recession, you're investing in lower risk, and thus you have to adjust your expectations when you go and invest in a market like Austin with lower risk, low margins.

James: Yeah, yeah, yeah. Risk-adjusted return is something that a lot of people don't understand. I mean if you're making 6% in an awesome market compared to you're making a projected 8% I would think is projection in the beginning, maybe before you invest, everything's projection, right? Someone tells you they're going to give you a 20% IRR in a tertiary market compared to someone's going to give you a 10% IRR in a solid market. That 10% is actually much better than the 20% because the risk is lower.

Reed: The risk is lower. But also you look at like if you want no risk, go put your money in a treasury, the 10 year treasury and that's what 1.32% if you want zero risk, go do that. And if I'm offering you six or 7% return, I think I'd rather place my money. So backed by physical real estate where you can have all the tax depreciation, no other investment holds up. So obviously the stock market is doing very, very well, but you have to also combat apples to apples and that is, you know, one is risk, two is volatility, three is tax depreciation and four is access to capital. And so all those things play into effect when you think about real estate versus other ways in which you can make money in this world. So yeah.

James: Yeah. I think I saw the way you guys structure the class A and B, where you have one person class A is like flat 10% or in a certain percentage, I can't remember the number.

Reed: It's flat 10% but the class side does not participate in the back end and then you've got class B that has an accruing 7% pref and you catch up upon sale but they get 70% of the back end. And those investors are more focused on the equity multiple rather than the cash flow. And thus, you're splitting the bucket but you still offer them both. The investors can still have some in A and some in B, but you limit the cost A to 25% of the equity. So it helps, you know, juice the IRR.

James: And does the class A, the 10%, get paid from day one itself?

Reed: Correct.

James: Okay. Okay.

Reed: You can do the math, right? So if you have $1 million of equity, 25% of $1 million of equity is $250,000. 10% of $250,000 is 25 grand, a year. Now, $1 million in equity, that's probably going to buy a $4 million property. You think a $4 million property could cashflow in any one year, 25 grand? I think it could. Yeah. So that's where the special souls comes in because you're paying 10% on 25% of the equity. So thus your cashflow out of the gate can be lower and you can still hit that 10% preferable.

James: Yeah. So do you see...we trying to get filled up fast. I know one has a smaller pool, the other one's bigger, right?

Reed: So, we also have a higher barrier to entry on the class A so we have $100,000 minimum. And we have a lot of people wanting class A. The thing is we tend to see costs, on the first deal, it got filled up really quickly. On the second deal, it was a little bit more equal, you know? So, but here's the other thing, class A investor is if my deal, I'm not hiding anyone from it and it's the truth, they get paid first, right? So if I go and refi and I hold it for five years and I decided I'm not going to sell, I'm actually going to refi, well, I can refi it and pay all my investors costs I owe their money and they're out of the deal. And I can replace class A with cheaper, cheaper debt, right?

Cause if I'm paying them 10% of their money and I can get debt at full percent, then I've just essentially, you know, taking them out of the deal. Now there's a risk there that they're out, right? And I have investors saying, well you could just come along and do that. It's like yes I can. That's part of, you know, real estate and debt stacks. Right. I can just replace as the value of the asset grows, I can replace the debt and I could potentially have a debt number that could take you all out of the deal. They've gotta be okay with that.

But they sit in a safer position, they sit just behind the debt. They don't sit in class B, they sit in class A side.

James: Got it. Got it. So it looks like if you look at class A and you are saying is much more attractive. A lot of people compared it to class B [inaudible] right. Can you hold on, let me just fix my staff cause I didn't want this to be half. Okay, good. So forget about it. So let's start again. So class A has a lot more attractiveness to it and compared to class B because class A people get 10% flat, I guess, right?

Reed: Well, yes and no, there's pros and cons for both. I just explained the class A that yes, I sit at and I have a 10% pref, but their cap did it at a certain return. They cannot earn any more than 10%.

James: And you can buy them out at a refi?

Reed: I can buy them out at any stage and if we smack the deal out of the park and 20% IRRs, they share none of that because they want to sit in a safer position. And that's where class B, yes, you're sitting behind class A, but you get all the profits, you know, we split all the profits, profit sharing at the end. And so again, you have to understand capital stacks and you have to understand risk in relationship, just capital stacks in order to really grasp your mind around the AB structure. It's pretty simple once explained. And I can show you a diagram if for any investors who might be interested in it, but again, it's just a different way of looking at it and I come from the ground up construction world. I've built a lot of ground up multi-family. This is exactly how multi-families constructed a finance. Your debt, you have a mez equity piece, you have equity, and then you have the GP and it's just capital stack and math. So it's very basic, once you get your head wrapped around it. And probably a lot of people scratching their heads thinking, Oh my God, what's he talking about?

James: No, no, for me, it's pretty simple. I mean, I think it makes sense. I mean there's risk in both classes and you take that risk. I mean, even in my book about, you know, different investors want different things. Some people just want cashflow, 10% flat cash flow. Some people really want the equity. I mean, it depends on their life cycle, where they are in your life cycle.

Reed: And so as an operator, I've got to continue offering that. And the way I've offered it in terms of how deals and now underwriting is, that's how I've split the baby from the bathwater as they say. You know, I've split it and made sure that I can serve as both the type of investors who one wants cash flow, the other one wants longterm appreciation.

James: Got it. Got it, got it. So, Reed, let's go to more personal stuff. I mean, can you name like top three things that you think is your secret sauce to success?

Reed: That's a hard one. Look, there are no secrets. Hard work is...let's talk about secrets. Hard work is so underestimated. I moved to this country. I didn't have a job. I was an engineer. I literally dawned on a suit and I knocked on 50 different engineering joints and engineering companies until I found a person to say yes. I'm not afraid of hard work. Am I lucky? Have I got a bit of luck in this? Sure. I'm lucky that I was born into a really awesome family that, you know, I come from a blue-collar working background, I've got blue-collar work ethic. I'm not afraid to roll up the sleeves and get my hands dirty. I'm also not afraid to back myself. I think that's another key to success is like you've got to learn and you've got to be okay with betting on yourself.

And I remember when I first took that plane from Australia, I quit my job, my well paying job in Australia and I moved to the United States to give it a crack. As I say, you know, I was betting on myself. I was betting that I can figure this out. I might not have had the answers at that point, but I knew that I was resourceful enough to figure it out and I have. And so those two things, there's a little bit of luck in there, but it's also hard work and learning to back yourself; are really too important skill sets, life skill sets that that people need to learn. And I've developed that through going and backpacking around the world with, you know, $2,000 in my pocket, you know, understanding the value of a dollar and stretching a dollar. You know, people ask me all the time, well, what advice could you give to a 20-year-old?

Go backpacking, go to a third world country, go backpacking for two years, come back and then you go find yourself, you go in the university of life, figure it out, go understand a little bit of the street ways and then come back and you'll get started. I think going out and widening your horizon, taking off the blinkers and experiencing other cultures, otherwise how people live their lives is all parts of learning and why I that I've been very lucky that I was able to travel and I paid for my own travel. I've saved my own money. I was able to go out and do it and experience different cultures, take on their advice, take on the wisdom and internalize it and spit it out and say this is what I want to do with my life. So a couple of pieces of advice of success there.

James: Yeah, absolutely. Now I realize why people go backpacking and never really understand, but you made it very clear, right? Cause you really like on the street with a shoestring budget and you're talking to different people, you're talking to normal people.

Reed: You get a skill. I'll tell you a story. I was in South America, this is 10 years ago and I had a rule. I was backpacking by myself. The most invigorating thing I've ever done in my entire life, James i,s to backpack by myself. I had no one to answer to, I would meet someone at a hostel or a group of people and say, this is awesome, let's go. But you get really bloody good at determining if you're going to be, you know, you only have 30 seconds to make an impression and I'm going to either have to have a beer with you or I'm not gonna have a beer with you. And it was very quick, that skill became very, very quick. I had a rule that when I was backpacking by myself, you know, if I go into a bar and I hadn't met someone within three drinks, I'll move to another bar. I never left that first bar because it was always about putting yourself out there, being vulnerable, talking to other backpackers and getting that interpersonal skills really sharpened and really honed in. And that's part of what you learned from backpacking.

James: That's very interesting. That's the perspective that you get when you go backpacking. Let's go to another one more aspect of your life. Is there a proud moment in your life that you can never forget until the end? One proud moment that you're really, really proud that you think, I'm really proud of myself.

Reed: I think getting that first job in New York City, getting that first job, getting that visa, I was proud that that was, I did it. Like that was the coming to America story. In order to stay, I needed a visa, I needed a job. And so that proud mate, if I got that job, it meant that that was, you know, talk about doors opening. That was the first door that I could unlock. And that then meant that there's a bunch of other doors behind it. But that meant I could stay and I could figure it out. And that was the first proud moment that I think, it was, you know, again, I was literally walking the pavements, knocking on doors because in 2012 you know, putting your resume out into the indeed.com or whatever just was useless. I needed to go knock on doors and say, Hey, here's my resume. I'm more looking for a job. And a lot of people said no, but it takes that one, yes. And that one yes can change your life. So that one yes for the job that meant that I could stay in the United States. It meant I can continue the journey.

James: Got it. Got it. So one other question from one of the passive investors is like, is there any advice that you would give to passive investors that are investing in a syndicated commercial real estate?

Reed: Yeah, I think the biggest thing is you have to have an alignment of interest, trust, and transparency but do you get on with the operator? Because the number one thing that passive investors want to invest in is they don't actually invest in the deal, the deal is sort of second secondary, right? The first thing is the person. Who re you investing with, who is your partner that you're going to go into this deal with, who is the operator who's going to take control of this asset? And if you don't like them or you don't have that energy that I spoke about earlier, then don't invest with them. And it's very easy to figure out who you like and who you don't like. And again, this is a world, of life is short and you want to do business with people who you like and you want to be with, right? That's the whole point of why we do this business. And it goes both ways, both from the operation point of view, my point of view, and also from the passive investor point of view, we're all in this business to make money. Let's do it with people that we like. So I think that's the short of it.

James: So Reed, why don't you tell our audience and listeners how to get hold of you and how to

Reed: Yeah, sure. So I've got for those listeners who like to read, I've got two books. I've got the Investing in the US which is on Amazon. It was a bestseller last year. You can find that and I've also got 10,000 Miles to the American Dream, a story of financial freedom. So those two books are on my website or on Amazon. You can go to reedgoossens.com, that's www.reedgoossens.com. Everything's up there. My podcasts are up there, my blogs are up there. If you have any questions, you can click on little links and stuff. And I always offer people or listeners, if they're coming through LA and they want to meet up for a beer or lunch, I'm always interested to meet up and talk shop. You just got to email me at [email protected] and just give me enough heads up and let me know when you come through town.

James: Awesome. Great. Welcome. And thanks for coming into the show and I'm sure you added tons of value.

Reed: Thank you very much, mate.

James: Alright, bye.

James: Hey audience and listeners, this is James Kandasamy from Achieve Wealth True Value Add Real Estate Investing Podcast. Today I'm happy to get Ivan Barratt into our show. Ivan is a multifamily owner-manager syndicator who specializes in large apartment complexes in the Midwest and he has been doing it since 2015 with over $18 million in equity, with more than 3000 units as the primary GP. And he has grown his company, which is Barratt Asset Management to be best in class two time inc 5,000 private equity and management firm. And he focuses a lot on equity, finance, acquisitions, and companies' strategies. So currently managing over 300 million in assets, comprised of almost 3,500 units. Hey Ivan, welcome to the show

Ivan: James, so good to see you, dude. I always love talking to you man. It's good to be on the show officially.

James: Absolutely. I know we postponed it a few times so this is going to be very, very valuable to me and to my listeners as well. And so, Ivan, let's get started. How did you get started, right? Let's quickly go through it. How did you get started and how did you end up with $300 million in assets under management?

Ivan: Yeah. You know, for me it all started with one duplex that I house-hacked back in 2000. I'd wanted to be in real estate my whole life. My dad is in real estate. He was an attorney, always owned rental properties on the side. A couple of entrepreneurial uncles on both sides of my family that owned apartments, gas stations, car washes, all kinds of businesses. So at a really early age, I wanted to be an entrepreneur and I wanted real estate because I thought, gosh, why would I want a real job when I could just go out on a lot of property and do whatever I want and watch the rent cheques just come in. So I went to school, went to college, went through business school, got a degree in real estate finance, got out, house-hacked a duplex.

For the first eight years, I worked for a mentor in mostly development, but also property asset management. All kinds of different jobs that I got to have that I got to where I working for this real estate developer. And most importantly, I got a front-row seat to the great financial crash in 2008 at a really young age, a huge gift. I learned. I wasn't as smart as I thought. I learned that I was doing real estate the wrong way and that's when I really started modeling multifamily companies. Because I'd always wanted to own apartments, but I also saw that in a downturn, those multifamily companies got bigger, they got stronger, they acquired more assets because of the way they were financed. And so that really was the impetus to get me started in my own pursuits.

Then I actually started in 2010 as a property management company first because I knew that if I could figure out the property management game and doing that for others, that when it was time to buy bigger deals for myself, I would have a higher likelihood of success of execution. So I started buying a few small deals at the same time, was managing for other clients. Anything I could get my hands on where I didn't have to carry a gun and I was doing everything. Started from the bottom, then started being able to buy larger apartment deals. And when I say large, I mean, my first apartment deal was six units and about 35 and a 30. Then I said I'd never do another small deal again and I bought 15 cause it was just too good to pass up.

And then from there, I started syndicating. I did my first syndication of 60 units and I bought 112 and all the while, still managing for other people as well. That was really how we grew the company in those early days. Once we got to onsite staff size properties, there was really no turning back, pretty addictive. Fast forward to today, we still do some management for others but we mostly manage our own assets now. And we are far and above are our biggest clients. And that's the shorter version of where I come from and how I got here.

James: Got it, got it. So is this 3,500 units, is it all you? I mean, your company or you guys do fee manager part of it or how does that?

Ivan: Yeah, so I own about 3000 units. We're down to about 500 units that we manage for others, it's not really a focus moving forward. We still have a few close partnerships that we like managing for. But really the way I've built and designed my company is not to be a profit center of property management, more to be an execution machine for my own wealth strategy. And so I think you and I've talked about this before, you know, on the property management side, I could be Scrooge and I could really be tight and I could probably make a 15% margin but instead, we focus those dollars into our culture, our people, growing leaders within the organization, having fun. Property management is not easy. You know, having great events and really trying to create this beautiful machine of people that want to come to work, want to do a good job, want to stick around a while and believe in what we're doing. We call it the band fam.

James: Awesome. Awesome. So let's go deep into the, you know, how you got started and it's just so interesting, right? I mean, you had that vision to start from property management first and then added assets, which is, you know, how like even like Ken McElroy started, right. He started being a property manager first.

Ivan: Ken McElroy was a huge influence in my career. Yeah. Huge influence. I read his book very early on and that was one of the key influences for starting my management company and figuring that out first.

James: Yeah. And I think he had mentioned it many times. I mean, for the audience who doesn't know who's Ken McElroy. He is one of the largest owners of multifamily in the US. I mean, he is an advisor to Robert Kiyosaki and he's a big guy, well-known guy, a well-respected guy in the multifamily industry. And he mentioned very clearly in his book, right? I mean, to get started, you probably want to work for someone or go work as a property manager. And I don't think so many people are following it because people think it's just buying assets and letting it ride through a, it's okay. But what did you learn from that experience? And starting from property management and going into as an owner as well.

Ivan: You know, this is 2011, 2012, I've got 70 units and I am everything. I'm the busboy, the cook, the maitre D. I'm the leasing agent. I'm the property manager. I'm the rent collector. I had a little bookkeeper that came in every other week cause I didn't want to screw that up. So I literally did everything first and learned to be efficient with it and also learn, you know, strengths and weaknesses and made a lot of mistakes. I've finally just decided early on that I knew I was gonna make a lot of mistakes and that was just part of it. I finally figured that out in my mid twenties, that being an entrepreneur is a lot about failing forward, making mistakes and learning from those mistakes and not quitting. It's not a calm, okay sort of method, but it's the backstory to a lot of successful entrepreneurs. So I just copied what those who had been there before me had done.

James: Got it. Got it. And I mentioned it in my book, I mean, across all commercial real estate, multifamily is a really, really good asset class but the hardest part in multifamily is property management, right? I mean, managing that 300 or 100 units income stream from different people is just the hardest. I mean, you'd rather buy an office, have three tenants, professional tenants and you're done.

Ivan: Yeah. Multifamily is the best asset class for return on investment on the planet until you move in the people.

James: Yeah. Until you move into the hard job of multifamily, which is basically the property management and, you know, you'll figure it out. You'll figure it out beginning in itself that, you know, property managers, I mean, you want to start from property management and going into asset management. I mean, you and I know that you really don't make money in property management. It's basically a time-consuming job.

Ivan: The most important one, but very, very time-consuming. The most important job,

James: Absolutely, the most important and we do it for control, right. For control of our value...

Ivan: Oh, absolutely. I couldn't imagine hiring a third-party manager for my own assets. It's just the way we do things and the amount of control we have, the ability to move pieces around. For instance, we had one property that was suffering a little bit. We were still trying to get the right management team in place. We took our best leasing agent in the entire company and we moved her across the state to do her thing at an asset that needed her assistance. And that's very easily done when you control the management side of it. If you're out there and you're just another number to a third-party company that's a far more difficult solution to get. They're not necessarily going to give you their best people or move around their best people.

James: Yeah. And I also think property management is the best way to make deals, numbers work in this market cycle, right? Where the market, it's not like appreciating like what it used to be in the past five years.

Ivan: You're giving away my best secrets, James.

James: I know.

Ivan: How we get our value-add picture to work is a big part of it is being able to manage these units efficiently and knowing exactly what it's going to cost to run them and finding inefficiencies and reducing expenses. It's one of the three legs on the stool right now for making deals, achieve target returns. No question.

James: Absolutely, absolutely. I think that's very important for...that's why we do vertical integration. Because deals at this stage of the market cycle, where everything is overpaid and people are bidding for high prices for everything and it's just so hard to do, you know, if you're doing it third-party.

Ivan: No question.

James: So, yeah, I mean, to be frank with you, in the last one month, I have like four guys, four friends who are syndicators, who never had a third party. I mean never had their own property management. They called me for a meeting. They say, Hey, how can we do our own property management company? And I asked why and they said, Oh, you know, all these guys are not good. All this third party, what I told you guys like two years ago, right? And I say, do not do it. But they say, no, we are going to do it. Right? So I mean, yeah, if the market is 150% and your property management is 70% capable, market is 150%, your property management company capabilities are mask off by the market. Right? But if it's the other way around, right now, I don't think the market's at 150% probably is 90 80% right? But now you know, everybody's getting undressed on how capable they are. Now, everybody's like scrambling to go and say, now they're seeing all the weaknesses of all the third-party property management companies. Right.

Ivan: Agreed.

James: Yeah, absolutely. Absolutely. So come back to deals that you buy in the Midwest. So is it you are in Midwest and is that why you buy in that market?

Ivan: Well, I'm lucky. I live in a place that's really great to invest in right now. Midwest, it's steady. The markets we look at have been growing on average 3% a year for 35 years. They don't boom, but they don't bust either. And so, we like a lot of these tertiary and secondary markets in the Midwest that have also successfully decoupled from the Roosevelt economies of old and have government education. Health care is big. There's some blooming in the tech space, R and D, there's some big insurance companies, financial services. So there are these markets like Indy is a great example that hasn't quite seen the boom that some other markets have, but they've just continued to steadily grow, which is really good on a five to seven-year hold period if you can find the right assets inside those markets.

James: Yeah. Midwest I mean, I'm not sure where I read it, but essentially the whole Midwest is very stable in terms of economy, right?

Ivan: Yeah, it really has become that way. And also in the B, B plus rental cohort, the percentage of rent income is still in the mid to high 20% range versus a lot of hotter markets where it's higher than that. So I would see that as a sign that there's still room to grow rents if you're good at picking growing submarkets within those markets.

James: Got it, got it. Yeah. If you're able to identify the submarkets within the market itself.

Ivan: The submarket within the submarket, within the submarket, right?

James: Well that's what real estate is.

Ivan: Hyperlocal.

James: Hyperlocal. Yeah. And I'm sure you being local, you would be able to know a lot of areas on your own and then you'd be able to figure it out things. So what are the States are you investing right now in Midwest city?

Ivan: So far we're in Indiana, Ohio, Illinois, we've got lots of submarkets in these areas that we are targeting. And then from there, there are certainly other States we've got our eye on, here in the Midwest as well.

James: So, the deals that you are getting from this Midwest, is it through brokers or how are you guys, through relationships or how's that?

Ivan: At our level...so our typical deal is going to be somewhere in the 30 to $40 million range and all those assets are controlled by the brokers. If you try to circumvent them and start going direct to sellers, they're really not going to keep you on their deal flow list. So we use the brokers to our advantage and we get a lot of off-market deal flow from our beloved brokers. We've closed a lot of transactions with them. They know we're a great company to do business with. We never retrade, we close quick. And so, we ended up being on the shortlist when they've got a seller that may be willing to transact but doesn't necessarily want to go full bore on market.

James: Got it, got it. So let's say today a broker sent you a deal, right? So what would you look for in that deal that may be attractive for you?

Ivan: Yeah, so we're looking for newer assets that are late 90s, early two 2000s. We'd like some stability because our fund dictates that the property can pay monthly cash flow to the LPs starting within 30 days of closing. And we liked that cashflow to be current to the preferred return of 7%. So it's got to have cashflow, day one. And then we still want to see some upside from value add, bringing in our management team, like you and I just spoke of, to manage it more efficiently, but also to make some improvements. If it's the mid-90s, it likely can stand some amenity upgrades and some cosmetic upgrades to the units. So we're looking for, for those two pieces.

And then third, we want a market where the rent is still growing, jobs are coming in, it's a good school district, you've got population growth. So those three components. If those add up to a reasonable expectation of 15, 16, 17, 18% IRR on a five to seven-year hold, we'd like it. We underwrite it to attend. So, if we're holding it more than seven years, we want to do two and a half, three and a half X equity multiple net, or we really want to harvest every five years if we can.

James: So how do you determine the exit cap rate? I mean, I know you can't really determine the exit cap rate but in the Midwest States, how would you underwrite, what is the market cap rate plus how many...?

Ivan: Yeah, I know there's a lot of talk right now about exit caps and what makes sense. We always just provide a cap rate sensitivity analysis. So we show what it looks like if the cap rate goes up every 25 bips, we show what the return looks like. It's our suspicion that cap rates are maybe a little bit lower than they will be over the long run, but not as much as you'd think. The spread right now between the 10 year treasury, which is at 150 today (actually it's a little less than 150 thanks to the coronavirus) and say a cap rate on buying out of five and a half or six, you're talking about 500 basis points spread in some cases.

In 2008 when the economy crashed, the spread between the 10 year and commercial cap rates was 50 75 basis points. So if you think about the spread between what you get for leaving your money in a 10 year bond and what you get for putting your money in multifamily is still very, very fast. So I don't see that spread going up unless interest rates go up a lot and there's a growing consensus that interest rates aren't going up anytime soon, the debt would just get too expensive. There are too much deflation and global slow down in the macro global economy to force rates up. They're actually continuing to have to ease and keep rates down. And so, I am certainly in the school of thought that we are going to look much more like Japan over the next decade. We're not going to have a lot of negative GDP but we're not going to have a lot of positive growth either. So rates will stay fairly low and there will be a demand for risk assets that offer a healthy spread above the 10 year.

So that being said, you know, I probably went down a rabbit hole, maybe a little too deep, but with that being said, you know, we're typically looking at 50 basis points on the exit at five years but we don't get too caught up into that. We never show our pie in the sky and projections to our investors. We never show what we think the maximum rent we're going to return is. For example, I just bought a 272 unit deal, a fantastic deal I'm excited about in the submarket called Greenfield, Indiana, it's inside the Indianapolis MSA, third fastest growing County in my state. And I just have been organically raising, for instance, closing $150 a door on renewal and I'm painting and carpeting.

James: That's awesome.

Ivan: So I'm not really worried about my exit cap on that deal. You know what I mean? The thing is if cap rates, this is the other reason why you and I get 10 year, 12 year agency debt is because if there's this point in time where cap rates spike, I'm not selling, I'm going to hold the property in cashflow. Just think about it, James. If cap rates are going up, it's because of inflation. Interest rates are going up to fight inflation. Agree?

James: Yep, absolutely.

Ivan: Well, if inflation goes up, rents are going up too. And the best part about apartments is that we get to reset our rents every month and every year. And so if I don't have to sell at this little point in time and I can raise my rents and wait for things to stabilize and cash flow along the way, I shouldn't be as worried about an exit in a specific year. Where people should be worried about exit cap are these shorter terms bridge loan deals where they're banking on a big rent increase in a refi or a sale two years from now or three years from now. I think that's taking on a measure of risk that would be a little more than I'd be willing to buy it off. We locked in that agency debt early.

James: Yeah. Yeah. I've been doing my agency, all my deals has moved to agency, you know, for the past two years I've stopped doing bridge loans just because of the exact reason that you are talking about and yeah, I agree. Bridge loan do have some risks. Some people like it because they think they can flip it but you don't want to flip at the end of the age of the market now [21:51crosstalk]

Ivan: It can also flip the other way on you.

James: Yeah, exactly. I mean, bridge loans and turning around huge deep value add needs a lot of skills and you are really banging on the market timing right now. There are a lot of factors to put in. I mean it's like a flipping a house, you're flipping an apartment. So is that how you started from the beginning itself, where you have trained your investors to focus on the cash flow of the deal? And a lot of my investors now, they want like annuity, just give me a cash flow. I don't really look at the pop the bag and it just give me an annuity because you know, six to 8% return cashflow is an awesome return. Right? And it can be much more awesome going down there.

Ivan: Yeah. So, how we work with our investors is first, we educate them on how we mitigate the downside. Why we do agency loans, why we lock in for a longer period of time and we plan to hold it. Why we're buying a little bit newer of an asset versus what we were buying in different stages of the market cycle. Then we look at the yields of the property and we look at with them, like you just said, look at this asset. If nothing else works, it's still going to yield seven, eight, 9%. And then we're looking at what's the potential upside down the road, in that order because people do want to see cash flow first and they don't want to lose money. And it's nice to be in a situation where if the stock market is down 30% or if it's 2008 2.0, we might not be selling anytime soon, but we're still going to be cash flowing. Whereas, other parts of their portfolio will be hammered.

James: Correct. At that time, that seven to 8% would reap some really, really good return. I mean, you are basically getting it now and you're just maintaining it throughout your market up or down cycle.

Ivan: And it's harder but that's why we look for deals that have that seven, eight, 9% cash flow very quickly. And we pay monthly on our distributions is because I like monthly cashflow. I know you do and investors you do.

James: Yeah. But is that how when you started like six units, 30 units, 35, is that how you were looking at the apartment? The perception of change.

Ivan: No. [24:17inaudible] 2010-2011. When I bought that property, it was bank-owned, REO so that those were heavy value add deals. So early on, I was learning how to reposition a property. Because that was the market cycle that we were in, the stage of the market cycle at that time. And so, I started off buying those, I bought some C properties and Bs and we're looking for more of those heavy value-add deals. And as the market changed, we changed with it.

James: Got it. That's very interesting. That's the part that I did. I did a lot of deep value-adds and you know, prove ourselves. I mean, deep value-add takes a lot of skills. I mean, even value-add takes a lot of skills or how fast the turnaround or how we manage a contractor, how you manage your finances, how do you manage your scope of work and the schedule itself. It's very complicated, right? I mean, a lot of people would have done it by skill. A lot of people could have done it just because the market appreciated, not to say because they did the job itself.

Ivan: I'm sure you are excited for those deep value-add deals to come back one day down the road. But today a deep value-add deal, we just underwrote one. There was a moderate value-add, maybe $15,000 a door and if everything went according to plan, we would make a 15 IRR.

James: Then what's the point of doing deep value-add? Right?

Ivan: What's the point? Right. Because I just bought a 1998 vintage deal. It's fully occupied. And I just told you I raised rents organically already and that's going to do a 17. And so, there's so much demand and there are so many buyers trying to crowd in and buy these so-called value-add deals that we've gone to a different strata within our space to find value. And then, when those value-add deals, get back up above a 20 IRR, I'll start taking another look at them.

James: Got it. Got it. Got it. So you have changed your strategy just because of the market cycle, and you think that is what the investors want, and you still get, I mean, a lot of investors who had even one, three, 4% return, right? So if you're able to give them like, you know, 15% IRR or 17% IRR, they would be ecstatic.

Ivan: Yeah, in my opinion, I've got to be mindful of the market and work within my marketplace. There's opportunities in every stage of the cycle. But you have to go right with the market, not against it.

James: Yeah. So how are you competing with big institutional players? Because they look for this 1990s, 2000, and they'd be able to look at the same deals that you are looking at. Right?

Ivan: Yeah. It's very hard. It's very hard. I'm very lucky that I started this several years ago. And that I've got a reputation and a track record with the biggest brokers in my region which are all national brokers. And we lose a lot, we lose a lot to big guys. I've just lost a deal yesterday for a deal, I loved it, at 41 million and some out-of-town buyers who've done it for 44 million so they can have it. A lot of times it's off-market. And then some of these submarkets that we're keenly interested in are off the radar of some of the bigger fish from out of town. And that's really how we're finding a lot of value. We know where the emerging markets are, the old Dave Lindahl approach, right? We know how to spot an emerging market and that's a key to getting that value. That's really, in my opinion, one of the only ways that you can get those returns up to where they need to be to continue to please your existing investors and attract new ones.

James: So let's go into details on how do you identify emerging market. Can you give like top three things that you look for to identify this as an emerging market?

Ivan: You know, there's a lot to it. I'm lucky that I'm in an area that I want to be in, but we're looking at infrastructure improvement is a big one. We're looking at population growth, job announcements. Have the developments. So example in Indianapolis, I know where the growth is going. I know where the good submarkets are that it'll be the big suburbs of tomorrow. Infrastructure is probably one of the biggest ones. For instance, we're buying in a market right now or they're building a brand new federal highway over the Ohio river that is going to bring more jobs and more commerce. Right?That's just a few of the nuggets

James: I think the local knowledge and the local connections, right? Just, just the local knowledge itself is just very powerful.

Ivan: Yeah. But it's not as hard as people think to find. I mean, if you're looking at the entire map of the United States and you're like, okay, I got to find an emerging market, that's going to be tough. But if you can start to focus in on an area and say, okay, what's like one rung out, where's the growth going? Where are the new big infrastructure projects planned? Where are the good schools out in those areas where people are moving to, where the housing starts, right? Housing brings commercial, commercial brings jobs and jobs bring multifamily.

James: Got it. Yeah, it's very interesting to see where is the path of progress and just go and target that where the big fish is not really looking at.

Ivan: And then if you're buying below replacement costs and you're doing it right, you should have a rental range that gives you an economic moat between what a new construction project would have to deliver and would have to charge in rent. So if I'm in an area, like I told you about Greenfield and Indianapolis, I'm in that area and right now my target rental rents are maybe 1150, 1175 target rents after renovation. If I know in that market that somebody wants to come in next door and their rents have to be $1,400- 1,500 a month just to get a shovel in the ground then, I've got a decent defensive asset. So new supply, in many cases for me, isn't as dangerous. It's actually, it can be a good thing.

James: Got it. Got it. Yeah, that was my question because in 1990 2000 vintage, sometimes can be competing with a new supplier.

Ivan: Yeah. You really got to make sure your Delta is three, four, five, $600, especially if you're buying A-minus like me. It used to be the difference between A-minus and A-plus was maybe $200 and now in a lot of markets, it's 500, 600, 700, maybe a thousand. And so, if you can figure out where to enter that market and have a large spread between you and new construction, you're much more insulated from A-plus concessions.

James: Yeah. Got it. Got it. So apart from getting good loans, because right now, the interest rates are pretty low, apart from the buy itself, you're probably buying at a certain price that you think you can hit the investor target. How do you do value-add? I mean, what do you look for in this 1990s, 2000 vintage that is common. What are the biggest value-adds that you see that is your favorite?

Ivan: Oh, that's none of your business.

James: Come on, man, reveal the secret. I have to work hard on 1980s, 1970 probably. I want to go to 1990. What are the things, apart from the price, apart from the loan?

Ivan: Well, listen, I'll give you a nugget.

James: Yeah, you can give a few.

Ivan: A lot of operators are spending way too much freaking money on unit improvements.

James: Okay.

Ivan: Okay. And so because we're vertically integrated because we're property managers and we know everything going on on the front lines, in the trenches, we know where we're going to get an ROI. We know that maybe granite countertops don't get us the ROI but really nice Formica does. We know that a yoga studio...in redoing a 90s fitness center with new equipment and a little yoga studio, it's going to get us a much better ROI than stainless steel appliances, for instance. So it's just knowing your market, it's knowing really the ROI on those improvements and how they impact rent and it's different everywhere you go. It's not like you can just take what I say, go do it anywhere. You have to know in that market what works.

James: So is it by doing market surveys where you look for, I mean, in terms of...?

Ivan: Well, remember we don't have to survey the market here because we are in the market. We manage the properties. We have leasing agents all over the Midwest that are giving us instant, realtime feedback, right?

James: Yeah. Yeah.

Ivan: But with that said, we shop our competition. So, because we control our management company and we're part of the apartment association, it's a very tight family in the apartment industry and we really hire from within most of the time because it's such a specialized job. And so, my team can call anybody on any apartment project anywhere in the Midwest and say, hey, it's Cat from Band. Can I shop you today? And they do the same to us and we all trade information on what's working and what's not. And that's really one of the really cool things about property managers, we help each other, right?

James: Yeah. Yeah, absolutely. Absolutely. I mean, it is a very small...

Ivan: No here is what we do: We shop ourselves, we secret shop ourselves. We're very upfront with our competition. When one leasing agents calling my competitor and saying, Hey, can we trade what's working, what's not? What are you guys renting for? But then we secret shop our own people and they get scored on how they do by outside sales consultants.

James: So, you talk about two things. One is the amenity where certain amenities are desirable, where you can raise rents because it's more desirable. The second thing you talk about is the efficiency within the pipeline of property management.

Ivan: Listen, nobody uses the gym but it still sells people on renting.

James: Yeah, I know. It's crazy, right? I mean, right now I'm being more cautious about what I spend on a gym because I know people may not use it. So I know there's a gym…

Ivan: Yeah but it's the wow factor, James. Oh, you've got a yoga studio. Maybe I'll do yoga now. I've been meaning to do yoga. The year goes by, I never did any yoga but I rented from that guy, James.

James: And I see my property managers using the gym, not my residents. That's okay, you need everybody to be healthy.

Ivan: #culture.

James: So let's talk about amenities. How do you decide on which amenities are more attractive?

Ivan: It's all a functional market. And, again, it depends on what marketplace that we're talking about. So we're looking, we will redo pool furniture. Bark park is an easy one to put in if it's not already there, we're typically redoing the gym. A lot of times we're redoing the clubhouse with new paint, new furniture, maybe a couple of computers. Again, things that sometimes we will never use, but just to give that wow factor when they come in to be able to close them on living there.

James: So do you increase, like, I mean, you'd be mentioned in the beginning, $100-150 per door just by adding amenities and better management, I guess.

Ivan: Yeah. It doesn't always work out that well and usually that 150 is coming from multiple areas. We're raising certain fees so maybe the owner hasn't raised pet fees or water fees since they bought the property. I get bad reviews on my website because we raised water fees to market, you know, but that's just part of it. It'll come from organic rent increases, which is where we're just raising the rent on turn. And then it comes from quick cosmetic improvements to the units, on turn as well. Paint, countertops maybe new cabinet hardware. We rarely ever take out the cabinets. Maybe new switch plates, maybe some new flooring in the kitchen and bath. Very light improvements.

James: So among the things that you mentioned just now, what do you think is the most valuable improvements that is the biggest bang for the buck that all your residents love?

Ivan: Yes.

James: Which one? You've mentioned like five or six, which ones?

Ivan: I've given you more nuggets that I should, man. I feel exposed to you. I feel like I got to tell you these things, but no, no. I'm like, keep this to myself. You know, it depends. Sometimes it's organic, right? We bought a couple assets where it was a big company. They own 5,000 units, but they still ran it like a mom and pop and they were like 20 years old and they never raised rents. If people don't move out, they don't renew them and increase them; we do. Another property, it was the amenity package that really started getting more income in other properties. So it's all those things and it's property by property, which one's going to move the needle the most. But typically you need all those components to get into that target rent. That 125, 150, 175, it's going to help you achieve your target returns over the whole period.

James: Got it. Got it. So yeah, that's very interesting. So let's go back to whatever you mentioned just now to the demand of the property, which are the residents. Do you think the residents in this 1990s vintage, 2000 year apartment residence is harder than class C, 1960, 1970 residence. How did you manage? Was it more maintenance?

Ivan: In some ways, it's less maintenance but in other ways, the tenants can also be the residents. We don't call them tenants anymore, James; the residents.

James: Yes, exactly.

Ivan: The residents can be more demanding, have higher expectations. See you've got to have the right people there that are used to managing that particular product with the income of the residents that live there. So yeah, some people would misunderstand and thinks that A-plus is easier because everything's new and shiny and oftentimes A-plus is extremely management intensive because of the expectations of the residents. So in some ways easier and in some ways not.

James: Yeah, someone told me, a regional manager told me that A or A-plus residents are much harder to manage because they have all this ego that they can pay. They expect a lot of things from the property management company and sometimes their delinquency can be high because they say, I can pay next week, you don't have to really come up...

Ivan: We find the collections are usually better.

James: Okay. Got it. Got it. So let's go to financing. So on top of agency debt you also do hard debt, right? And why did you choose some of the deals to be under hard loans?

Ivan: It's a great way to take a ton of risk off the table. It's a 35-year amortization and it's full and meaning, you can hold that note for 35 years without having to refinance yourself. So you take a lot of risk off the table. The interest rates are somewhat lower, although Fannie and Freddie have gotten very competitive in the last couple of years. It allows you to get an 85% loan to value on after repair value, so you can finance a lot of improvements as well, which is great in some circumstances. So if you want to hold the deal a while, like 10 years or more, HUD can be a good alternative. It's also very compliance heavy. There are audits, there are physical audits of the property, so you really have to know what you're doing.

We like it just simply for risk management. So we have several assets that are HUD. Big myth is that HUD means it's an income subsidized project and that's actually incorrect. HUD finances A, B, C, D assets. Their mandate is to help provide rental housing so it's available to a lot more people. A lot more assets than people may recognize. It's certainly not for everyone, but in certain circumstances, I think it's advantageous. We locked in our last HUD deal November of 2018, a $34 million deal. Locked in with HUD, our all in note rate is 313.

James: And I remember November 2008, the interest for agency debt was pretty high cause I did lock in some deals at that time and I think that was, I think, November, December is when it picked up and it came down again.

Ivan: Yeah, it was luck, we were able to catch the bottom of that treasury dip, which helped but it was still lower than the agency.

James: I know HUD like a six months once distribution, where you can take out the money. How do you do distribution to your investors when you have that kind of limitation?

Ivan: That's one of the downsides of HUD. You can only distribute every six months. That's why we don't use it very often. It's a different investor profile. Some investors want to be defensive. They want to have their money in something and they want to have leverage but they want to have downside protection. So HUD works really well but it does not provide the same sort of cashflows that agency and Freddie do, which is why we typically use the agencies. For instance, I think I said earlier with our fund, it distributes monthly; I couldn't do that with HUD.

James: Got it. Got it. Hey, Ivan, let's go to a personal side of you, right? Why do you do what you do?

Ivan: You know, for me, multifamily and growing BAM as a business is a lot of fun. Because the bigger it gets, the more fun I get to have and it's a great business for designing the life I want and designing the business in a way that it's the life I want for myself, my wife, my family. And so I liked the wealth and the freedom with real estate. Yeah, that's the crux of it. James. I've got some big goals and being a good dad and a good husband and a good member of my community and leaving behind the legacy. And for me, owning real estate and owning a business to operate it, is the path.

James: Would you do this for another 20 years?

Ivan: You know, it's funny, I got to sit down with an older guy on the banking side of our business of multifamily. He took his bank public. I dunno what he's worth, but it's over half a billion dollars. He's probably approaching 70. And he says, Ivan, you don't stop; you just play the game at a higher level. And I can tell you he's having a lot of fun, has a lot of freedom, has a lot of time with the grandkids, travels wherever he wants for as long as he wants, with whomever he wants. So I don't see myself retiring in the traditional way, I want to continue to just play the game at a higher level.

James: Yeah, it is so fun to keep on improving things.

Ivan: Yeah. And I like to tell young entrepreneurs this and people that are newer to the business, if you're getting bigger and you're not having more fun, you're not doing it right and you need to refocus on your people and your process and so that you can scale it. Because none of us can just keep working harder. It's unsustainable.

James: Correct. Yeah. That's one of the challenges that we are having and we are trying to grow and you know, it's becoming harder to find that process and people especially to replace what we do. And we have set an expectation on how things should be done, but not everybody is gonna work like what we do.

Ivan: The first coach I hired four years ago, all we focused on was figuring out what my one thing is that if I spend most of my time on that, I will be successful and then finding the right people to do everything else. And then the hardest part is from a guy that started myself and did everything myself, the hardest part but the key is getting out of their way once you hire them.

James: That's really hard. And you're right, that is the hardest part.

Ivan: I think Tim Sarah(?) said it best. James, he wrote some articles about letting little bad things happen and that's key. Excuse me, I thought I was going to sneeze. Learning to let people make mistakes even when it costs you money and letting them learn and fail forward just like you had to do, it's very freeing. And when you have a management company and you've got fees coming in every month, it becomes a little bit easier to start to let those little bad things happen. Let people fail forward, let them learn and make sure they're not just coming to you for the answers all the time.

James: Got it. Got it. Yes. The art of delegation and managing people. So it's just so hard to master, right?

Ivan: Well, if you get the right people, there's far less management. You get the right people in the right seats. That's a big part of it.

James: Yes. Yes. I agree with you. Let me ask you one more thing. I mean, you started from six units to now, almost 3000 units. So I mean, you have gone through a lot of experiences. Tell me one proud moment that you can never forget that you were really, really proud of yourself. Where you think, Hmm this is something I will never forget in my life, what is that moment in your real estate career?

Ivan: Oh, so real estate category?

James: Yes. Something related to real estate. Real estate family, I mean, anybody, just a human interaction. What is that one moment where you think that, 'I'm very, very proud that I did this and I can never forget this until the day I die'?

Ivan: So it was one of our first bigger deals, it was only 89 units. I think I bought that one after I bought [48:53crosstalk] Yeah, I bought 112. I had already bought 112 units. And so I almost passed on this deal. It was only 89. I'm like, I don't want to do a deal that's only 89 units. And it was in kind of a rough area that we thought was maybe emerging. We kind of looked at each other or like my partner and me, like six months ago, this deal would have been huge for us, why are we turning our nose at this deal? We should do it. And we did the deal, we got it at a good price and people thought we were crazy. And it was a little bit difficult to raise the money.

And we bought it from a construction guy that had already done all the heavy lifting on the value. So people thought, right, what's left to do because this guy already improved it physically, but we had the suspicion that we could manage it better. And two years later, we sold it for almost $2 million more than we bought it for, ended up selling it at a two and a half X to our investors in two years, a little over two years. And that was my first like really big home run. And I remember thinking, gosh, we almost didn't even do this deal.

James: Yeah. So what did you guys do in that deal to make that much money since it's already done..?

Ivan: We got a much better manager in place. We got a really good maintenance guy in there and of course, we asset managed them and we were able to raise rents, we got occupancies up. We reworked the utility bill back to make more revenue there. So the cap rate on that one didn't compress all that much on the sale. It wasn't just like the market went up. We just got in there and turned around the NOI because this guy was really good at making all these physical improvements and he was a terrible manager. And so we got all that straightened out and a couple of years later, had a big win to show for it.

James: Awesome. Awesome. Yeah, I remember my third deal was like, everything's done, well, I was trying to find out what's wrong with this deal and it was a smaller deal from what I used to do, trying to really analyze what's wrong. Something is wrong but it ran in and out of contract like five times and the seller was really frustrated, so he wanted someone to close it so that's where I came in at that time. So Ivan, why don't you tell our listeners how to find you, how to get hold of you or your company?

Ivan: I'm all over the internet. The easiest way to find me and my team is probably Ivan barratt.com. B A R R A T T If you Google Ivan Barratt, you can find ivanbarratt.com. Barratt Asset Management. Ivan Barratt Education, which is a site I put together for accredited investors, but they all cross-pollinate. So you find one, you'll find them all. I'm all over LinkedIn. Okay. And then if you want to talk, 317 762 2625

James: Is that your cell?

Ivan: That is my scheduler to get you on the phone with me.

James: That's going to be, I was surprised. It sounds like a cell phone, but it's not. Awesome, Ivan, thanks for coming over. Hope you enjoyed it.

Ivan: I had so much fun, man.

James: I learned so much from you and I'm super happy to know you and thanks for coming in and add value.

Ivan: Yeah, I'm sorry to miss you in New Orleans. I can't make it. I'll see you at the next one, dude. I always enjoy our conversations and I gave my banker a ton of crap, thanks to you. I appreciate that.

James: Oh yeah, absolutely. I gave you that tip.

Ivan: Oh, yeah.

James: All right, so thank you.

James: Hi audience and listeners, this is James Kandasamy from Achieved Wealth Through Value Add Real Estate Investing podcast. Today we are doing a podcast and a webinar as well because I've an awesome presentation from Jeff Adler who's the Vice President of Yardi Metrics. Yardi is one of the largest property management companies in the nation and they have a lot of data behind them and Jeff is going to provide a lot of insight, which is going to give us a state of the union of multifamily industry. Hey Jeff, welcome to the show. Jeff: Well thank you very much James. James: Alright Jeff, so let's go back to last year 2019 where we had a really good podcast. I believe that's podcast number one. Where we call it a state of the union of multifamily for 2019. So this time is 2020. So let's have a recap. What has changed from 2019 to 2020 for the multifamily market? Jeff: Well, you know, in one regard, not much. Okay. And another regard a whole bunch. So if you kind of recall at the beginning of 2019 from an economic standpoint, there was a fair amount of uncertainty. The fourth quarter of 18 was kind of a Swan dive, we had an, a big inversion of the yield curve. The Federal Reserve had kind of raised rates. Stock market had kind of gone into a significant correction and 2019 we really weren't sure whether the economy would continue to be able to grow. Would the fed take the corrective action necessary? And the economy would be able to navigate some of the trade pensions and basically the continued health of the multifamily industry would it still kind of advance at a good clip or what was the state of supply. So there was some uncertainty around some of those kind of components. And so the picture is a bit more clarified from the macro economic standpoint. The feds did cut rates, the yield curve stopped its inversion flat again. And the economy kind of advanced forward, we had 2.3% growth over the course of the year. Job formation has still been quite good. Difficulties with supply had kind of stretched out that supply delivery curve and occupancies have performed well. Overall rent growth across the country has been around 3% with fewer markets performing poorly. Some of the hot markets kind of beginning to tamp down. So the one I would say negative component in all of the multifamily world is the regulatory backlash that occurred from rent control legislation in Oregon, New York and California, which has made those markets less attractive compared to others. But the basic outlines of the economy are still quite good. I just came back from the NMAC conference in Orlando I guess it seems like forever ago, but I think it's was only last week. And there the mood is very good, lots of capital lots of activity going on. People always worried about are things kind of richly valued, and they are. But if you look at the spreads in cap rate in the 10 year, still pretty good. You look at good availability, still very good. More capital is flowing into the multifamily industry from not only outside the United States, but inside of the United States with a multifamily being one of the two top asset classes for investments. So when you look at the demographics continued to be on a positive, you look at the supply, which we do not think will be out of hand and we just finished up a new supply forecast by property almost.

Taking into account a lot of the cycle time data we have on deliveries of projects. We think that we'll actually, as a country, deliver a tad less than the 300,000 odd units that were delivered in 2019. And we are in generally speaking housing shortage contrasted to the housing surplus that we had before the crash. So it's really a really good time to be in multifamily. It's almost so good we kind of pinch ourselves and saying we don't want it to be this good. There must be something bad. What's the horrible thing that's going to happen to us? We're just having a hard time dealing with good news as an industry. But I'm cautious. I continue to be cautiously optimistic. I don't see a recession at least until 2021 and quite frankly, with the way in which the economy has kind of come through this, I'll call it a mini manufacturing recession. It didn't really affect the services industry; it did affect manufacturing and sectors exposed to trade. With us actually coming out of that growth prospects for GDP are actually higher this year than they were in 2019. So I don't really see a recession till 2021 and one could argue very effectively, 2022 but certainly we have another good year ahead of us and inflation is not out of hand in any respect. And because inflation isn't out of hand, there really is no pressure for interest rates at the short end to move higher. And there certainly is no pressure on the long end. I mean, interest rates for the tenure are back down to below one six and they were at one nine, not just before this kind of corona virus scare. But if you look at that, like if there's no inflation, then you're not going to see kind of big interest rate moves. You're not going to see big interest rate moves. You're not even going to see moving in cap rates or movement associated with a recession.

It's really quite positive. I think the biggest issue if you're a multifamily investor right now is it's hard to find deals that aren't very richly priced. You have to be very prudent with your underwriting and with your capital investment. The competition for assets is quite extraordinary, particularly in cities adjacent to California and the Northeast; there are capitalist fleeing those areas. I've been speaking to folks in Phoenix where the market for multifamily is so amazingly red hot because of all the California is trying to move their capital out of California on a gradual basis. So I think that the biggest challenge right now is to prudently underwrite and to find opportunities that make sense. And if you're going to overpay and the fact of the matter is if you're in a competitive bid situation and you won, you overpaid. The question is will the market kind of bail you out? Are you in a rising tide so that the fact that you overpay at any particular moment doesn't really matter because the investment overall will perform well as the market and your value creation strategy plays out. So, long answer James, but I'm pretty optimistic about where we are in 2020. James: So what would cause the recession in 2021/2022? Jeff: Well as I've been saying quite a while, I don't know if I had this little piece here. Let's see. I'm trying to find out how do I kind of explain, this is a classic way of thinking about, and by the way, this slide is the same slide I've had since Trump was elected in November of 2016. Alright. So seems like, okay, things are a little more positive than I think they were even in November. Alright. So the balancing act has always been the pro growth elements of the administration's policy compared to the anti-growth elements of the administration's policy. Pro-growth seemed first tax reform, regulatory relief, executive orders. The anti-growth came later immigration control, which has restricted the amount of labor coming into the United States. It has created a labor shortage which has boosted incomes at the lower end of the economics and education scale. So it achieved its objectives at the cost of some level of growth and trade negotiation. Because the tussle with China has scrambled supply chains. And so there's a little bit of clarity with the signing of the USMCA in North America and the first phase of the Chinese agreement in I think in mid January. So trade negotiation is less of an anti-growth element than it had been. Immigration control still is an anti-growth element and the program elements are still kind of there, but kind of burning their way in and nothing much has happened. Infrastructure, education reform or healthcare, nothing's happened there. So when you look at it, I would say it's more like three quarters full versus a half full that I said in November. So what would cause a recession to occur? Well if you had a sudden increase in inflation, either labor cost inflation or materials cost inflation that would raise shorter term interest rates, that would cause an inversion and then you'd have a recession. Some significant macroeconomic demand shock, negative demand shock would cause it; apart from either of those things, I don't see a response and the other thing I do look for constantly is where's the debt bubble? Recessions are classically caused by excess leverage in certain sectors of the economy. So you constantly, in my mind, I'm constantly looking for where's the debt bubble and it's a big enough to cause a recession? Right now one could argue that there's a bit of a debt bubble in consumer auto loans, not that big a deal. It's not happening in mortgage or real estate. That's clearly the case.

Is it happening in corporate debt? Yeah, maybe, but they're sophisticated folks. Is it happening to a certain extent in oil? Well, one could argue that that the factors are a bit over levered and the banks are trying to sort of reel them back in. But at 55, 60 bucks a barrel, it's not so bad. I don't see, again, when you look around and say, where's the inflation coming from? It's not coming from materials and it's certainly not coming from oil. I'll go back here and kind of show you a little bit of slide on oil production. It's not coming from oil. It's not really coming from labor. If I kind of go back a further point, not really coming back from labor, rent actually; rent, real estate is a quite frankly a bit of a driver of whatever inflation we do have because of frankly regulatory constraints to supply and the cost of materials and labor. That's kind of hard to produce supply to enter the market. So I don't really see inflation cracking over too, I don't see from the material side, I don't see from the labor side. Read some interesting papers by the way, that one of the issues we kind of are scratching our head about is with all this labor shortage. Why aren't labor unit costs going up? Or the fact of the matter is the workforce is older, is less likely to move, is reasonably productive. So there is wage inflation at the bottom end of the scale, wages at the bottom end is going up 5% but it's not enough to offset people who are retiring it at higher wage rates and slower wage growth among older workers. So even, and we've had a long history of services inflation with goods deflation and seems to play out. Now long story is the multifamily, not exactly economic piece, but the basic point is if you understand the basic sort of lay of the land, interest rates lower for longer, not really no big inflationary pressure, then income producing real estate looks really good because you're not going to get a reprising on the value of the asset and that's the way real estate works and generally you got growing incomes. So that's the basis of not believing that there's going to be a recession kind of upcoming immediately. We always thought, we're going to eventually have recession, but I don't see the basis of the pressures that would give rise to that at least for the next 18 months or more. James: Got it. Got it. So a primary would be the political climate is what you are saying could be where we might be causing some of these potential recession. It depends on what's the policy and you don't see any other big risk, I guess, right. In any other... Jeff: Yeah. So I mean, so James, you're in Texas, I believe, Austin is that correct? James: Austin. Texas,

Jeff: Yeah. So your state and your city is the beneficiary of misguided policies in other places. The growth in population, the growth in tech centers is really occurring in the South and the West. It's not to say that New York, San Francisco, LA, are not wonderful places have very deep tech hubs and tech ecosystems. But what's generally happening is that when a business decides it wants to scale, it doesn't scale. In California, it can't, it doesn't scale in New York. It scales outside. That's not the say that Google is building a big footprint in New York City to access that labor pool. That's not the say that there are large tech firms that are; just yesterday I think Google was trying to in a wall street journal get San Jose, we redeveloped the city of San Jose downtown as an employment and a commercial center. But the fact of the matter is the cost of housing and expansion is so difficult in these major gateway cities that places that are business friendly and have an intellectual capital infrastructure like Austin are growing quite rapidly. Ross, Austin, Raleigh, Atlanta, Denver, Phoenix, Salt Lake City, these are places where the tech infrastructure on talent is expanding. Texas is a beneficiary of having a great business climate. And so population and I think I have a little slide on this one here, population is moving as one would expect. Population is moving domestically; Vegas, Austin, Phoenix, Raleigh, Charlotte, Nashville, Orlando, Dallas, and Denver. You know, these are places that have significant domestic inland ratio. If you look at the other, I'll call gateway cities, they have a significant amount of domestic out migration and in the past they really were covered by international immigration. Now that as coming down a population in the US is growing at seven tenths, I think now six tenths of a percent. So these cities over here are growing quite rapidly. And Austin is one of the beneficiaries of that. Jeff: Got it. Got it. So what about, I mean, in the beginning you mentioned about the cities just outside of California or like Phoenix, I mean, Phoenix and Las Vegas is beneficiary or people are moving out to California and why is that? Why is that driving? Why not they come to Florida or Texas? Why is Phoenix and Las Vegas which had a huge cycle in the past crash, it went from hype to so down. Why are they like now? James: So if you think about it both in New York and in California, you have a hollowing out of the middle. And so if you're extraordinarily wealthy, so let's convert this to almost a apartment investment discussion because of the structure of the economy if you can build a class A property in Northern or Southern California, you should continue to build it. They will continue to get occupied because there are a reasonable number of people that have continued to expand at the very high end of the market.

Jeff:

Got it.

James:

Conversely, in the very low end of the market, it is a draw for people from around the world who want to get a start in the United States. But if you're in the middle of the income stream, then your life isn't that great and your costs are quite high and you can improve your quality of life by going someplace not too far from where you are. So if you look at California, the people streaming out of California, Boise, Salt Lake, Phoenix, Las Vegas, and yes, companies are moving all the way to Dallas. But there's a steady stream of the middle income and I would say and low income and it will cost 50 to 150,000 a year. Educated, skilled, but not at the highest level, not the half a million dollar a year kind of thing or $300,000 a year, but right there in the middle. Now the same thing is happening coming out of the New York metropolitan area, New York, New Jersey, Connecticut, and that's streaming to the Carolinas and into Florida. That's what's happening. Orlando has a little bit of a bump from Puerto Rican immigration, but there's pretty much people streaming out of there. And if you're talking about people leaving Chicago, they're going more to the Tampa where they used to go for winters. The new workers are going to the gold coast and the people in Chicago go to the Gulf Coast and down to the Carolinas as well. And Carolina is Georgia and so forth. And this is just where, look at the numbers, look at where the people are coming from. I mean it's in the numbers, it's in the cost structure. Certainly the tax bill that it went to effect in 2018 is pushing people at the margin on a slow roll kind of basis, adding a little extra push to what's been going on otherwise. And so when I look at where the population is growing, where the new supply is going, where intellectual capital is moving this is what I see. That's what I see and that's where an investment standpoint, my own view is you want to be in places where the tide is rising. It's easier to make money where the tide is rising and populations are growing and the economy is boosting incomes and it is to kind of swim upstream. I'm not saying you can't make money in Buffalo or Syracuse or Cleveland, but it's tougher. James: Awesome. Yup. Yup. So Jeff, I have a question in terms of the rising, I mean the capital is comprising the price of buying an apartment nowadays as reason now from, I mean if you look at Texas in Dallas, Austin and San Antonio and I think everywhere, I think everyone across nations. It used to be 50 a door to buy an apartment. Now it has gone like 80 to 100 and in some places 120, 130 a door even for a class B and C properties. So how does it make sense? Because you can construct new class A with that similar cost, like a hundred, 110, you should be able to? Jeff: But no actually you can't and that is the entire point. Because of restriction and again, we're obviously talking about the city and which part of the neighborhood, but the fact of the matter is that construction costs have risen significantly and regulatory burdens have risen significantly, particularly in kind of urban cores so that the cost of constructing new products is higher. Now there is a lot of work being attempted to bring down the construction costs through prefabrication, through potentially regulatory streamlining. But it's not as easy as it seems and there's a lot of institutional resistance to it. I've spent the whole year trying to help crack the sort of affordability code and it's literally just buried in a swamp. I mean, it's just, it's ugly. So can you build, if a city planner will let you build essentially what it was eighties product on sort of suburban ex urban land. Then yeah, you can deliver it at maybe 80, a hundred thousand dollars a door. But it's very hard to do so. And as a result, so if you think about values, values are driven by two things. One, what's the next best alternative? And two, are our incomes growing to increase the value of the asset? In multifamily, you have both of these dynamics happening. One, because of the general shortage of housing and the higher cost of adding capacity rents are rising. So if rents are going up three percent, NOI is easily going up five to six. Plus given the fact that interest rates are lower for longer and there's capital streaming into it that is saying, well my cost of capital is lower and all the institutions which started this cycle 10, 11 years ago, only in the urban sexy six all of them are spreading out all over the country and they're bringing their lower costs of capital with them and their lower return expectations and that is having an impact on values.

A third component I would also argue that kind of fills into the second one is that as cities grow and develop, and I'll use Austin as an example, Austin has become an institutional grade capital city. 20 years ago it wasn't, you had opportunities to capital, but now it is. So what that tends to as a city changed in its nature and becomes more broadly diversified and more accepted as having a broader economic base, institutions with lower cost of capital and lower return expectations now make it appropriate for investment and they drive up values. So it's kind of tied up in a second lot that I discussed. So multifamily is really in a situation where yes values are going up, but the real question you have to ask yourself is what does the future hold? Are the conditions under which the fact that the values went up are those likely to continue or are they likely to end? And like I almost hit myself over the head, I don't see how they end. So suddenly, admittedly we had always expected as a homeowner interest rate would increase a little bit and I think it's up to 65%. But it's down from 69 but up from 63 and we are going through a period of time where the millennial are getting older and they will want to live in basically the amenity if they have had children, more than one, they are more likely to want to live in the suburbs in better school districts, which is in the historical pattern. So, but be that as it may have, demographics are still very much people are renting for longer. They're getting married later. They're having fewer children. All that was elongating the rental period initially.

And then as people are living longer and living healthier they are selling the house and then moving back downtown in a multifamily asset. That one asset class you really have to worry about are very large suburban homes that are sort of ex urban go to Fairfield County, Connecticut. You can buy a big estate for a relatively speaking a song. Nobody wants to live there. The taxes are too high. It's too hard to get to New York. There's no reason to be there anymore. That asset class is going to experience some real problems, but if you're near an employment center with a modest sized home or apartment, you're going to do okay. James: Got it. Got it. Yeah. I mean, you don't see anything in the horizon as long as you're by the employment center you should be good from what we see right now.

Jeff: That just looks pretty good. So yeah, that's when someone says, okay, the careful thing you have to be at worry about excess leverage and overpaying. That's the biggest problem one has to be concerned with right now is there will be a recession. I don't know when. But you do not want to be in a situation where you are squeezed out during a recession because you're over levered and you have a debt maturity and you basically you get pushed out of a great long-term investment. That's the biggest concern. James: So let's say we have a recession right now, so the rents are going to drop. So if you have a long term loan, you should be able to ride and you should have some cushion in your operation cash flow. But one trick that has happened, not say one trick, one thing that has happened that what I realized in 2015 onwards, there used to be a lot of interest only loan started being given out by lenders after 2015. I don't know. That's what I feel. I know I used to be very hard to get even one year higher loan in 2015 and now it's like so easy to get three to five years higher loan. So it's the lenders that made it easier for people to buy and extend this expansion boom? James: Yes. I mean, so what they're doing is in order to sort of compete to get the loans, while they're not reducing the LTV percentage, they are allowing you to go IO and not pay down the principal which effectively helps you pay more. That's what it does because you have time for the rents to rise. So that by the time the loan comes due, you can refinance it and do okay. So certainly if you can get an IO loan for three to five years and increasingly you can fantastic. If you're a 65% levered, you can ride out a 5 or 6% reduction in rent that do occur in a recession. Obviously the reduction in rents will be higher at the class A levels than the class B, class B has got some more insulation. Value adds assets right now are priced to beyond perfection. So a lot of folks are basically saying, particularly in the institutional level, 150 units and higher, 90's or 2000 vintages a lot of the folks that I talked to were just saying it's not worth it. The prices are basically, I'm going to work for somebody else. I'm paying him all the profits from the value add. There's no point doing the work. So they're going back to, it's called core plus or kind of just building new again because those are the better returns converted value add. So the value add, you can still make work but you may have to sort of go under 50 units. You may have to do something to avoid the institutional capital pressure on values. And I saw about a year and a half ago credentials saying they were suddenly going to enter the value add space; by the way, I love credentials, they are great people, but it's kind of like run for the hills man because they're going into a value add place where you know there's an innovation risk. And that's not something they usually price too. I usually price to kind of a buy and hold deal. So they're not the only institution. A lot of institutions have found values add, but they found it as usual a tad late. Jeff: Got it. Got it. So I want to come back to the high leverage comment that you made. So on a value add deal, usually even though you buy it at 1.25 DSCR. So, for example, most of the banks gives us a loan at 1.25 but when you do value add that 1.25 could be 1.85, [31:22unclear] in a couple of years. So even though...

James:

But when you're done [31:31unclear] in-going with the expectation that you'll invest in and raise the rents and then you'll be at a 1.75 when it's time to cash out. But my point being is, if you're paying a lot and you're not getting a big pop in the rent relative to what you paid, then that 1.25 may not move high enough to cover the risk. Remember, building a value add as anyone, I'm sure you and other people know. There's a lot of hard work. I mean, you've got to sweat for it. There's a lot of sweat to make a value add work. It's not just doesn't show up on its own. And I've seen a lot of value ads go horribly wrong. Because people didn't get the ducks in a row. So it takes skill to do one. But the fact of the matter is values add is really from a public policy standpoint and indictment of the inability of supply to expand to meet the needs of upper income renters because that's really what happens. What ends up happening is because there's not enough supply at the upper end value add is a near price substitute for new supply. It also happens to withdraw supply from the lowest income consumers. That is what it does because you don't add a new supply at the bottom end of the scale. And one could argue that the rent control in New York and rent control as executed in California are essentially a rebellion against value add because in New York they basically wiped out the value added trade entirely. And in California they basically changed the value adds from a maybe a two to three year exercise to a seven to eight year exercise. But remember they didn't say [33:30unclear] it's very difficult to build in any one of these locations to get through all the permitting and the environmental zoning and all these other kinds of garbage. But they're not stopping luxury housing. What they're trying to do is stop the value add trade because there's no structure to add supply in the middle to the bottom end of the stack. And the fact of the matter is that the public policy response is short term in nature. So rather than solving the root cause they are basically kind of putting a Band-Aid on the symptom and that's unfortunate. It's bad public policy. But I don't see it changing James: That's very interesting. Never heard anyone looking at that perspective that I know it's basically a going against value adds in that cities that's why the rank [34:25unclear]. But it absolutely makes sense. So I want to ask before we end because we are almost to the end, I want to ask a few more scenarios that may cost impact to the apartment; and you can answer it quickly in a short. Fannie and Freddie Mac becoming private, what could that be impacting? Jeff: Well obviously the intent is for there to be no impact and their current program and current capacity of 20 billion a quarter each without any kind of green exceptions is kind of, I'll say, calm the market. So it's always been profitable. It's been the most profitable part of the, the GSEs there is, I think, and the NHC and NAA are doing a fine job communicating to Congress the fact that multifamily isn't the problem. The blow up was in single family housing underwriting. So if you look at Brickman, David Brickman became head of Freddy and he came out of the multifamily industry. He was in charge of multifamily for Freddy. Now in charge of all of Freddy. So in my mind, that kind of bodes well because at least from Freddie and Fannie, they know how to make money doing what they do for multifamily. I mean, they make money, they know how to make money. It's always been profitable. They could rebuild their capital cushions relatively quickly. I think the issue will continue to be how does Freddie and Fannie support single family home ownership without pushing so hard on home ownership that it blows it up like the last time. So how can they retain their underwriting criteria? The fact of the matter is, should they be differentiate pricing by market for single family. They don't really do that and do that for multifamily much either; but they are supporting their mandate and really if you think about it Freddie and Fannie's mandate is to supply multifamily capital where the life insurance companies or other places won't go, which really is the middle of the stack. A smaller to mid size markets, class B assets. It's one of the reasons why Freddie and Fannie don't do construction lending. They say that's a commercial banks business. It's not our business. And so I'm optimistic that it'll all work out okay. It absolutely has been a tremendous boom to the multifamily industry to have Freddie and Fannie because it basically puts a lot of stability into asset pricing, but I think it's quite recognized. So I'm hopeful that that won't cause disruption. James: Got it. How was China's economy slow down could impact the US economy and multifamily? Jeff: The fact of the matter is the us economy is mostly driven by services and the dynamic and technology services in particular. So if you think about the recent trade spats, which really slowed and began separating the economies, the places that got hurt had a manufacturing or agricultural bend to them. Minneapolis, classic example right there. Even their urban jobs were tied to those sectors and then they lost employment. So I don't think it's a tremendous problem. The fact that there's excess capacity in China, for example, means that goods costs even less, there'll be less inflationary pressure on goods. What we sell to the Chinese are primarily agricultural goods that are what we sell. And anything else ends up being produced there with our intellectual capital. So, I think according to the trade agreement they'll buy some more agricultural goods, which will help rural areas, but they weren't big multifamily centers anyway, so it doesn't really have an impact. And for manufacturing centers, those were pretty much, manufacturing takes a lot of land that occurs in ex urban and rural areas where rents are low multi family, where it's done well is where it's tied to intellectual capital and technology that drives down costs globally. So all in all, I don't think much is what I'd tell you. James: Got it. Got it. And that's one piece of advice on how to be prepared as we move forward. And in case there's a recession, what kind of what would you advise a property investor that already owns a property or is going to buy a property? Jeff: Yeah. So I mean, first one should mind dependence. This is a relatively speaking low margin business. There is a increasingly systems and technology available to sort of squeeze expenses down. So the way one prepares for recession is always to really look at your cost structure and re-examine what you're spending money on in a very meaningful way. You need to sort of be mindful of your leverage and model up. What happens if your rents go down five or 6%. Remember, it won't happen all at once. What you'll see is the new leases will go negative, renewals will hang together. You will have a higher skipping of the upgrade. So you kind of need to model out what happens to you and in a recession, I don't think it'd be a big one, but only a mild one. What happens? Are you prepared? Do you have a cash flow reserve? Have you spoken to your investors and your lenders already about what you would do? So are you prepared? And then I'm chairman of a ULI council and our council members, about a year ago, we went through a recession planning exercise. Like what kind of recession we're going to have and what are you going to plan for right now; and so every one of the organizations that I was working with had had a recession scenario plan in place about a year ago. Not that they had to execute on it, but everyone had one. So what I've experienced in all of now I've seen through four or five recessions and a big blowout is you need to have a plan, you need to be prepared, in a calm moment have thought through what you're going to do because in the moment in the crisis your brain just doesn't work that well. Under that kind of stress you don't think it through. So I would argue whatever organization size you are, if it's just you and your spouse or you and a slogan of investors, spend the time now to come up with a recession plan, put it to paper, talk about it. And then begin asking on the steps that you can take right now to prepare yourself. Again, I hope you don't have to do it, but weaning and hoping it'll never happen and not being prepared for it is a sure fire away to not be able to capitalize on it. And we had a great session from Clyde Holland who basically he capitalized on recession. He's a chairman of Holland partners' pledge, great guy. And he basically in preparation, he saw something bad coming in oh seven, he basically slashed costs built a lot of dry powder and basically waited to pounce and came out of the recession incredibly strong. Now I don't think we'll see another recession like that one in front of their 80 years. The recessions we're going to see it more like the typical post World War II recessions. But you can get yourself prepared and you can be ready to act. And with that James, I have to run. It's been a real joy speaking with you today. Take care now. Bye bye.

James: Hey audience and listeners. This is James Kandasamy from Achieve Wealth True Value Add Real Estate Investing podcast. You guys should definitely check last week's podcast where we featured Dr. Glenn Mueller who has 45 years of commercial real estate market cycle analysis experience.

And he is the one guy that most of the institutional big players sought after to find out where are we in market cycle for the different asset class or property types, as he calls it, right. Apartments, industrial, hotels, warehouse and, you know, a lot of other property types in commercial real estate. So it's an awesome show. It's called commercial real estate market cycles state of the union.

You guys want to check it out. There's also a webinar that came with it. So you want to send me an email to get into that webinar if you want to see all the slides that he presented. And today, I'm happy to have Corey Peterson from Kahuna Investment. Hey Corey, welcome to the show.

Corey: Thank you, bro.

James: All right, Corey. So Corey has been having like almost $95 million in assets that he has acquired and manages and he by across seven different states and he does some of the student housing and some of the conventional housing. We're going to go very deep into his operation, his structures and how is he killing it in this age of, you know, commercial real estate and how hard is the market cycle right now. Hey Corey, did I miss out on any of the introduction you want to fill up?

Corey: No man, no, that's it. We have the best selling, I'm a best-selling author too.

James: Got it, yeah. Awesome. That's the copy your Secrets to Success, right?

Corey: Yeah, copy your way to success, standing on the shoulders of giants.

James: Awesome.

Corey: What I've done all my life, I've just copied other successful people.

James: Yeah, absolutely. Why you innovate, right. So you just copy the guys who are being very successful, work hard and --

Corey: Good chance you'll be successful too.

James: Absolutely. So Corey I mean, when did you get started because I heard this Kahuna Investment and I thought some company out of Hawaii doing this and I was very intrigued. I mean, it's a nice name. I think it's a good brand and --

Corey: Oh, thanks.

James: Saw your pictures walking on the beach with your wife and making it like everything is, you know, very nice.

Corey: And sunsets and palm trees, baby.

James: Sunset and palm trees, yeah. And then this other thing that you always say in the last part of your podcast, what is that?

Corey: Your paradise is possible.

James: Your paradise is possible, yes, absolutely.

Corey: You know, I started my company in 2005. But really how I got into real estate is back up about a year before that 2014, something magical happened to me and my mom was married to this man named Bruce. I call him Bruce Wayne, okay. He wasn't Batman but he was loaded. He had lots of money. And he had a house, guess where? In Hawaii.

And so I got invited me and my girlfriend, now my wife, 17 years, got invited to go to Hawaii. And we get there and the guy has a house right on the beach. And I mean, it's nice, he's got nice cars, he's got fine art. And I mean, if you ever been to Hawaii, it's a magical place, magical. The mountains and the ocean and just, it was really cool.

And I remember walking the beach, walking the cove and I was looking at his house and I'm like, man, what does this guy do? Because he had something different that I've never seen in most people because he had time and money you know. He really had a different aura about him. And so I asked him like, what do you do? And guess what he said, he said he was in real estate and he owned apartments.

And so I left the island thinking that he was the 'big kahuna', he had time and money. And then about six months later I read the book called; Rich Dad, Poor Dad and I realized what Bruce did. Bruce was a real estate investor that bought multifamily apartments. And so in 2005 you know I read every book I could on real estate and I was ready to jump in and I had to sit down and name my company.

And I was like, man, I'm going to name it with the end in mind of where I want to end up. I want to be the 'big kahuna'. So I called it Kahuna investments. And I've been on the journey ever since man. And what's crazy is I might be buying his house next year.

James: Oh, that's like the vision board, right?

Corey: Yeah.

James: And then you might be buying it, that's awesome.

Corey: Yeah, so it's gonna be pretty cool.

James: So what did you start, I mean, you realize that this guy, you know you saw one guy who you know who has a house and he revealed that he buys apartments, invest in real estate. So what was your first step to getting started? I mean --

Corey: Well, you know, I actually did a self-assessment said gosh, well, I'm not anywhere close, I didn't have any money or credit. I started off as a wholesaler. I went to the local RIAs; Real estate Investors Associations and sat around. And you know, I asked the people that were hosting the event, hey, who are the players? And they'd say, you know, this guy, this guy, and that guy. And so I would just make sure I sit right next to him.

And then I'll be asking him, hey, where do you guys like to buy? How much rehab do you like? And you know, really kind of figure out what their model look like. And then I'd be like, well, I find deals like that all the time. Would you pay me a fee that if I could find your deal like that? And they said yes. And so I started wholesaling. Then I actually did something that changed my life forever. And that's probably what we'll talk about; is I raised my first piece of private money.

And I did it by accident and I did it with a guy, I was asking him for his help. I wasn't even asked him for money, I was just sharing my business plan with him and then he eventually said well, hey I'm interested, can I invest in that deal? And that really is my secret sauce of how I've raised a crap ton of money. Last year we raised 10 million dollars of private capital. That's not too bad. And, but more importantly, is we get it really cheap. We raised cheap capital which I believe most people are overpaying for their money right now.

James: So let's go into, deep into the cheap capital, right because that's very important in this market cycle. So I don't believe they are deals which are expensive, I just believe that you can pay for it or your money's not cheap enough to buy that deal.

Corey: Right.

James: You can find people who want zero percent interest in the world, right because they may be getting some other tax incentive and that is okay for that. Right, so I think one of the golden nuggets in buying deals in this hot market where everything is expensive and you're competing with all the syndicators and all this, you know, institutional buyers, a lot of people from the coastal cities is to find investors who are willing, who believe in you and who believe in the, the risk-adjusted return, right.

So where you have really good investment, you know, even though it's lower return but really good investment, good operators you know. So people who are willing to, you know, take lower returns compared to what we used to have in the past three to five years.

Corey: Well, now it's lower returns based on what, right. So let me, so we'll start by doing that. Now, my background was a financial advisor. I was actually a financial advisor as well, right. So I sold stocks, bonds, mutual funds, CDs, bonds, all that stuff. I worked for Edward Jones. And that was my MO, is to go raise capital and you know, and put these people's money and investments, typically just mutual funds.

And I'm going to tell you that there's trillions and trillions and trillions of dollars out there that are investing in the stock market and IRAs and things like that. And so, and what's the average return that they're making in their accounts? And I would say if you ask most financial brokers, they would say six to eight. If someone had a blended return for all their stuff, they're like, hey, if you can make a six to eight percent return, annualized return, that's really good.

Now, then you have what we call what you're talking about, I call it smart money. And what I've learned to do is not fish in smart money pots. So I'll give an example of what I mean by smart money. That's, you know, you go to a real estate, multifamily convention and everybody there is the smart money, right. They're not going to give you their money for you know six to eight percent or 12%, they want 20% and they want a piece of the GP and they want a piece of the back end. And they want all the upside.

That's how smart money works or, you know, family office money, that's the really smart money, they want to use the power of their money. Like we got all kinds of money and if you want it, we want a big piece of the deal. And they let you have a small carve out as the syndicator as the, you know the one that's bringing the thing but they put a high price on the money. And so what I've learned to do is to flip the script.

And I'm telling you, I don't know why people don't do this more because when you really look at the opportunity, the one thing that we can do. So he who has the cheapest cost of capital, in my opinion, wins, right. If my cost of capital, that's why REITs and all these things are so powerful because they can raise really cheap capital and they're raising, you know, millions of dollars. So how do we play the same game that the REITs are playing but planning on a smaller scale?

It goes to them trying to find the right avatar for money. And so I've simply defined the right avatar, what my target person looks like is a doctor, dentist, lawyer, heavy or high professional, high-income earner that invests in the stock market, that's it. That's all I'm looking for that they don't do anything with real estate, they don't even know real estate out there. They wouldn't have a clue on how to do it, they don't go to conventions. They don't meet where real estate guys hang out, they just go to work.

And there are lots of people out there like that. And so if you can go reach people like that, they're getting six to eight percent already in their retirement money. So if you can show them 12% and by the way, so we structure well, we'll go through the structure too maybe. But you want me to talk about structure a little bit too?

James: Yes. Let's talk about your syndication structure because it's very interesting. And we can come back to the, you know, the how do you source, you know, that type of investors.

Corey: Yeah. So what, I started to try to titrate this down. It's kind of like a science experiment. When I first was raising money, it was like, let's give 20% and all the backend that's how I started like everybody else because I needed to find a deal,e I needed a track record, I needed to prove myself. So sometimes you got to have to give up a lot just to be in the game. And then as you start getting experience, you learn to titrate it down.

And so my structure is this. We provide a six percent pref to investors with and the way it reads in our ppm is it's a six percent pref that upon disposition or redefine they get an additional, get a total return, including the pref of 12% annualized. Okay? And so all that means is that and it's actually on the back end, it's a 50/50 split until they get a total return of 12%.

And so, and what that means is that so they're getting six percent pref, we understand what that means. They get first dibs out of the profits and then on my sell, all you got to do is hit another six percent annualized for as long as they've been in the deal and then they get no more money. So my investors will only get a 12% total return. Now, why would someone do that if there are other syndications out there?

And here's how I've learned how to pitch it and talk about what we do and why we think we're different is because we're trying, what we've learned is if we can create consistency in the marketplace, that's what investors want. They want solid dependable deals that can pay, you know, quarterly checks, we pay our investors quarterly. And when they do that they're willing to take a smaller, lesser return.

But in their minds, it's not less because most of my investors are in the stock market which is currently six to eight. So 12 is winner, like, so if you ever go to a financial advisor and ask them, is 12% of great return? Most financial advisors are going to say what, yeah. Like that's my opinion. I mean, that's kind of what I think.

James: Yeah, it's also a risk-adjusted return, right? I mean, 12% on something that you can't control versus real estate, right, which is, you know, much more low risk compared to a lot of other investment, is a much better return compared to --

Corey: Yeah, because they look at, you know, it's the roller coaster, right. Like, they really look at the stock market, they know it's a roller coaster. And one of the ways I try to educate my avatar, those people that are in that, like, a lot of times, I work with a lot of retired people or close to retirement. And so they've had their 401k or, you know, their solo one case for their practice and stuff like that.

And they've got a million or two million dollars of money sat there, that they've grown over a period of years. But now they need to produce a paycheck. And so that, and their minds are already thinking about I'm going to go to my broker and, you know, at this point in time, they're thinking about how long do they have to retire, right, how many years are they going to retire you know.

And now that number keeps getting longer 25, 30 years and so then they start worrying about am I going to run out of money and how much do I need? And so then they asked their advisor, hey, what can I invest my money in and not have any risk? Well, stocks that's risky, mutual funds risky. So what's left are bonds and CDs. Well, CDs, don't pay anything so then it's a bond, maybe a bond. And a bond typically yield is maybe three to four percent and it only pays annually.

Well, that's not really good for someone that needs to budget and create, you know, and pay bills. So if the average is three percent that's what a financial advisor would tell you, if we give the six percent pref, now, they're like, hey, I can make, I can budget and create and have a paycheck and I'm doubling my paycheck based on what my financial advisor was going to give me.

But then, you know, there's like, hey, but wait, there's more. There's the backside of, you know, guess what, our tenants because we do apartments, our tenants expect rents to go up. And we never disappoint them ever. And so, you know, as we raise the rents, we're going to raise the value of the property and so you'll get to share some additional profits at the end. And so in investors' minds, the avatar that we talked about to six percent is already great.

A 6% payer that pays quarterly, there's just not, there's not something out there in the stock market that does that good and consistent. And so we solve that problem first and then it's like, but the bonus round is you get more money in the end. And they're like, oh my god, I get more money. So now I have a chance for growth or at least keep up with inflation because they're going to be retired for 20 years. You've got your buying power has to keep up and ramp-up too.

And so that's the story that we tell them and we've been really successful in raising six percent and I call it six and six, a total return of 12. And then what it does for me, it lowers the hurdle. It lowers like between the deals that when investors when I'm looking at a deal and if I didn't have cheap money and I was at 20% or 20 plus a lot fewer deals qualify to be deals.

James: Yeah, absolutely. I mean, you should be able to find higher-quality deals, you know, because the money is cheaper, right? So let's go to step by step on how did you build this niche investor base. Because maybe it's not niche, maybe it's just a model perspective, right? So it's just maybe we are just not looking at it or just, you know, used to giving --

Corey: Yeah, this is great. Now, this is gonna be really cool. So I should have my wife here because she'll tell you how she does it. Now, I'm pretty good at it but my wife's master. Now, my wife comes from the pharmaceutical industry, okay. And this is kind of how we stumbled on this and why we're doing so well with it, is her background was pharmaceuticals.

And every day she'd go in and talk to doctors, dentists, well, hers was just doctors but it's, we've realized it's the same talk, no matter if it's doctors, dentists, chiropractors, by the way, we don't like talking with doctors as much as we like dentist and chiropractors. Those are our two really places that we hit. And Shelly goes in just like she's a drug rep, right and we're actually training, we've actually just hired our staff. We're actually hiring just people to go out and represent my company and go out and tell the Kahuna story.

And what they do, I mean, we go door to door. We go every day, door to door, she goes and knocks and talks with doctors, dentists, chiropractors. And we tell, you know she does lunches, and all we talk about is the power of apartments. And we tell our story and then we set lunches. And then every month we have an event where we bring all those people that are interested and I tell them, you know, give them the big picture. And then I show them how they can use their IRA to invest in real estate. And that's, it's no harder than that's all we do.

James: So do you focus a lot on getting IRA money or do they also give cash?

Corey: IRA money.

James: IRA money. Okay, got it.

Corey: That is the secret, kids; IRA money. Now, like okay, so what it's not great for and this is now, you have to build this up. It takes a little time. But listen, ask me how many people bug me when I'm in my syndication? Like you know what I'm talking about like that one investor, sometimes it's the big dog that's got all the money, right? And it's like, what's this? What's this? Oh my god, what's this? Said no one ever in my deals. Why?

James: All IRA money, right, something that they can't touch anyway.

Corey: They're quiet as a mouse, they're just happy man. They're happy with 12%, they're like static. They're cool, man.

James: If someone wants to put cash, would take it as well or --?

Corey: Yeah, I mean we take a lot of that money too but the difference in our avatar is that type of person. They're busy working anyways and all you got to do is do what you say you're going to do. So if you're gonna say hey, we give a complete monthly financial package, we call it our dashboard. It's about 100 pages, right. Gets a really complete overview of our properties, it goes up every month.

But it's so detailed and then we kind of, I usually write, you know, a couple of paragraphs of what's going on in the deal and we meet their expectations. I tell them, this is what they're going to get, they do get it, they get it on the time that I said. And then everybody, I mean, no one really complains or has lots of other questions, there are no squeaky wheels, really in our deals which is great.

James: Yeah. So let me recap the secret, right. So basically, you have, I mean, you and your wife have this connection where, you know, you have these high net worth individuals and you look for chiropractors and dentists, right and why not doctors?

Corey: You want to know the real answer.

James: Is it because --?

Corey: It's because they're broke.

James: Okay.

Corey: Doctors are broke, don't let it, general practice. Now specialists not so much, right, so we like specialists but we've just found like the chiropractors and dentists are working with cash, right. If your teeth hurt, you're going to go get a pulled. And I just like those guys better. Doctors seem to have God complexes and I know I'm absolutely stereotyping in here so I apologize. But like, I'm trying to be blunt too that, like, I know my avatar.

When you're looking for money and you have a certain type of money that seems to do well, why try to go find something that doesn't? Stick with what works and just do more of it. And so we found those dentists and chiropractors are very warm to us and are easier to access than doctors and love the story. And a lot of them are just having a financial advisor. So what we like to say is that we're just an alternative to the stock market.

So our whole marketing is just geared up to tell them a story, right, get them interested, they raised their hand, said I want to know more. They'll usually come to one of our monthly events or they might do a one on one, they can do a one on one with Corey. And then we start working to create a substantive relationship, right. And so we have, you know, what, basically we tell them our story and then say if you'd like to learn more about us, you know, you got to fill out our credit investor.

And so then they fill that out, now we have documented. We've got usually a couple more types of correspondence and we have a whole email process that goes out. And we found that it's very effective in cultivating new leads, we'll call them new leads. And you know, they all are ready at different points in their lives. But there's, what I like about it truly is that it's a local, we have a big local presence here in Phoenix.

James: So a lot of your investors are Phoenix base?

Corey: Yeah. And more and more I like, we're actually, it's becoming more and more. And we're kind of really excited about that because we want to start doing galas, right, some galas and stuff at the end of the year, let's do a fundraiser or do a charity event where we can invite all our investors, they can mingle. And you know, we can set the stage for that kind of stuff, super excited about it. And to me, that's how we're going to get more capital too, it's just by loving on our ones that have money now.

James: Yeah, absolutely. If you work, if you take care of your current investors, you know they're going to be recommending others to and they're going to be just comfortable with you, right. And I mean, a few days back, I had an investor with me, they said there was one-liner question to me. James, can I have an investment opportunity, just like an annuity?

He just wants like, just give me cash-flow in consistent which is, I realized there are so many investors out there who want that, right and you are very right in terms of finding that people who want it and you should be able to cater for them. And that's okay, right. There could be some guy out there who's promising 20%, 25% IRR but he may be some random guy who they can't trust right.

Corey: Yeah. And I see that going on in the marketplace. I know you do, too. There are so many people out there that are especially new syndicators that are coming out and they don't even know what a deal looks like, and they're offering these stupid returns. And I see it all the time where people promise something but what they deliver is absolutely different.

James: Correct.

Corey: And so I just say just, you know, we want to give a real return, not a, you know, smoking crack return but just a real one.

James: Yeah. A lot of people that have made a lot of return just because the market is compressed. Right? The cap rate is compressed, not because they did a damn good job.

Corey: They didn't do anything great, it's just because the market, yeah it covered up a lot of mistakes. And it's coming, change is coming, we both know it. And those people are going to be found out quickly.

James: Yeah, at some point, yeah, absolutely. I mean, it's becoming a market where you have to be a strong operator to really do well in this market, right. So let's go to a bit more detail into you know, nurturing this niche group of investors, right. So you have them and you have this monthly meeting. And is it at night, is it on the weekend and what do you --?

Corey: It's usually at night, well, it's in the night and it's usually on the weekends. We have started trying to do a 'lunch and learn'. We call it lunch and learn, it's not as successful as anything. But on the evening ones, we don't do a big dinner. We do an event, we have some cocktails and it's only you know, an hour and a half, two hours long max and we're just really efficient, we just tell the story.

Usually, I'll do it with an IRA partner, right like specialized IRAs or you know like you know, quest somebody that's because I'm going to show them the why apartments and I call it, I have a canned speech I called the power of apartments. I just talked about what I'm talking about in that speech is demographics and what we do like our special size, which is, you know, you talk about the baby boomers, they're all downsizing, they're renting apartments. You got millennials, they don't want to own; one more people are choosing to rent more than ever.

We talked about the climate, then we talked about the product, which is we buy old apartment buildings, affordable housing, not section eight and then we also do student housing. So we talked about those two groups of things. And then we talk about why apartments make sense, you know they take, you know, cash into, they are like factories, they take in cash in the form of rent checks, they grind it through the factory process and it spits out profit out the back door. That's what we manufacture.

And, you know, then they're like little cities and we don't need every you know, if everybody doesn't show up to work, we're okay because it's a community. People understand that sometimes you got to talk in metaphors with people so they can understand the concept. And so we do that at an event and it works out really well. Most people actually fill out our accredited investor form there. So they can start. And then we set up a one on one calls with them to talk and kind of go more in detail about their investment goals and strategies.

And really, we're trying to see if they're the right fit, we don't want just anybody to be a part of our investment group, right. And we call it the deal room. So once we feel like they're the right fit, then we accept them into the deal room. Then we start another kind of drip campaign which is an email marketing campaign that talks about who we are, our team, our process.

And you know, there are about four or five canned emails that go out over, you know, one a day for five days, just to really tell and let you know don't take our word, hear one of our investors so we have testimonials built-in. So the whole time and then not only that but we also, let me see if I can grab this real quick. For anybody that's you know watching this, you know, we have a whole can series of direct mail carts, you know. And so we believe that these things, so we hit them with direct mail, we hit them with emails, we really take the time. And this is my favorites, right, the cash flow life.

James: So it's a paper copy that you sent to them as a mailer?

Corey: Yeah, these are just a just regular, you know, cards right and that has a nice picture and then a little story at the end. It just says who we are. Again, all we're trying to do is we were setting up the long game and you've got to set it up by doing something different and we like direct mail a lot. Everybody does email but direct mail is a lost art. And so that's our nurture campaign.

And then from there, we just have, you know, when they first come on board, we're going to have monthly calls for the first four months. And then because they're actively waiting to invest, so we got to wait till we have an active deal. So we're just nurturing them until we actually have a deal. And then we start working, would you like to invest in our deal? And so that's kind of, from there, which then after they maybe they've invested, maybe they've not. Then we started having we have a quarterly loop.

So every quarter, we're going to give them a call and we're trying to find like things like these are really important things. But what do they love to do? Like what do they like to do for fun? One of my favorite questions to ask investors, what do you like to do for fun? And the reason I like that is that it's an answer that has nothing to do with real estate or making money, right. That's important because they're going to tell you, hey, I'd like to golf and man, don't think that we're not writing detailed notes here, right, likes to golf.

You know what's your favorite place that you've golf at, you know, because maybe we might send them some golfing tickets somewhere. Like, we're always looking for ways to love on our capital. You know someone's sick, oh my god, we're really, you know, we're sending flower baskets. You know, like, you've got to key up to these types of because people are going to tell you these things. And the best part is once you really know what they do like to do for fun, that really becomes the open.

In other words, if I'm calling an investor before we even talked about anything else, James, if you said to me, hey, Cory, I like golf. So my first talk is James, now how's golf and man, what are you up to golf and what's the coolest place you just golf at? And you know, and you're going to tell me all about it. If you're passionate about it, it's something we're going to have a great conversation about it. Then we finally get to business. And that's to me what this business is about.

That's why I love this business. It's relationship-based. And people don't understand the power of relationships. And if they did and how to nurture that they would be way more successful than they. And that's why I'm hoping I'm getting some value here because that is the one thing that's made me super successful is understanding that relationships are important.

James: Yeah. I think the personal touch is so important with the investors. I think it's just super critical right now. They are basically trusting you with money and you want, I think you are genuinely trying to understand them, trying to really have them with the investment as well. I mean.

Corey: Yeah, they become your friends, right. I think the investors become your friends. Not always, you know, but like there's a good deal. So we don't always talk, we don't always go out. But when we do have our conversations, they're always fun and enjoyable and I don't have all the conversations. So I'm actually trying to build a business where I'm the CEO, right, I have one or two touches but my team has these interactions with them.

And that's where we're actually headed is where Corey is not on the phone every day with my investors, my team is. And that's what we're developing now is that team approach that kind of like, I'll call it the Edward Jones model you know. I worked for Edward Jones but I never met him, right. But all the clients that I had that I worked hard to get were truly the company's, were Edward Jones clients but they listened to me. And so that's what we're building now is our staff and people that go out there and help raise capital for our company and telling the Kahuna story.

James: Got it. Now, that's very interesting, thanks for sharing the detail of how you nurture these passive investors who are, you know, willing to invest with you, you know, with the returns that you're talking about. And it just makes sense. I mean, they are people who want to invest, the IRA money for a solid, you know, investment with a good operator where they trust, right.

And that's more important than, you know, expecting a huge return and giving to someone random or people you do not know whether they can execute or not. And, you know, promising, you know, high returns and doesn't give it. So before, I mean, I don't think you came with this returns recently, right, so I'm sure when you started you said you had a 20% return --

Corey: 20%, then we went to like nine and nine then it went to eight and eight. Then I went to seven at seven. And I've been at six and six for a while now.

That's probably where I'll stay, I might go five and five.

James: So did your investors who invest with you drop in terms of the number of counts and how did you deal with that?

Corey: Yeah, so every time I titrated down, I lost a couple. I lost a couple, I didn't lose a lot but I lost a couple of people. But a lot of them come back around even though they said no in the beginning, once they truly left, knew that I left the station and then I call them back up. So I still call them back up, come on John, like, man, that's where we were but this is where we're at now. And I like you like, let me just work some of that money. Yeah, all right, I know. Take my money, Corey.

James: And did you know like from the beginning itself that you focus on the IRA money thing from the beginning itself or did you --?

Corey: Yes and no. I started with just friends and family, right, which I guess was IRA money or a lot of it was IRA money. But I just really, as I've gotten more in tune with that, I learned that's a nice honey hole. Now, I always lead with IRA money, but a lot of people it's kind of eclectic group. Some people have cash money, some people have IRA money. I work with both groups, both them are, you know, usually these investors are fairly high earners and so they do have some cash.

But I would find that most of their real wealth is in their IRAs, right. And now my typical investor invest, you know, initially 100,000, that's our minimum; is 100,000. And then from there, that's usually their first deal is usually the minimum. But we very commonly have $200,000 to $400,000 segments. I don't normally have $800,000 or $700,000 or a million dollars clients. I have a lot of $200,000 to $300,000 to $400,000 investors all the time.

James: And is it per deal or is it total investment?

Corey: Per deal. So like you know if I got a three million dollar raise, I'm going to have a lot of, you know, probably half of them are going to be 100,000 new investors. And then the other half is going to be those $200,000 to $300,000 that they're coming in for their second deal. Now, they're pushing more it because they saw the concept and they liked it. And then they give us their bigger chunks.

James: Got it.

Corey: But I'm really cool with having those 100,000 because that's my new database. I'm always wanting to get new people in deals so they can experience the Kahuna way.

James: Yeah. I don't know whether you have this data. Do you know how many unique investors do you have?

Corey: I don't. I don't have it offhand. But I --

James: It's not easy to do.

Corey: Yeah, but we do have I will say this, we do have a lot of repeat investors. Just like you, I mean once they give you money. And I want to say quickly the last thing, I really want to make sure that I say, this right here you can't see it if you're listening to the audio but this is one of the things that I have done religiously, is a self handwritten letters and so this is like a letterhead.

So this is business letterhead, everybody needs to have a high-quality stock letterhead and I'll call it envelope letterhead like a five by eight type of letterhead, thick cardstock. Mine has gold, Kahuna investments and then my name but it looks like it's coming from the CEO of a Fortune 500 company. And what I do with this is that I am big and I mean, I am emphatic about handwriting personal notes.

When I meet somebody for the first time if we had a really good conversation, I keep it in my backpack. I'll pen a handwritten note and if I don't have their address and like hey, man, how do I send you some correspondence? Or I like them, I want him on my Christmas list. I need to put you on my Christmas list with your address. People will give it to you and then you can handwrite a thank you note and say, hey, you know James was really good meeting you the other day and I really enjoyed our conversation. Let me know how I can be of service, right, give me a call like, let's do coffee. And that my friend has been one of, it's a forgotten art of a handwritten thank you card. But man, I'm telling you, that is money.

James: Yeah, yeah, I remember the first time when I meet you at a conference in Denver, right. You had a big bag behind you and you gave me a book copy of success, with your signature. I must be a high-quality client too.

Corey: There it is, brother.

James: Absolutely. I mean, we have a good relationship, right. So that's, I mean, I still have the book. I can see that you have written in the front and I appreciate that. And you are right, I mean, that personal classic touch is so important and people just feel that connection, right. So I also heard you call your investors on your distribution day.

Corey: Yes, I really tried to call. Well, not always but someone on my team calls. I don't, I try to call and I'm pretty good at doing it most of the time. But on that week, whatever I love calling and saying it's payday, right. I mean, that's fun if you could call your investors once a quarter and say, hey, John, guess what day today is? Today is payday, right or guess what a week it is, it's payday week, right.

You know, I just want to let you know how much I appreciate you and you know, hey, John, we got some deals coming up. Who do you know that I should know? One of my favorite lines; who do you know that I should know? That needs to get a return like you're getting right now. And then you shut up and let them give them a moment to give you an answer. Silence is golden.

James: Yes. And you said if you don't call, you have team members calling, right? How big is your team members?

Corey: We've got a team of four.

James: A team of four. Okay.

Corey: Yeah. So I got an ad man, VA and I call him; Mr. Everything, which is like, his name's Isaac. He's my intern that turned into a full time but he really is, right now he's doing underwriting for us and acquisitions.

James: And do you have an office or do you work from remotely --?

Corey: I work right here at my house, man, this is it. Yeah, I've got my desk right here, I've got Isaac's is right behind me. We've got another desk to the right, that person we kicked out because it was getting too crowded in here. And then I got another room, I got another part by house that is the other part of the command central were two other people come to work every day.

James: Oh, cool. So you have a house office with people looking in different parts --?

Corey: Yeah, they come in. It's kind of eclectic but listen, we're supposed to like we all want maybe to get an office but I just like working from home so much that I just make everybody comes here. But I'm okay with that, like, you know, so it works for now, But we've really talked about maybe going to the next level and going to a real office. But I'm living my best life and so I always say why, why do we need to do that? Yeah.

James: Yeah, absolutely. Well, that's so much information that you've given to me and to the audience. So it's really appreciated, it's just so I think the way I can summarize the approach is basically, you know, look for these investors that have the cash, right and, you know, nurture them by educating them through the monthly meeting. And of course, you do all kinds of personal touches. There's so much a personal touch and your cards are so professional, your pictures are very professional. And, you know, just people feel like you're dealing with somebody really, really high quality, right, and they trust you, right and that's so important.

Corey: Yeah and they'll take less for and by doing that correctly, their confidence goes up and then their expectations of what they really want because people want 20% but they'll take a solid return all the time. So we've just been said listen, we give the solid return; a real return. And that means something to our group of people.

James: Yeah. Sometimes consistency is more important than, you know, getting this high return, right. So yeah, I've seen syndicators who given, you know, huge return the first two quarters of operation after that for the next four years, there's zero return.

Corey: Yeah, there you go.

James: It's better than giving an average return or even a slightly lower than average return consistently, right. Because people can expect that I guess, for passives, I think they just giving you the money, they just want to, you know, get something consistently rather than getting huge, you know, lottery money coming in, right so

Corey: That's it.

James: That's awesome. All right, Corey, I think you've added tons of value. Can you tell our audience and listeners how to get hold of you?

Corey: Yeah, man. If you'd like to get a hold of me, you can go to a; listen to my podcast; The Multifamily Legacy podcast or go to kahunawealthbuilders.com, we got a free gift if you want to opt into and get my free book.

James: Awesome. Thanks for coming on to the show, Corey. I've learned a lot and you have added, what is the last word that you say the --?

Corey: Your Paradise is possible, brother

James: Your paradise is possible. I need to get one for my show too. Awesome. Okay, bye.

Corey: Thanks, bro.

James: Hey audience, this is James Kandasamy from Achieved Wealth Through Value Add Real Estate Investing podcast. And today we are doing a slightly different format. We are doing a podcast plus a webinar and I have Dr. Glennn Mueller here. So Dr. Glennn is someone I have been following for many, many years looking at his real estate market cycle studies and he's a professor at University of Denver. He has been doing this almost 36 years, if I'm not mistaken, has gone through many, many different market cycle. And, Dr. Glennn, why not tell our audience what I didn't cover in terms of introducing yourself.

Glenn: Sure. So I've actually been in the real estate field for the past 45 years. Started out as a loan analyst at United bank of Denver and by chance got put into the real estate group after a couple of years, realized that real estate people made a lot of money, went out and started my own construction and development companies and built custom homes for about seven years and then decided that I wanted to have a change and a different lifestyle. So I went back to school, got my PhD in real estate and started teaching at the University of Denver. I hired away by a big institutional investor, Prudential real estate investors and then onto a Jones Lang LaSalle. And then started working on the security side with Wreaths Real Estate Investment Trusts at Lake Mason. I ran the research group there and then one of my client's black Creek group invited me to come and head up research for them. And I've been with them now for the past 15 years and at the same time teaching as a full professor at the University of Denver. So I guess I'm a typical real estate type A personality running two jobs at the same time. But a lot of my research is focused on real estate market cycles, which is what we're going to talk about today.

James: Yes, yes, correct. And real estate is very interesting because sometimes it's very hard for us to make it into a very analytical format. And when I look at your charts and the work that you do, you have really break it down to science. I mean, of course, definitely there's art in real estate but there's a lot of science to it as well. And it comes from years and years of research, like what you have done. And that's very important for people like us who are basically active investors who are buying deals day in, day out and going to different market cycles and it's also more important for people who have never gone to a full market cycle. Like, even for me, I've not gone through a down cycle yet and there are tons and tons of people who have not gone to a down cycle, so we always wonder how this different cycle is impacted by different property types. What do you call us, like industrial, self-storage, apartments, office and retail and few other things. So this presentation that you're going to be doing on the webinar and throughout the podcast, we're going to try to clarify some of the slides that's going to be covered here so that the people who are listening to the podcast is going to be able to follow too as well. And this going to be difficult [03:26unclear]

Glenn: So do you want to...

James: Go ahead doctor?

Glenn:

So if you'd like, if you want, I've got my slides ready to go. We could probably go to that. I can start in.

James: Let's start, I mean I'm going to name this podcast, A State of the Union of Commercial Real Estate Property [03:46unclear] so let's go through it.

Glenn: Throw the word cycles in there someplace because I do real estate cycles. So let me actually bring that to full screen size to make it easier to see. Is that clear for you?

James:

Yes that's awesome.

Glenn:

Okay, great. So basically I believe that real estate is a delayed mirror of the economy as the economy goes, so goes real estate when the economy is doing well, real estate does well. When the economy turns down, real estate lags by about a year and about a year after the economy starts to turn down, real estate will turn down. You can see that here in this first chart and on the demand side of real estate, there are three key things we look at. The first one is population growth. The US population is growing at nine tenths of 1%. We are 330 million people. So we're actually growing by 3 million people every year in this country; and let's put that into simple real estate terms. That means that we need to build one city, complete city the size of Denver, Colorado, which will actually hit 3 million people this year, to give them a place to eat, sleep, shop, work, play, pray, store things, et cetera.

So here you can see GDP growth, the great recession in oh nine and the beginning of 2010 with negative GDP growth. And then it has rebounded and it's been running at this nice average of right around, just a little over 2%. And the forecast is that that looks like it continues forward with a little bit of a dip here in in late 2020. But to be honest, economists are always wrong. Their numbers never perfectly accurate and there's a fairly high probability that doesn't happen. The reason for that dip is actually the employment growth below, which again, you can see the negative number back in 2009. It starts to recover and go positive in 2010 and has been running about 2%. And then you see the forecast for a slight decline back to down to close to zero in 2021. That's actually a mathematical calculation of the number of baby boomers like me getting to retirement age of 65 versus the number of millennials who are just coming out of school.

The only thing and one of the reasons I believe that that number is wrong is that most baby boomers like me, we enjoy what we do and we're not necessarily retiring or if we do within six months to a year, we're out with another job. It may be a totally different kind of job. I love up here in the mountains of Colorado and a lot of my friends that retired are working as ski school instructors or driving a shuttle bus or my wife is a host and tour guide, Arapaho area ski area. So those people are still working. So that decline in employment growth sort of forecasted decline in GDP growth, my guess is that doesn't happen. And a lot of economists now are saying maybe we're in the lower for longer term. As you probably all know. We just hit 10 years of economic expansion. So we're in the longest economic expansion in modern history and a lot of economists do say, well, it can't go past that, but I don't believe that because right now the country in the world that's had the longest economic expansion is Australia and they're in their 28th year of expansion with no recessions. So I believe that the way that we're set up with this more moderate growth is something that is potentially sustainable as we go along.

James: So let me recap that because that's very important point because that's a lot of notion out there that we are too long in expansion cycle, we must come to an end, it's cyclic but what you're saying is the way the employment growth and the way that GDP growth has become moderate right now for the pass many how many years we have, and that's a good thing. So what you're saying is with that moderate growth, we might be able to go longer on expansion cycle. Is that right?

Glenn: Right. We're at the beginning of the longest ever.

James: Correct. So when you talk about Australia, I mean, I know it's one of the longest expansion cycle and things are getting very expensive there, but is that the same case in Australia? Were they like moderate growth for very long time and that's how they're able to sustain it?

Glenn: Yes.

James: Okay. Got it. Got it. And what's driving the 0.9% population growth, where is the growth coming from?

Glenn: That is new births over deaths plus legal immigration.

James:

Okay.

Glenn:

And so we're actually growing at a higher rate than that from illegal immigration as well. But there are more people; we're at a very low unemployment rate at this point in time. So anybody that wants a job, basically you can get a job and that's a good thing.

James:

Okay. I'm going to ask about inflation and you are showing the chart on inflation, okay let's go to inflation.

Glenn:

So on the flip side of the coin is as we look at, and this talk that we're talking about, by the way, we're talking about income producing real estate, not homes, not home ownership. So we're focusing on the income producing side of this as we go along. So the two things that we look at, so we've got good demand as we put up new properties for people to us. On the cost side inflation is running at again about 2% and has been since the great recession when it was actually negative and that is expected to continue. And then we look at interest rates and of course we are at, actually, I'm going to jump ahead here to a different graph, I think. No, I'll wait on that because it's too far ahead.

We're at a very low interest rate. As a matter of fact, the lowest interest rates in 60 years. And then in income producing real estate, commercial real estate you can't go out and get a 30 year mortgage on an office building. The longest you're going to see is 10 years. And so we look at 10 year treasuries, US treasuries as our benchmark. And here you can see that 10 year treasuries and these graphs are actually wrong, they forecast going up to 4%, 10 year treasuries are running a little under 2%. So if you're going to go out and get a commercial loan, you might get in a 10 year treasuries plus a 2% premium. So that would be a, today, 10 year treasuries are running right about one seven, one eight. So you would be getting a 3.8% 10 year loan on your property, which is a very low interest rate. Hence good return to equity on investment after the loan amount.

James:

So the chart that you showed is basically a forecast but we are running much lower than the forecast I guess?

Glenn:

Yes. Yup. We are.

James:

And who came up with the forecast?

Glenn:

Every economists forecast what is going to happen. The forecast that we look at many times are the congressional budget office. So that's cbo.gov, if you want to go get their stuff; they do 10 year forecasts on GDP growth, limit growth, interest rates, all kinds of different things. So that's a very good place and it's free to go look at what's happening. And just underneath that they've got a lot of different things. Just click on the economy one and all that information will come up.

James:

And why do you think the economists are wrong? Why were they forecasting at 4% [11:41unclear] 1.7?

Glenn:

It's a statistical method called reversion to the mean. Interest rates over 60 years have averaged close to 6%. So now that it's low, it has to go back up.

James:

Got it, got it.

Glenn:

And every single year they did forecasting within two years, 4% and every year for the last 10 years they've been wrong.

James: Last 10 years they've been wrong. Is there a chance for them to be continuously being wrong?

Glenn: Again there's an old saying for kindness, forecast often.

James: Well, the reason I ask is because every year people are forecasting the interest rates are going up or coming down when everybody's wrong all the time.

Glenn:

Yes.

James:

And it's very important for interested for investors like us, like where we are predictive because we do exit cap rate and we have buying deals, hoping on the cash flow, but also this market appreciation would be a bonus for us, so that's why I asked.

Glenn: So let's actually go right to talk about real estate and my market cycle analysis. So I believe there's really two cycles in real estate. The first one is the physical cycle, which is demand and supply for real estate. So people renting and space available for rent and that drives the occupancy rate which is just the inverse of vacancy. I like using occupancies and you'll see why here and occupancy drives rent growth. So if my occupancies are up, which means there's more demand, I can raise my rents. If we're in a recession and occupancies go down, people aren't renting. Landlords are going to drop their rents. And if I add occupancy and rent together, so if I get an increase in occupancy, in other words, I rent more space and I get an increase in rent, those two together will tell me how much income I'm going to get off my property. That's the physical cycle.

The financial cycle talks about the price of real estate and we're going to do that second and we're going to do it separately. So here's my market cycle analysis and you see that I've got four quadrants, just like the account, just like an economic cycle or recovery and expansion. I have a supply and a recession phase. There are 16 points on the cycle because historically real estate cycles have lasted 16 years and so at the bottom we've got obviously declining vacancy on the way up and increasing vacancy on the way down. We don't build much there in the recovery phase. We build a lot in both the expansion and the hyper supply phase. And then we don't start anything but we complete buildings that have been started in the recession phase. So actually we'll go to this slide.

So the study that I've done and published that I get quoted on all the time is the fact that if you know where you are in the cycle, you'll know what kind of rent growth you might expect. So you can see here at the bottom, I don't know if my arrow is showing up here or not, but at the bottom of the cycle points one and two, you've got negative rent growth, so landlords are dropping their rent. So if it was $10 a square foot last year and it's going down 3%, 3% of $10 is 30 cents or it's going to go down to $9.70 a square foot to rent. As we start to come up through the cycle and occupancies increase you can see rent growing and at positions six, at the long-term average there, 0.6 is on the long-term average dotted line; you can see that rent growth was 4% and during this historic cycle time, inflation was running 4% then. So when you get to long-term average, you get basically the rate of inflation.

Then in the green shaded area here, which is the expansion phase, you can see rents really rising quickly to a peak and a high of 12.5% in position 10. Then when we hit the peak of the cycle, which is the highest level of occupancy after that, rent still grows positively, but it starts to decelerate or slow down, back to around inflation at 0.14 and then low and negative again at the bottom. And then one of the things to notice here is that 0.8 on the cycle is green and because that is the cost feasible rent level. By that I mean that if it costs $400 a square foot to build a new office building here in Denver and investors are looking for a 10% rate of return on that $400 investment, 10% of 400 is $40 a square foot. So rents in the market have to hit 40 before we can cost justify building the new building. Makes sense?

James:

Got it. Makes sense. Makes sense.

Glenn:

Okay. So every quarter I look at the major property types, look at that demand and supply, look at the occupancy levels and as you can see today five major property types office downtown or suburban office is at 0.6, downtown offices at 0.8, retail, which will surprise everybody at 0.9, industrial at 0.10 and retail industrial warehouse up at peak occupancy rates. And the only property type that's over the top into hyper supply is apartment. An apartment is there not because of a decline in demand, we've got all these millennials coming out of school and so every year demand is going up for apartments, but we're just overbuilding it a little bit. So for my company and for other investors, what I do is I analyse the 54 largest cities in the United States and where they are in their cycle.

And as you can see here they're kind of spread up because demand and supply is very local in nature. Notice what's happening in New York office, which is driven by the financial sector and the stock market is going to be different from what's happening in Boston or Chicago or in New York or any other city. So you can look at the companies that are there, the industry that's driving the growth and what you see here is national average at 0.8. But some markets moving up the cycle and some markets over the top. And I'll give a quick example here. We've got two markets that are in the hyper supply phase, Austin and Houston, both in Texas

James:

[18:19unclear]

Glenn:

The Austin market is driven by technology companies. A lot of tech companies like being there because they can hire young people that want to live in Austin, It's a cool city. Actually [18:31unclear]

James:

I'm in Austin. It is very cool to live here.

Glenn:

And so, what's happening there is since that's been going on for a few years, the developers are putting up just a little bit more space than you need. So the occupancy rate is starting to come down just a little bit because there's too much space there. So that's a situation of too much supply. Houston is exactly the opposite. It's a place of declining demand because the oil industry is driving Houston and with low gas prices, the amount of exploration and other things going on has dropped off and they've laid people off. So that's a position of declining demand. So since you're in Austin, let's watch Austin as we look at this. So that's where office is, here's where industrial is. So warehouse space, again, Austin is just one point over the top. A lot of markets are at their peak, demand for an industrial warehouse space has been very strong because of Amazon and people buying things online.

So we've got a huge demand growth on the industrial side and there are some cities again where it's easy to build. So we're overbuilding just a little bit. Now we look at the apartment market and Austin is at the top at the peak point at 11 because you aren't putting up apartments fast enough for all these millennials moving in. But you look at, there's a lot of other markets where they are putting up a little bit too much space. In other words, we're oversupplying almost half the market. So the national average is just a little over the top. Every time I talk to developers I'd say if you just back off on building apartments by about 10% of what's being built, you'll come right back into balance and be back at peak equilibrium point 11.

When we look at retail, you can see that the majority of the cities are at peak and Austin is there as well. This is the one surprising thing because everybody hears about retailers going out of business and we'll talk about that a little bit more in just a second. And then finally hotels here you can see that hotels, the majority are in the expansion phase with some over the top. And again, Austin, you're oversupplying by just a little bit. So what I want to do now is jump to and looks at the historic cycles. As you said, you haven't been through a full cycle yet. Well here we're going to go back to 1982 and that's a point in time at which I was building. And you can see that occupancies in office were very high. They came down and bottomed out in the early 1990's with a small recession and we'd actually over oversupplied a lot.

They peaked in 2000 with the technology boom, they bottomed in 2002 and three, with the technology bubble bursting; came up to a lower peak in 2006 and seven as the economy was doing well, bottomed out in the great recession in 2010. And today has come back and are reaching a kind of a lower level equilibrium occupancy level than we've seen in previous times. But it looks like it's going to last for at least another two or three years. So the other line that you see here is the rent growth line. And you can see that those two are very highly correlated. As a matter of fact, they're correlated by almost 80%. So if occupancies are going up, rents are going up, if occupancies are going to go down, rents are going to go down. Pretty simple and straightforward to look at.

So let's look at my forecast and here's the forecast and it looks very much like the monitor. And you can see that markets are again, majority in the expansion place. Austin, as you can see there is in the hyper supply phase at position 13. And again, that's because I'm forecasting that you've got a lot of new properties coming online, so your occupancy levels are actually going to fall a little bit in the coming year. If we look at industrial, you see basically the exact same cycle of occupancies and rent growth and we've got this really nice equilibrium that happened back in the mid-nineties and another one that's happening today. Rent growth has been really high in industrial because of the, I call it the Amazon effect up at 7% more than double the rate of inflation and we expect that to kind of work its way back down over the next few years back to kind of a more normal by 2017 we expect to see kind of inflation type things there.

So again, half the markets at peak or equilibrium, the other half building just a little bit too much, but that's the way it is and Austin, again, just one point over the top. Oh, one other thing is you notice I've got some numbers after each city and those numbers tell you if the city is moved from the previous quarter, for instance below Austin there you've got Cincinnati at a plus one. So Cincinnati was at peak number 11, and its occupancy occupancies dropped enough for me to move it forward to position 12. So it's rent growth is going to be decent

James: And the bolded city are the biggest cities?

Glenn: Right. Okay. Yeah. So the bolded cities make up, one of the things I found was there are big concentrations. So in each of the different property types there is anywhere between 11 and 14 cities that make up 50% of all the square footage in all 54 of these markets. So what city is bolded may not be the same in each case. So like Riverside is here in the industrial, but it's not in any of the others. Las Vegas will be in hotels, but it's not a big city for office or any of the other property types. When we look at apartments, you can see that we actually hit a peak in occupancy back in where am I?

James:

2019.

Glenn:

Yeah. We had a peak back in 2014. It looks like we had another peak here in 2019, but because of the overbuild; we slowed things down a little bit. But going forward, we just have a lot of it in the pipeline and so we're going to overbuild it looks like for next three or four years and hence rent growth, which was as high as 5% back in 2015 has dropped off. And in 2019, I think it's going to run about two and a half percent.

James: But looking at that chart, you're predicting 2019 after 2019, rent growth is going to slow down because of the oversupply stage?

Glenn:

Yes. Yup.

James:

Got it.

Glenn:

Exactly.

James:

And does it matter on which class apartment is it? Which location? Which city? Tertiary, primary market?

Glenn: Oh, well. So here are the cities for apartments. And you can see Austin I think is still at its peak. You're not putting up quite enough. Most of the other cities are in that hyper supply phase. Where they're putting up a little too much. And so they're occupancy levels are dropping. Denver had a number of years of 8% rent growth. And because we're over building and you can see Denver way over, further down the cycle there at a position 13, our rent growth now is only running about 3%.

James: Yeah. So for example, like the city on the hyper supply, I mean going to the recession on the point 14. So what you're looking at is you're looking at the supply that's coming into that city and looking at the demand for that city and that's where you're determining the point 14 for that particular city.

Glenn: That's right. Yup. Because when I combined supply and demand, I can then forecast the occupancy level. Okay.

James:

Got it.

Glenn:

So there were no cities of Memphis, Miami, Orlando, and San Jose. I don't expect them to get anything more than inflation, which is we're right about two percent.

James: Oh, you mean rent group, right about 2%.

Glenn:

Right. So their rent growth is only going to match inflation.

James:

So at point 14 is supposed to be deaccelerating rent growth and recession. It should be like almost negative rent growth.

Glenn: 12, 13 and 14 are decelerating rent growth. And point 14 is when rent growth should only be running at the rate of inflation, which if you remember back to your economics class, we have nominal inflation and real inflation or nominal growth and real growth. All that is, is nominal growth if the price of something goes up, that's inflation. So if we have 2% inflation, if you've got like GDP growing at 3%, that's nominal GDP growth. So 3% nominal GDP growth, subtract inflation of 2% and real GDP growth is 1%.

James: Got it. So what about at point 11, the cities who are estimated to be at the final phase of expansion, still in expansion where; what is the percentage of expectation of rent growth for that kind of cities?

Glenn: Well it will vary by city, but it's probably going to be, well, let's back up one slide there. And when you're at peak occupancy, you've seen historic rent gross as much as here's four and a half, here's almost 5%. This little peak here is that 3%. Okay. So again, and I do this model that you see here individually for each city.

James:

Okay. How do we get access to that data to get a rent growth prediction for each city?

Glenn: So, well that's what researchers do is we model and project things and I get my historic data from CoStar, the company that does all the major property types and I get supply information, demand information, occupancy levels, rent growth. So I can model every city.

James: But your model of forecast is not available for public consumption, that's mainly for your research, I guess?

Glenn: This is my forecast report that you're looking at here. And my regular market cycle report I give away free. It's actually on our website at the University of Denver. So if you go to du.edu/burns school, I'm in the Franklin Burns School of Real Estate, scroll of the bottom of the page and you'll see my market cycle forecast so you can get those for free. We sell a subscription to my forecast report that comes out four times a year. It's only a thousand dollars and that money goes into a fund to support research on real estate and sustainability.

James: Got it, got it. So my question is on a specific city, for example, I'm buying a deal in Memphis and I'm trying to do a five year projection on my performer to show it my investors and raise money for you. So usually a lot of people use a 3% or 2% rent growth for next five years. But what you're saying is that's not correct, right? Because that's not how it's being forecast.

Glenn:

They need to take a look at the city where it is in its cycle and it might be doing better and might be doing worse than that.

James:

So how do we get that number rather than saying three or 2% blindly, is there a place where we can go and say it's 3% the next one year but after that it is going to be 1% for year 2 or second year or third year?

Glenn: Yep. So CoStar, you can subscribe to CoStar.

James:

Okay.

Glenn:

They do projections on all this stuff. City by city property type by property type.

James:

Okay. CoStar for projections. Got it. Got it.

Glenn:

Okay. Also Jones Lang LaSalle has their own research and forecasting group, so you can go there as well. For your individual investors who probably aren't doing enough to spend that kind of money on research. Most of them are probably working with a broker when they're looking to purchase properties operate the properties, lease the properties, et cetera. When they're talking to a broker, they should ask, do you have CoStar access for your city and your property type. And the broker is allowed to share that information and those forecasts with them.

James: Got it, got it. And what about the cap rate? I mean, when we talk about rent growth, deaccelerating it's also meaning cap rate being expanding, right? So is there a place...

Glenn: Okay, so we're almost there. Let me just finish this and then we'll jump right over to the financial cycle. Okay, here's retail; and the key thing here is that you can see that we are at the highest level of occupancy ever in retail. People go that doesn't make sense, got all these companies going out of business and everything else. So series is going out of business. What am I students family owns a mall in Macon, Georgia and series goes out of business. They open up the center of roof of the building on one side they put an experience retail, two restaurants, a movie theater and an escape room. On the other side, they're building four stories of apartments on top of the space. So they're actually going to have higher occupancy and rent going forward. We're replacing these department stores with experience retail and remember supply; we're not building a lot of new retail, number one, but we're also repurposing a lot of retail.

So many times a retail center that's not working, convert it to office space or today Amazon is trying to get that last mile delivery to you on the same day, convert that into closed in warehouse space where you can deliver it to someone the same day. So retail is doing well because it's got a low level of demand growth, it does have some. But it has an even lower level of supply growth, hence the high occupancy rate. But you can see that the rent growth is really pretty low too. It's only one and 2% going forward.

James: So retail is more of a play off, people have given up on retail and there's not many people building but it's still a demand there that's why the occupancy is much higher.

Glenn: Right, right. So again, most of the markets at the peak and then hotels, we are again at the highest occupancy rate we've ever seen. That's because millennials like experiences versus things. So they're doing a lot more travel. And we're in the process because hotels are extremely profitable at that high occupancy rate. We're seeing a lot more new hotels being built. So a lot of markets kind of heading over the top and Austin being one of those, where you're actually putting up a lot of new hotels. So when you think about it, the one property type that's the best in Austin is actually apartments at this point; highest occupancy, highest rent growth. So that's the income side of real estate. All we talked about is occupancies and rent growth. How much income can I get?

James:

Yes.

Glenn:

Now let's talk about the financial cycle and its capital flows that drive the prices and we look at that as cap rates. So the blue lines is the real estate cycle, the black lines, the capital flow cycle, and it should work as when things aren't very good, not much capital. The line's flat there at the bottom. As things get better, capital goes up. The highest rate of growth is when we go through that 0.8 now yellow where we reach cost feasible rents; capital flow peaks out in the hyper supply phase and then drops off very quickly. Now remember that we've got two types of capital flowing in the real estate. The green shaded area up here is capital flows to existing property. So if you buy a property from me for a higher price than I paid that's more capital flow. The other capital flow at the bottom is capital flows to new construction, adding more buildings in, so producing more properties. Real estate, I consider it a separate asset class.

So we've got stocks, equities, bonds, and commercial income producing real estate. It's about 20% of the marketplace. So for me, as I talk to and have worked with for 25 years, institutional investors, they should have a separate allocation to real estate. You should have a separate allocation to real estate in your retirement account. If you could only do public equities buy rates. Directly you can buy into funds or you can actually own properties yourself. But remember, when you buy a property, you just bought a business. You've got to operate it, you got to rent it, you got to take care of it, you got to maintain it, pay the taxes, you're operating a business. So when we look back over history, here's the history of ten year treasuries, you can see it going from 2% back in the 50's to 15% in 1982 to today, back to 2% with the forecast that it's going to go up but of course for the last 10 years, that's exactly what that forecast has looked like and it's always been wrong.

We've been running in the 2% range since the year 2010. So notice the total return between 1981 and 2017 is 8.4%. That's because as interest rates go down, bond values go up, your bonds appreciate. But if you think bonds are a good place to be today, go to the left hand side and when you go from two to the long-term average of five, eight, the total return has only one nine because if you bought a bond at a 2% interest rate, $1,000 bond at 2% and interest rates go to four and you want to sell that bond, the new buyer is going to want a 4% yield. So they're going to give you $500 instead of a thousand for that bond. So you're going to lose money on your bonds.

So that's why today bonds kind of don't make any sense. Real estate versus stocks and bonds. It's only had five years of negative returns versus over 20 for both stocks and bonds, and it is capital flowing. That money coming in that makes a difference. So here's a company, real capital analytics that collects data on every commercial real estate transaction in the US over two point $5 million. The bars go up, the bars go down and their price index, which is along the top there, you can see follows that pretty closely. So as more people buy, prices go up. When people back off, like during the great recession of oh nine prices come down.

James:

Is that the international money coming in or is that local money coming in or it's just [37:20unclear] you're easing

Glenn:

I will be answering that question in two slides. When we look at the cap rate, which is the simple way to describe that, it's like a bond yield or cash on cash return. Back in 2001 cap rates were around eight to 9% and then as prices went up, cap rates dropped to a low in 2007 of around six to 7%. Great recession happened, property prices drop, cap rates go back up, so you're getting a better cash yield when you buy. Since then cap rates have been coming down and they're down at a low of mainly in the six and a half to 7% range except for apartments which are at five and a half. Now of course hotels are higher because they're riskier at eight and everyone says, well, so interest rates have to go up, therefore cap rates have to go up. Not true. All the historic studies done, and I've done some myself show that the correlation between interest rates and cap rates is no more than about 20% that's not what drives it. It's capital flow.

As a matter of fact just came from a conference where two different real estate economists say we expect cap rates to go even lower next year because there's so much money out there around the world trying to find yield, trying to find income and bonds don't have it. Today the US stock market [38:51unclear] 500 dividend yield is 1.2%. The 10 year treasury, which is risk-free, is 1.7%; corporate bonds are running around three to three and a half and you can buy into properties earning six. So that's quite different isn't it?

James:

So what you're saying is the capital is going to continue, I mean your prediction is the climate is going to continue to go down in apartments and any, is it within all asset classes...?

Glenn:

Cap rates are most likely going to be staying about where they are or coming in and it depends upon the property or coming down just a little bit. They probably won't go down in retail because people don't believe that retail's coming back yet. So one way to look at this as take the risk free rate of the 10 year treasury, ask how much additional yield income am I going to get over that risk free rate of the 10 year treasury. So that's the spread above the 10 year treasury. Here you can see that the spread was 375 back in 2001 it dropped down to only 150 basis points in 2007 but today you're getting somewhere between 275 and 600 points over the 10 year treasury for taking that additional risk of investing in real estate. So from that standpoint, real estate looks like a very strong buy as an investment and because of that, what we see is real capital analytics collects data from all over the world and this shows money going from one country to another.

So at the top you see the United States in 2018, we don't have the 2019 yet numbers yet, sorry; into Spain, put $11 billion into Spain, that was 15% higher than the previous year. Because they believe the Spanish economy has finally figured itself out and is going well. The next one was France coming into the United States with money. $8.8 billion of French investors buying us real estate. The next one, the United States going in the UK, a $7.9 billion, that's a 20% decrease. Why do you think it went down?

James:

Because of the Brexit?

Glenn:

Yes, everybody has...

James:

[41:03unclear]

Glenn:

When Brexit happens, the economy in England will go down and hence if the economy slows, occupancy rates will go down and rent rates will drop. So you can see that money moves around the world and the most expensive property in the United States today, would be a class A office building in downtown New York City. It will go for a 3.8% cap rate. In London, the same size class A office building will go for a 2% cap rate.

James:

Got it.

James:

In Tokyo or Singapore, a class A office building will go for a 1% cap rate. So an English investor looks at the US and says, Hey, I can buy a top quality property for half price and an Asian investor goes, wow, I can buy a property in the US for a quarter of the cost in Asia. So we are the largest economy in the world. We're the safest economy. We have good laws that protect investors. In China you could invest there, but the government, since it's communists, could next year decide that oh, we own everything anyway, we're taking it away from you. So capital is flowing in the United States and I believe that keeps prices high and cap rates low.

James: What about this trade war with China? I mean, I know it's a bit cooling down, but it's cooling down and heating up; so how is that going to be impacting the money flow to the US?

Glenn: Well we've already hit the first level of agreement on it and it certainly did not hurt our economy in any major way. If you look here down at number seven, China and the United States $8.375 billion up 8% back in 2018 when it was first in process and our president was threatening. Chinese investing in the United States went up not down. Why? Because Chinese investors are trying to get their money out of their country where they thought it might slow down and move it into our country or where it was safer.

James:

Correct.

Glenn:

Okay.

James: So this is a very awesome slide because it shows where all the money flows in the world and you can clearly see that a lot of money coming to the US which is important for capital flow too or real estate prices.

Glenn: Right. So here's a slide from NAREIT, the national association of real estate investment trusts; you can find this on their website and they're showing historic cycles at being 17 years long. So the first cycle there from 1972, which is when they start having data through 1989, the green line, the total average return per year for publicly traded rates was 13.9%. The next cycle, 1989 through 2007, just before our great recession total return was over 14% a year. And here we are kind of halfway through the next cycle. 10 years in and so far the average return has been 3.9, but that's because of that big drop during the great recession and you had to recover the money that you lost. So I believe we're kind of mid cycle and a fair amount of expansion to go.

James: So we are not going to die of old age I guess. Not because of the cycle is too long and we are due for a correction.

Glenn: Correct. So that's my story and I'm sticking to it. If you want, we can do a quick summary or any other questions you have?

James: I have a few questions. So in terms of development, so in this market cycle, let's say for example in apartments, if you look at the apartment, the market cycle that we put in, we are in hyper supply. I mean, of course you say we have like 10% additional supply it's not because there's no demand, but is this the right time to do development? Because I saw somewhere in your studies that the best time to start your development is 75% on the expansion cycle. If I'm not mistaken.

Glenn: Right. I would love to be developing at points six seven eight on the cycle

James: That's 0.6 or 67% of the whole cycle on the upward trend before it reached the equivalent, right?

Glenn: Well, I know, let's go back to my cycle graph and we want to be, let's go to the apartment one as a matter of fact. So I would like to be developing points 6, 7, 8 and maybe 9 in the cycle. What's happening is a lot of people are over here putting up new properties at 12, 13, and 14.

James: So right now, I mean, your chart shows the apartments at the 13, which means it's not the best time to really do development ideas.

Glenn:

Correct.

James:

And what about people, I mean, some of the investors who are doing like bridge loans or long-term loans. I mean there's pro and con in both, but what would you recommend in this market cycle?

Glenn: Well, when you say a long-term note, you mean give me a mortgage on a property?

James: Yeah. Getting a mortgage with agency debt or fixed rate long-term versus a bridge loan, which is a short term financing.

Glenn: So bridge loans are basically taking the risks that properties being developed or redeveloped and that it will be successful upon completion. Whereas a long-term mortgage you get the first money, so the rents that come in and have to be high enough to pay your mortgage payment and if there's nothing leftover, then the equity investors aren't making any return in those years. So again you can buy an apartment and it most likely is going to cash-flow but it's a full time job to manage a big property, make sure it's done right, and finance it properly and everything else. That's why pretty much every university in the country today has a real estate program. We are actually at university of Denver, the second oldest real estate program in the country started in 1938. Where you are both an undergraduate or graduate and an executive online program so you can be at home and get your master's degree in real estate from us.

James: Got it. Got it. Right. Wow really, I should probably look at that. But the other question I have, especially on this chart, why is it not symmetrical? I mean, I know during the recovery and expansion, it's just a longer cycle and update like a slight down.

Glenn: Great question; and that's because historically we've had 11 years of up cycle and only three or four years of a down cycle. As a matter of fact, I'll go back to the, one of the slides that I bounced past earlier on, and that is this here you can see previous economic cycles, they last anywhere from 5 to 10 years historically and recessions are normally one to two years long. The great recession at two and a half years was the longest recession that we've seen since the great depression in the 1920s.

James: Got it. Got it. And what about the the industrial office and other property types what do you think would try for in the next, I mean other than apartments, among all these property types, what would be the best property type to invest for the next five years? I would say from your perspective.

Glenn: Here's the chart. Office has got the longest run in the expansion cycle followed by retail. Power centers doesn't mean that stuff can't sit at the top for a long time too. So if it keeps going, I believe we've got a good five year run of demand for industrial space going forward.

James: Got it. By is office being driven by some factor. I mean, technology, right? I mean, a lot of technology people work from home too, right? So I'm not sure where that drive is coming from for office.

Glenn: Basically more and more of the jobs in the United States are office using jobs and people start going crazy sitting at home and we're social animals. And so being together with other people and that social interaction actually benefits the work for every company, that's why we work. When you start a company, instead of working on your garage, you can now go and rent some, we work space on a daily, weekly, monthly basis. They charge you plenty for it, but now you've got a space to be in, all the amenities that are necessary there. There's a receptionist, there's copy machines, there's all the different things that you need to be successful; collaboration, conference rooms, all those kinds of things. So most new companies start out by going to you short term office rental space. Last year that was 10% of the demand in office.

James: Got it. And what about the Amazon effect? Is that just on the industrial? Because I read somewhere that they own like 25% of the...

Glenn:

Last year Amazon rented 25% of all warehouse space, new warehouse space rented in the United States. That's how much they're growing. They opened a 1 million square foot warehouse North of Denver and hired 1500 people.

James:

Wow. What about this boom in marijuana and all that happening on some of the coastal cities is that impacting any of these property types?

Glenn: The, I'm sorry, the?

James: Like, they have this marijuana, right? Like you know like medical marijuana and...?

Glenn: So yeah. Well Colorado was one of the first and it created a huge demand for warehouse space here in Denver and drove our rents from $3 to $6 over a two year period. I can see if you went to basically 100% all the old crappy warehouse got rented up to grow marijuana. And since we're one of the first States where marijuana tourism became very big. Now that other States are picking it up, less people are coming and we've had a couple of marijuana companies go out of business and so all of a sudden, and we built a lot of new space for them and so now we're in the hyper supply phase because that economic base industry in Denver is shrinking.

James: Got it, got it. What would you advise an investor, let's say for example an apartment investor who are more in the hyper supply stage right now, what would you advise that person to be cautious of as we move forward for the next five years? If keep what? Keep on buying or do you want to be more defensive?

Glenn: Well, if you believe that there is a recession coming, then what you want to do is have what we call defensive assets. You want to be in the best markets, the highest, the bigger markets like the ones that I show and the ones that I have in bold and italics. You want to be in higher quality properties that can attract and retain tenets and you want to try and get the longest term leases you can get to bridge you through the next down cycle.

James: Got it, got it. And what about tertiary market? Is it a good idea to go into tertiary market looking for yield? Because I know some of the tertiary market is [52:52unclear]?

Glenn: Yes, but you have to be careful and very selective. You need to look at what is the economic base industry that's driving the growth in that market. So for instance, an economic base industry produces a good or service it exports outside of the local market that brings money in. So in Detroit, Michigan for decades it was auto, the auto industry did well, so did Detroit. When the auto industry turned down and we got a lot more foreign competition, Detroit became pretty much a ghost town. Now you've got a billionaire, a tech giant who came in and started buying up a bunch of office space in Detroit to run his company out of at next to nothing and hire people in saying, come here and live in oh, by the way, you can go buy an existing house here in Detroit for like 10 or $20,000. So instead of spending 3000 or $4,000 in San Francisco and rent, you can have a mortgage that's only a couple hundred bucks a month. So Detroit is starting to turn around because of the new economic base industry. This tech company creating demand for office and when you create demand for employment, then people buy things. So retail goes up and the demand for rental goes up, it just, it moves everything up and plenty of growth is the number one key thing to look at for demand for real estate.

James: Got it. Got it. What about some of the government controls like rent control and some of the cities, some of the States that's happening right now, how is that going to be impacting the cap rate and the rent growth?

Glenn Right. so rent control is the government interfering with the free market and it has shown that when that happens it severely restricts supply because no one wants to build if they're going to end up with rent control on their property where they can't raise rents to at least meet inflation. And so every place where that kind of stuff is coming into play, investors aren't buying and property prices are going flat. In the long-term they will hurt the market. It will create exactly the opposite. They're saying, oh, we're trying to make apartments more affordable for people. Well, it does just the opposite. People that are there end up with a lower rent and then they sit on it even when they now have a good job. And I'll give you an example. I have a good friend who owns an apartment building in San Francisco. He has four of his 20 units are rent controlled. One of the people in it was a guy that when he got in, he was in school. Now he is a very wealthy person and he continues since he had it, it can't be released. His rent is less than 25% of what market would be on his property. And he's there maybe one or two nights a month. And my friend keeps asking, why do you rent this for the month when you're only here two nights? He goes, because it's cheaper than a hotel. So it's bad government policy in my personal opinion.

James: Yeah. It's crazy [56:25unclear] like, so does that mean some of the cities which doesn't have rent control will have a lot more price run up because a lot of people want to be investing in like for example, in Texas or maybe Florida, which doesn't have a lot of space doesn't have rent control. Would that mean that a lot of people from the East coast or West coast will be investing more on these states?

Glenn: Potentially, yes.

James: Okay. Okay. So I think I covered most of the questions that was asked in the Facebook group. If audience and listeners, you guys want to join this multifamily investors group in Facebook and we have almost 4,000 people there and now we are recording this as a podcast and a webinar, so you should be able to get the webinar as well as you register. So Dr. Glennn how do people get hold of you and get in touch with you? I believe you mentioned it halfway through, but...

Glenn: Right. Yup. So they can go to the university of Denver website, which is du.edu/burnsshool, and a scroll to the bottom and they'll be able to see my cycle reports there. And there I've got my profile and all the other information there. That's the easiest way to do it.

James: Awesome. Thank you very much for coming into the show and doing the webinar as well. Thank you very much.

Glenn: Okay, thank you. Have a blessed day.

James:

Have a good day.

Glenn: Bye.

James: Hi, audience and listeners, this is James Kandasamy from Achieve Wealth True Value Add Real Estate Investing Podcast. Today I have Scott Meyers, who's one of the leading authority in self-storage investing education so I'm happy to have him here. Scott owns almost more than 2 million square feet in self-storage space and across 7500 units and is based out of Indianapolis, right. So hey, Scott, welcome to the show.

Scott: Hey, James. Thanks for having me. How are you?

James: Good, very good. Thanks for coming on. I really like to focus on multiple different asset classes. I mean, I'm a multifamily guy but I'm also a strong believer in the operator of any asset class, right. So if you find the right operator, even on the least popular asset class if you find the right operator, and you know you can definitely make money out of it. Because there are some people who are really specialized in the asset class and you are one of them in self-storage. So I want to go deep into the self-storage spaces, one of my two favorites, right, other than multifamily even though I don't really do self-storage.

But I really like it just because of the asset class and some of the research that I did on my own in terms of like, past 15 years trend, right. So self-storage never went down on recession. That's not data from any book or any papers but I did my own IRR report data, which is Integra Realty Resources reports. Is that correct, 15 years?

Scott: That's correct.

James: Okay, good. Even though it was a bit hard to really collect that data, because it is a bit sprinkle, it's not like a huge asset class subsidies, not a huge asset class like warehouse, industrial, multifamily. It is an asset class but it's more of a specialized asset class. So, Scott, you want to tell our audience something that I would have missed out about you?

Scott: Wow. Well, again I got started in the business the way that many folks do by investing in single-family homes and that is considered the easy entrance into real estate. And then get into multifamily investing in office buildings, warehouses, cold storage, parking lots and so, yes, I too have liked and invested in multiple asset classes in real estate.

But when we landed on self-storage you know, the beauty of self-storage is well no tenants, no toilets and trash. And although I made a lot of money in single-family homes and apartments, you know you got to slug it out and get to that place where you can like yourself and like where we got to where we had property management companies handling that.

And you get to that, you know, to the scale in which that changes but that's kind of a tough row to hoe but once we get into self-storage, not having those challenges, and then also when somebody doesn't pay you, you lock them out because the law allows you to do that we have lien laws versus eviction laws. And if they still don't pay, then you sell their stuff off to recoup your money.

And so, you know, those factors combined then we made that shift in 2005 to sell off our houses in our apartments and focus solely on self-storage. And that makes up 99% of our portfolio now.

James: So what happened in 2005? Why was like hey, dumping all the other asset classes, self-storage is the way to go? What was that transition? What triggered that? What was that aha moment?

Scott: Yeah, when I bought my first self-storage facility, that's when I got into the business, I've been investing since 1993. And we had about 100 houses, about 400 apartments and yeah, just wasn't, you know, it didn't have the passive income that I wanted to nor the freedom at that level.

And I begin looking into self-storage and once we bought our first one, that one just, you know, by every measure outperformed the rest of our asset classes in terms of dollar per square foot and just less management and headache and time and everything else. And so that is the time we started investing and everything else and then went on from there and growing to where we are now.

James: So in 2005 that is like three years, well it's not three years. It's like one to two years before the peak of the market, right, everybody was happy with buying houses. There was a lot of equity being built, I'm sure the houses doing crazy. But I'm not sure, what was the state of self-storage at that time? Was it a hot asset class that the equities appreciating or was like a diamond in the rough at that time that you think that I want to do this?

Scott: Yeah, you know, it was still considered the stepchild of commercial real estate or all of the real estate at that point, it just, you know, it wasn't sexy. There's still a lot of folks that just, they don't like it because it is a niche, they don't understand it or you know, it's just a bunch of garages or sheds, you know, put out in a field that's how people look at it.

So, you know, at that time when I began looking into it, I was just looking for an asset class that was much simpler with less competition and then I could see was on the upswing. And so just when I started just digging into the industry and looking at the statistics on it, it was pretty incredible. Again, in many ways outperformed all other forms of real estate and other asset classes, including the ones that I was heavily invested in.

So I think maybe because of the lack of information also, there was more intrigued on my end you know. There wasn't a whole lot of folks that I knew that were investing in it. There wasn't a lot of, there wasn't anybody. You know we have an education company now that was born out of me looking into this business at that point. And, you know, along the way, we begin teaching people.

And now my second company, our education company is the largest education company teaching people about investing in self-storage. And so I think that's part of it, it was just kind of one of those unknowns. It was an untapped opportunity that many investors weren't familiar with or looking into. And so, you know, those are the types of things that I personally seek out.

And so from that standpoint, once I dug in, looked at the numbers and then bought and began operating my first facility, you know, that I realized that you know, this is the road to go down. And, you know, yes, money was inexpensive, it was cheap at that time. The market was good and banks were lending on all types of asset classes. But self-storage, I found was even easier because of the fact that, as you just mentioned, it doesn't go down in a recession. It's recession-proof and inflation-proof.

When things are bad in this country and people are downsizing and businesses are downsizing, self-storage actually benefits from that. So you know, every recession that we've gone through, since the 70s, self-storage has benefited more than any other real estate asset class because of the nature of the business and what happens during the recession.

James: Got it. So coming back to that 2005 when you started, you said you did some research and you found some statistics. Can we go into that statistics and dissect a bit? What was that aha moment that --? It's very hard to always find a new asset class, right, like right now we are in 2020, right.

It's very hard for me to say this asset class is untapped, right, unless I know someone is doing it, nobody knows about it and all that. So I want to go back to your thought process and what was the data that you were available to you, the aha moment, the statistics that made you say I want to go and try out this or do this?

Scott: Yeah. So you look at, there was a study that was done by the Multifamily Rental Housing Commission, I believe is the name of it at the time. It's been a while since I've been out of that. And then they looked at all the various asset classes in rental real estate. And now they've looked at that the number of houses that were available out there in the marketplace and there were roughly 13 million, you know, again, give or take.

It's always changing apartment or excuse me, single-family rental units out there across the country that investors are investing in and everybody's investing in it. There were roughly 16 million apartment rental units; individually units not complex and individual units and there were multiple people that are obviously investing including myself in multifamily.

And I can go into any room and ask the people to raise their hands, who are investing in single-family rentals in any investment club that I was involved in or speaking at. And you know, 80% of the hands of the room would go up if they're investing in houses, for apartments less than that but still a number of them. And then I asked how many people are investing in self-storage; nobody.

I was like, the only person at the time, you know, investing or nobody really looking into it. Yet, there are 24 million rental units in self-storage compared to 16 million in apartments and 13 million houses at the time. So I couldn't find anybody that was out there was investing in it or looking into it. Banks absolutely love self-storage because it has the lowest loan default rate. It was like it's a fraction of the default rate for single-family houses and apartment complexes.

So, you know, at the time, both pre-recession in that 2005 and 2006 timeframe, the savings loans, credit unions, smaller banks, they all wanted self-storage to add to their portfolio because they were portfolio lenders. They were packaging these up and selling them off to Wall Street. And they were strong and they knew that they performed very well and they wanted them on their balance sheet when the next recession hit.

Then little did we know, it did hit and then 2008 and 2009, I still have banks that were clamoring for self-storage deals because self-storage was going, you know, absolutely, you know, the hockey stick as it does during a recession, doing extremely well, leasing up, outperforming everything else. While the values of apartments and single-family houses were all going down into the toilet.

So for those reasons, you know that's why I began looking into it. And that's the reason why we continue to do so during the recession. And, again, never say never but this is where I'm staying. I can't find myself investing in anything else at this point.

James: Yeah, it's an awesome discovery that you did in 2005. Because I mean, up until even like until four or five years ago, I didn't think so self-storage is a well-known asset class. I mean, now, I think there's a lot of people who know somebody. I mean, you are teaching and there is a lot more podcast and people are trying to jump into right so. I mean, am I right? Like four, five years ago, I don't think so self-storage just --

Scott: Yeah, I think well, I think our organization has a little something to do with that, our educational organization. But outside of that, I mean, it's Wall Street and you just look at the stats. I mean, you start looking at the asset classes and comparison from you know, the REITs down to the institutional investors, year after year, consistently, self-storage just outperforms all of the commercial real estates. I mean, the numbers don't lie. And so yeah, self-storage is coming to mainstream and there's a lot of folks that are wanting to get in on because it's performing so well.

James: Yeah. I mean I know one of the biggest things that I realized about self-storage is you know, it's easy to manage, there's a value add because there's a lot of "mom and pop", am I right? But you buy from "mom and pop" and you make it nice, you put Uhaul and you make it a big business and after that, you probably want to sell it to the REITs. I don't know whether that's a summary of the usual business plans.

Scott: That's the business model James. In the beginning, you know, there was a lot more "mom and pop" facilities than there are today. But yeah, the beginning when we were starting out, looking at smaller facilities but ones that are still able to be managed by a person or a management company and so yeah, exactly that.

The "mom and pops" that, you know, they just took their hands off the wheel or they fell behind in terms of technology or the marketing or even just, you know, the best business practices in the industry you know. They've been doing well and making a whole bunch of money, you know, without trying very hard. And then we could come in and see the potential and the opportunity in the facilities. And we would buy it when they're ready to sell at a fair price and then we would take it up to the next level.

So you know everything we've done has been 'value add' in terms of turning the management around, leasing of vacant units, adding profit centers and then adding more square footage. If we can build more buildings on that existing site or buy land next door or across the street, we would do that. And then you know, so now fast forward to the future, still looking at 'value add'.

"Mom and pops" if we can but they could also be now conversions looking into other buildings to buy and convert to self-storage and then developing from the ground up. But yeah, everything we do has been 'value add' to make money for ourselves and our are investors. So again, just like your model.

James: Yeah, absolutely. And how do you I mean, self-storage is very dependent on demand or supply of an area, right? So let's walk through that process of underwriting a self-storage facility that has already been built. Well, and later we go into developing right. So let's walk through the process. Let's say today I drive by a place here in Austin, Texas, I saw self-storage for sale, right. How do I first I mean, without talking about numbers, how do I analyze the location of it?

Scott: So yeah, beyond the numbers itself, the only way to build value in these is to lease them up. And if you can't lease it up because the market isn't good then it doesn't do any good to buy it. There's, you know, we look at the supply index that's what we call it in our industry and that just matches up the amount of self-storage at square footage in a market.

James: Where do you get data?

Scott: Well, there are a couple of different ways. There is software out there that we can buy. And there's a couple of companies that we buy their data from and they'll draw a three-mile ring or radius on that site and give you that information.

Prior to that, we were still doing on our own with Google Earth Pro, looking at the facilities that are around it. And then we go to ezri.com or we can go to the local city data, the local websites for the chamber and find out the population and then we do the math, pretty simple math. In five minutes, we can find out what the supply index looks like.

So depending upon the market it roughly falls into right around seven square feet per person is considered equilibrium in a marketplace. So if we find that there are only four square feet of self-storage per person, it's an undersupplied or underserved market. If we're at 10 you know, we're going to go check those facilities and shop them and see, you know, are they full or do they have you know, a number of units available?

Some markets have a little high demand depending upon, you know, if there's a lot of apartments, a lot of condos, track housing, colleges or, you know, transitional type town military, there's going to be a greater demand. So those supply index numbers may vary a little bit. But ultimately, you know, we're kind of landing on somewhere right around that seven square foot per person that way we know whether it's either undersupplied or potentially oversupplied in a market.

James: So how do you determine that? I mean, because the other drawback to self-storage is it's very easy to develop, right? So let's say you found that facility, you found like so for 4% per square feet, right, but how do you make sure that someone else is not building in that area in the next one year after you buy it? How do you analyze that these new supplies potentially may not be coming?

Scott: Right. Well, first of all, it is a little more difficult to guard against that in Texas because you guys down there, you're the wild wild west. Boards approve everything, anything, and everything.

James: Yeah, we are business-friendly,

Scott: Extremely business-friendly. So, well, you know, other developers, for the most part, you know, they're pretty savvy and they're not going to go in and build it without doing that same homework. And so you know we look to see what permits are coming down the pike. And so we're always keeping an eye on that throughout the process.

You know, as soon as we secure land or a building, if we're going to convert it then up goes the sign, it says 'the future home of'. So, you know, even if other developers are looking around that market at self-storage, you know, they may potentially ward them off or if they see, you know, the zoning and the permits and how many square feet that we're going to buy, they're doing their calculations.

And if our project, the addition of 100,000 square feet will bring the market up to seven square foot per person, then you know, the smart developer isn't going to go through all that risk and the trouble of coming into market and then their facility is going to be struggling during lease-up and potentially be in an oversupply situation.

Now that's in a perfect world, right. So we still need to guard against and if we do see that some people are sniffing around then we may approach them and just kind of warn them against that. There are some times when these developers, you know, usually they don't have private equity behind them or a bank or, you know, the need to go through a feasibility study or go in front of a lender to build their business model. Because if nobody's checking, I can't stop stupidity if somebody just has cash, they decided to build something.

But for the most part, again, you know, there are savvy developers like ourselves that aren't going to take a chance, they do the same bit of homework. And, you know, much like if I were to go into and find that same thing, we found a perfect spot, you know, the perfect building to convert. But in our due diligence, we found that there's, you know, a Uhaul facility coming up or public storage or extra space or even a national or regional player, that's going to build 80,000 square foot, I'm not going to think that I'm better or that we're going to beat him to the market. That's stupid.

We're going to shoot ourselves in the foot. We won't get the returns that we want. We'll have equity partners that are disgusted and we have banks that will either be disgusted if we go through with it or they won't give us a loan in the first place. So so there's natural, you know, there are some natural barriers called intelligent developers all looking at the same time, you know, to keep that from happening.

So again, that's in a perfect world. But there are you know, there is from time to time where you do have some folks in a market that are entering and make it extremely competitive and difficult on everyone.

James: Yeah, so there is no like one, well, it's a bit hard to really predict that right, who's gonna build what right? If you're under contract, sometimes you just wouldn't know whether they're going to build one.

Scott: Sometimes you wouldn't, that's why you know, again, even prior to closing I mean, that's one of our steps. Before we go to the closing table the day before we're looking at, you know, the zoning board and the office to see if any permits have been pulled or if there's anything going on that we didn't know about.

James: Got it. And sometimes it is also like your facility may not have certain features that the developers say hey, can bring in that feature plus whatever you have, right, like cold storage, right. Sometimes you probably buying a deal which is just normal storage but somebody else might come and say I want to do normal storage plus cold storage which makes mine more attractive, right, that can be a bit dangerous too, right?

Scott: Absolutely, well, it could be dangerous but also if anything that may help because there's you know, a place in the marketplace for non-temperature controlled, you know, less expensive storage, single-story without all the amenities. There's always a place for that, the folks are looking to store something inexpensively.

And even if another facility developer comes in and builds a facility that is, you know, three-story and is all temperature-controlled, and you know, security and you know, everything all the bells and whistles, a class A facility, there are people that are will only store their things in that facility. And so, you know, that does help to ward off an oversupply situation because there are somewhat segments of the population.

But it's not exactly what you think the way you stated it where people are going to say well, I don't want to store my stuff over here in this non-temperature control, I want to put it over here. They don't need to pay double, you know, to just store some of their junk, I mean, their treasures.

James: Their treasures, exactly.

Scott: So there are the degrees of treasures and that'll dictate that you know the budget as to where they'll put their items. Does that make sense?

James: Yeah, it makes sense. Yeah, I think that's one of the biggest risks I would say right in self-storage. Like for example, a mobile home park. A lot of people do not want a mobile home park in their city. So that's a high barrier to permits to build a mobile home park, right. Whereas apartments and self-storage always have you know, the supply things. I mean, in any asset class, there's there's always a supply concern.

Scott: At the end of the day, it's a ''gotcha in any form of real estate, you just got to do your due diligence, period.

James: Yeah, correct. The other thing on self-storage that I found out that, it's not as easy, is just a different way of financing it, right. You don't get a lot of [unclear19:42] concern compared to apartments. I mean, there's pros and cons in both, right, so do you do recourse loans or do you non-recourse? Does it matter really?

Scott: Well, of course, we don't like, you know, if we don't have to do recourse, we'd rather not. Again, the good news with self-storage is we find a lot more non-recourse funding available out there just because the asset class is less risky. The loan default rate is the lowest compared to all other forms of commercial real estate. So there are a lot more lenders that are willing to do non-recourse just because the asset class doesn't fail very often.

James: Okay. I was thinking maybe, the sources that I got were a lot of recourse. But I think anything at lower leverage, you should be able to get non-recourse so is that common for you?

Scott: Sure, yeah.

James: Okay, got it. Yeah, okay that's interesting. And what about in 2005, I want to go back to 2005. You discovered an asset class that not many people discover, right? So, if one of our listeners want to recreate your success, they have to discover that asset class right. So you found this self-storage, how did you do your underwriting? Because there's no one there to teach you how to underwrite this investment, right, that asset class, right?

Scott: Well, so it started with, you know, the Excel spreadsheet that I used to underwrite my apartment complexes, you know. So at the end of the day, it's still commercial real estate and you --

James: Absolutely.

Scott: Income minus expenses and NOI and a cap rate. So then what I had to do is I spent time with the consultants in the industry who does feasibility studies and paid him to spend time, a day with him to not only visit the facilities that he owned; those that he managed for somebody else but then also spent a fair amount of time underwriting and understanding.

You know understanding all the line item expenses in a self storage facility and how to account for that and what those industry averages are just to be able to see, you know, in a self-storage facility when I look into it. "Hey, is this above or below average? Or, you know feed me a line here? Is this you know, truly the expense or where should I be as a baseline?" So, and again, as you know, you know, underwriting for any asset class apartments, self-storage, mobile home parks, you know, there are an art and a science to it.

James: Absolutely.

Scott: Here's the underwriting for the lenders and the industry averages but everyone is different. And then you also have to, you know, we look at three sets of numbers you know. Here's where it is right now. You know, we stress that NOI and send that back with our offer to the seller, then there are our 30 days, you know, here's what's gonna look like the day that we buy it or 30 days after we make some changes. And then here's what's gonna look like in one year from now. And then obviously, our projections after that.

So when I look at those three numbers for an acquisition, you know, that's going to tell me where you know, we are going to land in a purchase price and what this facility is going to look like. And then obviously, in five years hopefully, there's a large value add down the road. But learning it is, you know, again, like anything else, I hired experts, I paid those folks and then did a lot on the road, a lot of facilities. And then you just kind of begin to build up that experiential math and your mind, you know, when you begin to start looking at these saying what it's going to look like.

James: Was it easy to get deals in 2005, 2006?

Scott: Easier than than it is now, cats out of the bag. It's a hot asset class, there's a lot of competition. And right now, I mean, from where we're sitting right now, at the time of this podcast, you know, there's, we've had a bull run, interest rates have been low. And so if those sellers and cap rates are low, so if those sellers are in a position to you know, sell for whatever reason; to retire or if they just had built value in it, they were going to trade in, trade up you know. They've sold off in the past few years because we are at the top of the market.

So the ones that are out there, and there are still opportunities out there, don't get me wrong. You just need to look a little harder and look at the value to be created in the future, not just immediately. And there are other folks out, you know, competitors, there are other folks that have sent letters and mailers and knock on their door as well asking them to sell their self-storage facility.

So, but you know, at the end of the day, I'll say this to you and your listeners the same as I do to our students at our events; "Hard work wins in the end". And you know just going out to and no offense against LoopNet or any other websites out there. But just going to LoopNet and doing a few searches and then giving up is not a strategy.

You do need to send the mailers out, you need to knock on doors, do Google searches, you know, get your own database and work it and continue to contact the folks in your market. You know until they tell you to stop or they sell you your facility or they die, one of the three. But if you keep after it, you'll find deals. Our students are finding deals, we're finding deals all the time. Not as easily as 2005, as you mentioned but they're out there.

James: Do you buy deals from, I mean, not you. I mean, common people buy deals through brokers as well on self-storage?

Scott: Of course, yeah, the large brokerage firms, you know, all the players. Most of the large ones have a self-storage division or an arm to them. And then there are other commercial brokers that specialize in industrial and in storage. And then there's also I mean, you find from time to time, we've looked all over the place in our search for facilities and so you'll see them listed by business brokers as well.

Because there's a lot of "mom and pop" owners that when they're getting ready to sell, they look at their facility, not as commercial real estate but they look at it as they're selling their business and so they may list it themselves on one of the small business for sale websites or contact a small business broker. And they'll put it on one of the small business brokerage websites as well. So a number of avenues and places to be able to look for self storage that comes available for sale.

James: Got it. What about the depreciation and tax benefits in self-storage? How does that play out compared to like apartments?

Scott: Yeah, cost segregation is our friend. We apply cost segregation immediately to these projects, especially when we're buying into building them and so. You know everything else is the same and applies, same for tax purposes with the added benefit of, you know, we can write so much off in cost segregation because of the way that they're built; from the walls, the doors, you name it, the lion's share of the facility can be written off using cost segregation. So it's very advantageous.

But also going into these projects, it's much easier because self-storage really started out as a land play and kind of a land bank where, you know, years ago back in the 50s and 60s, people would put up these storage buildings. Buy five acres way out on the edge of town, even beyond the path of progress, build some buildings and rent them out to pay for the property taxes until all the growth came that way. And then they would knock them down and sell them off to somebody else or build something else.

Well, now, self-storage is the highest and best use, but when we go to buy these, we will buy them with two separate purchase agreements; one for the land and then one for the business and the buildings. So from that standpoint, we can lower our tax basis when we go into these projects because the assessor's office recognizes that it is a land bank. These are buildings that can be taken down and the business, it's only a single-use, you know, when you have a storage facility, you see all those doors and it's one use, that's it.

So it's really easy to go in with to purchase agreements and then also win that battle or the negotiation with a tax assessor as to the reason why that we have an assessment for the land and the building separately.

James: Interesting. What about your funding sources? I mean, I'm not sure whether, I am presuming you do syndication nowadays, right?

Scott: Right.

James: So did you guys do that in 2005?

Scott: No, we didn't. That was our partners and you know a few folks that would come alongside us that had some retirement funds and they would be partners in the deals. We did do some [unclear27:11], some syndications but just with the family, you know, true family, you know, friends and family at that point, just one or two people.

But at that time, we were still using local lenders, credit unions savings and loans, community banks, 75% LTV and then we would bring the down payment or our partners would or we would do a lot of seller financing. Those "mom and pops", the owners they would have built these years ago or bought them years ago and they paid it down and paid it off and they didn't want to pay capital gains taxes.

And so they would stay in the deal and sometimes, you know, stay in for the amount of the down payment. And then we would just bring a small amount to the closing table and layer that on top of a 75% or 80% LTV loan. These days, we're using mostly the SBA for underlying debt but also still credit unions and local banks. But then yes, syndicating the rest of the funds and setting up a Reg D filings, five or six days and five or six years time to layer the money on top of an SBA loan or traditional lender.

James: Got it. And how did the negotiation terms have changed from 2005 to now? I mean, in terms of like, how many days you have for due diligence, you know? How many day one hard money? How is it then and how is it now?

Scott: I don't think that has changed too much, James, maybe we asked for a little bit more. And so we're getting a little bit longer time frames just because we were too afraid to ask back then. But pretty standard, I mean, we tried the traditional existing facility should be up and down in 90 days. So you know, we give them 10 days to give us their books and records maybe two weeks. At the end of 30 days, we'll have our discovery period and look and then we may have another 30 days once we have our financing in place for them to do third parties and then closing another 30 days later.

Again, we can get up and down in 90 days sometimes less than that. Now if we're doing an SBA loan, they just it takes longer and just flat out takes longer. And so we start at 90 days, then we asked for an extension for till 120 or sometimes 120 and extension to 250 days just because that process lasts a little bit longer and for raising private equity. We'd like to have a little longer runway to be able to do so. So as long as the seller agrees to that, then you know those timeframes are a little bit longer with the SBA.

James: Wow, that's awesome. I mean, in the apartment world we are seeing day one hard money you know, five days due diligence and the potential of you making mistakes is very high, right?

Scott: We just won't do it. I won't put ourselves in that position. You know, you take away all leverage and ability to perform and yeah, we would just --

James: Yeah. And then it's a one year lease and I mean, just pros and cons and everything but it's just become so hard now. The sellers and brokers asking for more crazy terms nowadays, right so happy to know that in self-storage is not that bad yet, hopefully, it never got there. But --

Scott: But some are, I mean, we've got some crazy, you know, terms and we just, you know, they want to see proof of funds and say, well, we got to get a deal first. I can't, you know, no lender is going to prove anything until we have a contract and I can't take anything to my private equity partners until we know paying for and do some due diligence.

And so, you know, things like that are just, that's some of the ridiculous things that we just will always deal with. But we just can't perform under those terms. And so, you know, we've got terminology that we use to combat that and then also our relationships and then our track record performance that they shouldn't have to worry. And you know, our money will go hard when we're done with due diligence, we'll make it short.

But you know, we got to take a look under the hood, not going to give you $100,000 non-refundable, you know, deposit on this thing without a chance of looking at your books and records and inspecting the property so.

James: Yeah, you'll be surprised to see how many people are paying like half a million dollars without looking at the property right now for an apartment.

Scott: Well, what is the difference between if I give you $1 for earnest money or if I give you a million dollars for earnest money and the purchase price is 1,000,001? At the end of due diligence, if there's something I don't like and your numbers are fudged then I'm getting it all back, whether it's $1 or a million bucks. So I don't know why everybody is still making a big deal out of this, you know, that large earnest money deposits just doesn't make any sense. It's all coming back.

James: Yeah, I think it's just the way the market is so hot right now.

Scott: I know, and we have people out if you have the ability to do that, then you know, they know that you're a serious borrower or buyer if you have that money, so I get it, but yeah.

James: It just put a lot more on a risky side, right.

Scott: Right, yeah.

James: And how do you do your offerings? Is it liked deal' or you do a fund basis kind of thing?

Scott: Yeah, we don't have a fund yet James, we're heading towards that. I think when you know when we see signs of the market are going to turn and there's more opportunity to buy existing facilities where you know, that owner hasn't done a good job and it's time to refinance at higher interest rates and lower LTVs, we'll look to do a funder. Right now everything is a single asset, single entity LLC, we do a capital raise for each project right now.

James: What is the average raise that you're doing? I mean, I'm sure it depends on the size.

Scott: It does, I'd say we're probably falling in that $3 million mark or so, you know, as low as 500,000 but most of them and others are 3.5 million, 3.7 million. So I'd say yeah, somewhere around the $3 million mark is what we're raising.

James: Do you see a lot of passive investors interested in investing in self-storage?

Scott: Oh, my gosh, more than we can supply deals for. I mean, they're just like investors, you know, if they're just doing it passively. Everybody wants a piece of self-storage right now. So we're just trying to supply the deals to them.

James: What would you advise to a passive investor who's looking at a deal, right, a genetic deal? What are the steps that a passive investor should take to analyze that deal at a very high level for passive investing?

Scott: Yeah, well, I think they need to learn about the asset class. First of all, so you know, however way, shape or form they can do to educate themselves in the market space and understanding self-storage is helpful. But, again in the beginning stages, you know, they need to look at the sponsor, and, you know, what is the sponsors' experience level? And have they successfully purchased, created value and exited? And you know, did they hit their marks in terms of the projections that they had made to, you know, their investors in that project or those projects? You know, how well did they perform? Do they always fall short? Did they exceed the projections going into those? Are they still untested? This is their first deal or they bought and they're building value, but they haven't exited and created any value for their folks. So I think that's probably the main thing is you need to vet your sponsors very well.

James: Got it. Yeah. I mean, I agree. I mean, the operators and the sponsor are the biggest factors in any deal, right.

Scott: They are the factor.

James: They are the factor, correct. They are the investment return is I guess.

Scott: Correct, yeah.

James: So that's awesome. So what would you tell a newbie who wants to start in self-storage investing as an active sponsor?

Scott: As a sponsor as the primary?

James: Yeah.

Scott: Again, go out and learn the business, have somebody come alongside you, or at the very least, you know, check your underwriting and your due diligence in self-storage is maybe even more so important to look at the market and the supply index that we discussed. You know, if you're a value add investor and you're looking to take a facility from 60% occupancy up to 85% occupancy, you need to be sure that you can do so.

Because if you shop the competition all around in a five-mile radius and they're all at 60%, then guess what, the market is stabilized and so is your facility, you're not going anywhere. So you need to look into the market, make sure that you can raise occupancy, raise rates or there's the growth coming or some compelling reason that allows you to hit your marks if you're going to create value in it.

But then get real good at underwriting and get some help or assistance or even hire somebody to look over those numbers because, in commercial real estate, you know a $10,000 mistake in underwriting is a is more than $100,000 mistake in valuation at today's cap rates, it's more like $120,000. And it's really easy in a five million dollars deal to miss $10,000 in expenses and, you know, just shoot yourself in the foot to the tune of $120,000 or more.

So give me a good at that side and then yeah, hit the ground running with a property management company, if you can or make sure you hire a rockstar manager to manage the facility. Do not hire the gal at Great Clips because she's nice and you like the way she cuts your hair. That person is not the person to manage your $1 million investment. You wouldn't put her in charge of a $1 million stock portfolio, this is no different.

So you know, do your due diligence and then make sure that you're managing that asset once you buy it to the best of your ability, evaluate it. So I mean, there are lots of others, but those are the main.

James: How critical is asset management in self-storage?

Scott: Well, so we're on the same page. I mean, there's property management which encompasses the marketing and the bookkeeping of the asset itself. There's the onsite payroll, the person behind the counter. You know we look at asset management as managing the investor or the overall investment, meaning the private equity piece. And so, we take that very seriously.

And we didn't do such a good job of that in the beginning. And we didn't realize how much our investors wanted to be communicated to by sending out the regular reports. And we thought that monthly reports of the performance and our quarterly webinar was enough and they want more than that. And K1s on time, obviously but just you know, timely and over communication to our investors is key. Getting those K1 out on time but then in an organized fashion.

You know, we've now taken it to the next level and last year, we have a portal that we built out a portal so you know, we look like the big guys. I guess we're getting as big as the big guys now. But you know, we have, you know, we look like Fairway Capital when you log into our portal or, you know, Realty Mogul or, you know, [unclear37:02] Fundrise. The reporting and the information that we have is every bit as good as the big guy.

So never underestimate that or else, you know, you'll spend a lot of time answering questions from them with phone calls and emails that you wouldn't have to do that if you just communicate with them regularly. And they'll keep coming back to you as long as you perform and you've been easy to work with and communicate with them and they will invest in your next deal and your next and your next.

James: Yeah, I have a portal as well and my investors love it too, centralized and all that. The other asset management part that I'm pretty well versed in [unclear37:39] the strategy to increase the rent, to keep on making sure that they are having the business plan being executed. For example, in your case, you need to get a Uhaul company service agreement. I mean, how complicated is that business plan execution?

Scott: It's key. That's another layer that we've added. You know, it's one thing to vet the property management companies in the interview and make sure that you get a great property management company in place to manage the facility for you. But at the end of the day, you and I both know nobody cares one percent as much about your facility and your apartment more than you. So for that degree, we've added a layer we've added another person who manages the management company and it may sound like overkill or redundancy.

But, you know, here's the plan and they're meeting with the property management company on a monthly basis saying you know, here's what we set out to do to make this thing perform. So what have you done to add attended insurance program and have you raised rates by this percent and how is the revenue been affected, what's the marketing plan this month? And is it in line with this quarter? So you know, we don't just, it's not a set it and forget it business by any stretch. Yeah, we need to manage management companies and drive the performance and then drive the value.

James: Got it. And at a high level, what is stabilize the self-storage cap rate that's being sold on the market right now?

Scott: It all depends, you know, Class A, Class B, Class C and you know, and what market you're in. But, you know, gosh, when everything was hot and you know, two years ago the Class A institutional-grade facility so they were selling a below a 4% cap rate, I think those have now stabilized on closer to five, five and a half percent cap rate.

The projects that we're looking to produce to the REITs or to the national players to buy their Class A facilities and, you know, we're looking at an exit strategy of six. We certainly could push to get a little bit lower than that but, you know, that's how we're those are trading. Class B; seven, seven and a half cap rate and then Class C, obviously, depending upon the, you know, occupancy in the market and how rural it is, you know, seven and a half and above.

James: And is it based on your built for the classes?

Scott: I mean, all things considered, yeah, there's, you know, first-generation whether has climate control. You know, what's the market; is it rural? You know, rental rates, how is it managed; is it big enough to be managed by a management company, is big enough to be managed by a REIT? You know the security system in place regular, you know what is the rental rate history; has it been spiking, population spiking in the market? You know the path of progress, you know all those things so.

It's not only where it is today and where it's been but also the upside in it as well. And what we have seen James is these things perform, you know, we put still more blinders on in self-storage than we do with apartments or some of the other asset classes when we look at as a performing asset. Let's look at the underlying you know, where we're going to take it, it doesn't have to be beautiful.

You know, we can get these Class B facilities that are operating very, very well and traded a cap rate that is closer to the class a facility is more of the institutional-grade just because it's so predictable. And you know, we know what's going to happen in the marketplace and if it's a high barrier to entry, it's going to be a, you know, solid investment that we can hang our head on without too many variables.

We have in an apartment, housing, you know, dental offices, mobile home parks, there's always going to be something that's going to be bright and shiny, nicer and people want to live there or they want to 'office' out of the nicer places. And so you'll see the, you know, first-generation or older generation get affected by that. Self-storage, it's largely excluded from that phenomenon.

James: Got it. Well, awesome, Scott. So why don't you tell our audience how to get hold of you and your education platforms, of course.

Scott: Yell really loud right now. selfstorageinvesting.com is the way to get in touch with me. And there are lots of free resources on the industry if you're looking to get into it or just learn more about it on the passive end. You know that is the best place and the best resource to start.

James: Okay, awesome. Well, thanks for coming on to the show.

Scott: My pleasure James.

James: You are the only guy I think, yeah, you're the only one who has talked about self-storage in this show. And I like to focus on a lot of asset classes even though we have a lot more multifamily, really like talking about the different asset classes, how is your return? Because I believe as I said, you know, there's potential in all asset classes as long as you find the right operator in that asset class who is the best class in that asset class. So, thanks for coming in.

Scott: My pleasure, James. Thank you.