s3.amazonaws.coms3.amazonaws.com/.../mastery4/transcript… · Web view · 2015-05-27Berkeley, California, for those of you that are not familiar, is roughly 13 miles northeast

Tuesday Case StudyApril 14, 2015

Anthony: Good afternoon, Mastery, Professor Moore here. Welcome to the Tuesday Case Study Call. We have a very interesting case study today; it’s going to incorporate a lot of different moving parts. I had the privilege to kind of walk through some of the scenarios with our presenter today and we’re going to talk about changes in finances, changes in scopes of work. There are a lot of variables that happened in this transaction, so you need to pay attention. If you don’t we could all get confused, so we want to go ahead and do our best to pay attention to all the different scenarios.

Just know if you get confused or have any questions, we are available for you. We want to interact on this call as much as possible. There is a questions panel, type anything in you can that you’re confused about, not sure about or just want clarification on. I will be answering questions in the background. I’ll be typing away like a mad man, if I know the answer to it. If not, at the end of the call we’ll ask Ken if he can answer some of these questions for us and clear up any cobwebs we may have.

We’re about three past the hour, we have a few hundred of you already logged in and a bunch more logging in right now. So without further ado, I’m going to go ahead and mute myself, hand it over to our buddy Ken and learn a few things on this webinar. Ken, take it away.

Ken: Thanks so much Anthony for your introduction, I’m just going to move right into the presentation. My name is Ken Gendemann and I’m the owner of Alchemy Management Group located here in San Francisco, California. The project we’re going to talk about was co-developed with my investment partner Alex Schroeder of Futures Designed also out of San Francisco, California.

Berkeley, California, for those of you that are not familiar, is roughly 13 miles northeast of San Francisco right over the Bay Bridge. It’s roughly a 20-minute car ride or there are different forms of public transportation, particularly trains. A community or city like Berkeley, it’s very much folks that will commute into San Francisco. Basically, any of the cities in and around the city do tend to commute in for work.

So this was a great neighborhood, up and coming. It’s in the southwest corner and it’s very much gentrified. So Northern California, particularly the Bay Area, over the last three years has seen very rapid appreciation. With that said, there are a lot of folks that work in San Francisco, but they simply can’t afford housing. So they’re pushing outside of the city proper and this particular area is excellent for commuting into the city to work. I’ll talk a little bit more about the end buyer for this home when we get a little bit further on in the presentation.

Just a quick note while we are on this photo. Anytime we are going to evaluate a potential project, we’re obviously looking at the surroundings of our neighborhood. We’re looking at the potential for curb appeal. The homes left and right of the subject property have been renovated in the past five years, particularly the home on the right, which gave us a good springboard to say there’s a good opportunity here. This neighborhood gentrifies that we will continue to expand the overall look, feel and direction of the area. Directly across the street from this home were also

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some very nice Victorians that certainly had pride of ownership. While this is a gentrifying area, for a lot of reasons this home had great curb appeal and opportunity for us. Deal Overview

Moving ahead, we’ll jump right in to the overall deal overview here. We’ll get into the nuts and bolts of it as we go through this presentation, but ultimately, nine months of post-rehab time, marketing time and close of escrow. The rehab portion of it was probably seven months, taking it to market we had it ratified and closed after two week and, ultimately, probably a four-week escrow period. So, in total, with this project we had our capital tied up for nine months.

When we sold it post-rehab $951,000 was our sales price and we had purchased it for $544,000. The repair cost ended up being $195,000, which is significantly expanded. In terms of when we initially did our scope of work and where we were going to take this project, we had intended to spend $65,000 in repair cost. So you can see we had $130,000, the combination of expanded scope and some budget overruns of roughly $30,000, which took us to the $195,000 repair cost.

Finance costs were not insignificant in this project, despite the fact that we did some interesting things on financing that we’ll get into a little later. We saved some money on it, but it still ultimately cost us $33,000. Our real estate commission to close out this project was another $47,000. So between finance and commission alone, you can see there’s $80,000 of both fixed and variable costs that would be nice to be part of the net profit, but it’s a fact of doing a deal.

Ultimately, the project netted us $117,000, a very handsome return that was basically an ROI and our own cash-on-cash investment of over 30%. Roughly, 31-32% ROI cash-on-cash, so in terms of investing a really great return. As I alluded to, roughly nine months from escrow to escrow life is the way I like to describe it. From the time you buy something and close escrow to the time you rehab and resell, nine months.

How We Found the Deal

I’m a licensed agent in San Francisco with Pacific Union International and I do have a network of field agents working for us in and around the Bay Area and this was exactly how this lead came to us. It was, essentially, a colleague of mine that is also at Pacific Union. That’s the brokerage and they are acting as field agent. For those of you that have gone through the Mastery Program and all the training and so forth, you’ll know exactly what the field agent’s role is and it certainly works.

The Seller

Interestingly enough, there’s a large, very successful crane operator here in San Francisco and they are spitting off a lot of cash. My take on it in talking with their acquisitions manager, who I ultimately brokered the deal with, is they were looking for an outlet for cash. They saw the rapidly appreciating real estate market here in the Bay Area and started making significant investments to the point that they would be rehabbing 10 houses at a time.

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This particular home was purchased at an auction four months earlier. They bought it at $465,000 and you can see that we paid $535,000. The prior owner held the property for four months and made a handsome return without doing anything. As we got into it and evaluated it, we still saw a lot of upside at the purchase price that we got into it.

As I just said, this particular house was part of a larger portfolio of this investor who was working on multiple projects at once. Other than that, the negotiation itself was a pretty straightforward real estate transaction.

Funding

Let’s talk a little bit about funding. Anytime we get into funding an acquisition there are a lot of different ways to accomplish that, whether you’re using private money or hard money, if the home qualifies for a Fannie-Freddie type of financing, conventional.

In our situation, the house was in very rough condition. However, it was still meeting some of the requirements for Fannie-Freddie underwriting. It had a kitchen, working plumbing, things of that nature that allowed us to compare going to hard money versus using traditional conventional financing at four and a half percent versus a hard money lender at anywhere from 10 to 12% and two to four points, which is what they typically like to charge.

So through our analysis, it made sense to not only provide the borrower, who essentially owned the home, with an origination fee, which would be the same thing as a hard money lender charging two to four points on your note.

The buyer was essentially at arm’s length, although very well known to myself and my business partner. This individual applied for conventional financing. They were not a homeowner themselves, so it essentially became their primary residence. The way we structured things is this individual was on title and we put in an operating agreement between my company and Futures Designed to do the construction management. Essentially, the construction management would not only include any hard costs we would have, it would also include that any profits remaining would become part of the construction management contract.

As a result, the buyer, which was all agreed to up front, was compensated $10,000 as an origination fee. They participated in some of the capital for the project itself and I paid them a handsome rate of return of 12%. The other significant benefit for this sort of financing structure was the buyer, as I said, was not a friend and did not have a primary residence, so it allowed them to quality for both interest and property tax deduction on their personal tax returns.

So it was very much a good structure for all parties involved. We saved, roughly, $11,000 of finance cost versus using a hard money lender. In addition to that, we had a very satisfied investor/buyer who wants to fund another deal with us here in 2015.

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Scope of Work

Let’s talk a little bit about our scope of work. When we were evaluating this, it was a project that was going to take more of a cosmetic appeal to it. We were going to go in and remodel the bathroom, potentially add a half bath, remodel the kitchen and really just kind of spruce the place up. To do all that we had a budgeted scope of work of around $65,000 and an after-repair value of $725,000.

As we got into the project and were in the planning phase of getting our essential drawings done and getting our permits put through the planning department, we were paying very close attention to what was going on in this little southwest corner of Berkeley. As I mentioned at the beginning of the call, it was an area that was gentrifying rapidly and property prices were appreciating rapidly, as well.

After being into the project on the planning phase, honestly, for probably the first two months we took another snapshot of the market and were observing some sales occurring that were getting us to reevaluate what that scope of work should look like.

As a result, we decided this property could grow from a two-bedroom, one-bathroom house all within the same square footage envelope -- we didn’t add a new foundation or anything to that affect -- into a three-bedroom, three-bath home with completely new mechanical systems, so all new electrical, new plumbing, new furnace, etc.

To accomplish that, we were going to have to add over $100,000 to our construction budget. With that said, we complimented that with an after-repair value of $950,000. So our ARV was growing by $225,000 and, initially, the scope of work was growing by about $100,000. We had some budget overruns, which we can talk about, that took us to the $195,000.

So that was a key moment for us and it was a hard decision to make. To tie up that much more capital was a significant decision for us and whether or not we would have other opportunities that we would have to pass up because our personal capital was tied up into this larger scope of work.

As I have said, we evolved from a two-one to a three-three. From there, this house had a basement that wasn’t legal. Basically, you had a home that had sort of a makeshift bedroom that was not built to code, did not have proper ceiling height, did not have any furnace in it, etc. Basically, we decided that we wanted to get this square footage included as part of the tax record because, ultimately, that would give us the opportunity to go out to market and sell at that ARV of $950,000.

So we did just that. It was not for the faint of heart, we had to jackhammer out the entire basement. The slab that was down there was completely bowed and cracked. It had some water damage and heaving, etc., so we basically took out the entire slab of the lower level. From there we legalized and put in a very nice bedroom, had the laundry situated down there and put in a full absolutely gorgeous bathroom, as well. So that was a way to pick up square footage and allow us to market it as though it were a larger home, all legalized with permits.

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The other interesting thing that was happening in the Berkeley market partly has to do with the nature of our weather here in the Bay Area. For lack of a better word, it’s perfect 12 months of the year. It’s indoor-outdoor living constantly, so other costs we were looking at is they have all these little casitas they call them. They’re just basically little outbuildings that have a finished interior, so that could be somebody’s remote office or a play area for children, whatever it may be.We’ll see it in some of the photos coming up, but this home had an existing tool shed that we decided would make an excellent home office. So sort of last minute and, again, expanded scope, we had our contractor build out this tool shed. We added energy to it, put in some new windows, a sliding door and then drywalled the whole thing. The whole thing cost us about an additional $3,000, but it was a big value-add when we went to market. The homes that we were comping at over the $900,000 range all seemed to have these casitas, so for $3,000 it was a big value-add for us.

Changes in the Scope

Talking a little bit about the changes we did in the scope, as I said, this project took nine months of which seven or more were primarily construction. We think we could have been done in four, but because of the expanded scope and some additional challenges we added an additional three months to the project. So when we’re out there building our pro formas for a project and our deal analyzer and we plug-in our six months, here’s an example of where we ran three additional months. So you’d have those three additional months of holding cost, etc. that are going to sneak into our projects now and again.

The good news story about it is that this expanded scope netted us an additional $60,000 of profit. So we were going to sell this home at $725,000, we had budgeted to make about $60,000, but we sold it at $950,000 expanded budget. However, we netted an additional $60,000 of profit, so it was definitely worth the extra effort, the extra capital and the extra time.

The big lesson for us on this was to stay current in your market. Particularly if you’re in a market where you’re seeing rapid appreciation, really be on it. Basically, any project that I have on an ongoing basis that is a work in progress, I’m comping every two weeks and just staying on top of my solds so if there is a shift we can make that shift at the appropriate time and capture any additional market that we may glean out of it.

Unforeseen Challenges

Moving on, talking a little bit about some of the unforeseen challenges. As I just mentioned, our hold period was an additional three months longer than budgeted. With the expanded scope of work, the project became more complicated. As I mentioned, legalizing the lower level (the basement) ended up getting us into a Title 24 Analysis, which is another engineering analysis about energy efficiency. Having to bring heat into the bedroom, switching out windows throughout the house, etc. all ended up triggering an energy compliance analysis reporting and stuff like that.

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Again, by expanding the scope we had it became more complicated. I mentioned we had budget overruns of $30,000, these were true overruns that even when we expanded our scope we just couldn’t see them coming. Part of it we attribute also to our contractor. It’s tough to quantify, but the contractor that we had used on multiple projects had really overextended himself. He was also really a competitor to our project because not only is he a general contractor doing remodels, he has his own portfolio of homes that he’s working on.

What ended up happening during our project is he was taking the trades and the labor he was managing and had them on his job site, rather than following our contract that says you’re obligated to work five or six days a week continuous until the project is done. Those terms in a contract are often tough to enforce and, again, our experience was that there would be days going by where nobody would be at the job site and the contractor would come up with one excuse after another. Ultimately, they got the project done. But, again, I think the contractor added a couple months of delays for us, as well.

Another challenge is the City of Berkeley’s planning department is not the friendliest. Like many state agencies in California, they’re all budget-starved, underfunded and understaffed, so that always adds additional challenges and frustrations. To add to that our field inspector was a challenge to work with, as well, he was pretty particular. You sometimes have to just grin and bear it with the field inspectors and do as they wish. Sometimes that’s the fastest way to get your project through and back onto the market or whatever your exit strategy may be.

Another challenge we had and I can’t emphasize this enough, our architect, honestly, dropped the ball in a couple of areas. His resume, as presented to me and my investment partner, he really wasn’t as qualified as what we ended up getting for a product. Why I say I can’t emphasize this enough, I’m in the middle of another project right now fairly nearby, new architect, local, and we are experiencing some of the similar issues that we experienced with an architect in Berkeley, as well. Again, it comes back to just not being as qualified as their resume presents.

The other thing that often happens and did happen in this project is that your contractor doesn’t always follow plans. They could be on the job site, they’re approved and available, they have the mentality often to just go in. Particularly with this home because it was a complete gut job, there was very little to salvage, there is always still a demo plan and the contractor really didn’t follow the demo plan. So they went in and demoed more than what was on the plan. As well, there was some construction going on that was more than what was on the approved plans that raised an issue with our field inspector.

This resulted in us having to go back and submit revisions to our approved plans. All of this takes time, it just doesn’t happen overnight. You’ve got to sit with the architect again and the architect goes through and makes whatever revisions to reflect the demo and construction, if the contractor may have gone beyond the scope. In those scenarios that could add another week or to, just to get revisions approved and it delays construction.

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So those were some of the unforeseen challenges and they’re all fairly significant challenges that can pop up in any project. I certainly got an education out o this one.

Before and After

Moving on, here we are with some before and after. As you can see in the picture on the left (the before), there was a large bay window that was cantilevered out. That bay window was rotted out and not permitted or legally attached to the home and did not fit the design aesthetic of the neighborhood or that house, so it looked terrible. As you can see in the picture on the right, it was a major change we did to the façade of the home.

As well, we struggled with this great perimeter fence. It was structurally very sound. It was iron and brick, as you can see. However, it was a very dated look and kind of gave the feeling as though you were in a compound or a prison, so we softened up that whole façade by stuccoing over all the existing brick that you see there. We tore out all the iron and sent that off to salvage and then built, which is trending very much in California, this horizontal-type of wooden fence, which gives it a lot softer look and feel. Ultimately, it turned out really nice.

One other thing you’re going to notice as we go around the house, you see the mullions in of these windows? It’s not preferred, for us anyway, design-wise to have the mullions. However, there were several windows in the house that had mullions that we were not going to replace. We did not want to mix and match so we kind of ended up keeping that theme, despite the fact we really didn’t like it.

This is a profile of the side of the house of the other design things that we touched on. You can see on the before picture, the house had this scaly appearance to it. Those bumps you see, those were two or three inches extended off the house. Our contractor initially tried to grind them out and it was just far too much work, so we ended up putting on several layers of stucco to get the more smooth-finished appearance we have.

Simple Things We Cleaned Up

You can see along the ridgeline there those little frills or whatever, it’s very dated. We contemplated a lot on what to do with that. Ultimately, the easy fix and it turned out great was taking a 1 by 4 and running it along the bottom edge, just covering it up to give the house cleaner lines. So that was a pretty simple fix, but over a lot of debate.

Removing the Direct TV satellite cleans up the appearance of the home and stuff like that.

Then the front yard, which I don’t really have a picture of here. You see all the grass that was there, that was all stone. This house had way too much hardscape, so we made the conscious decision to remove a lot of concrete and stone and put in at least a little bit of grass that kids can play in and/or just soften up the overall appeal of the house.

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This is a photo of the rear of the home. Again, we had to sort of take it out of the dated era that it was and bring it up to more of a contemporary look and feel. As I said before, we stuccoed the whole house. You can see the brick line on the bottom of the home, we stuccoed over all of that. It took a lot of decision on what to do with that, as well, it was a little bit gaudy, initially. So with just stuccoing over everything and then painting the stairs, we got the desired effect and that turned out really nice.

The casita that we were talking about in the presentation, you can see that’s the old tool shed there with the mirror on the side. It wasn’t a big space, probably 8 feet by 8 feet, maybe a little smaller. You can see what we did there. Basically, we blew out that side wall and put in a sliding door which opened up onto the patio. Again, that could be used as an external office from the house or a great play area for kids, toys and stuff like that right off the patio while mom and dad are sitting on the deck.

The landscaping in the back was not too challenging. It was, basically, clean it all up, bring in a little bit of fill, level the ground and put in some sod and perimeter planting, build a perimeter fence and you have a beautiful yard on a 5,000 square foot lot and it’s completely flat. This home here was ideal for a family, being three- bedroom and three-bath.

Initially, the floor plan was very closed. This was the terrible kitchen we adopted. We opened up the floor plan on the main floor significantly and ended up with a really great result on our kitchen. Some of the design features we like putting in right now seem to be sizzle features for people. You can see the edges of the counters, those are called waterfall edges.

Again, those are sizzle features. They cost a little bit extra money, so in this example we had three waterfall edges. There’s a wet bar behind the kitchen that you don’t see here, it had a waterfall edge, as well. For us to throw that extra sizzle feature in was another $1,000, basically for the granite and the labor and we went with a very modern contemporary kitchen.

One thing I should point is the floors in this house, believe it or not, were salvaged. They were in pretty tough shape, but we have a flooring company here in the Bay Area that does a really excellent job of matching. Basically, they were hardwood. You can see what was in the kitchen previously. We tore everything out on all levels, with the exception of the bathrooms that were tile. We tore everything out that wasn’t matching the existing original hardwood floors, then we had our flooring company come in and they matched them perfectly and stained them perfectly. They were beautiful, beautiful floors; anybody would love to have them in their own home.

On the left, this was the only bathroom in the house at the time. The bathroom on the right is, essentially, the master bathroom. The whole floor plan was reversed and we turned it into an en suite off the master. Then opposing this wall, we ended up added a second full bathroom to the upper level, which was sort of a compliment of the second bedroom that was also on the upper level.

I don’t have photographs of all the bathrooms here, but we ended up with three bathrooms. So we went from this one, terrible, little experience to three really

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beautiful full bathrooms in this house. Again, as I mentioned, we captured the lower-level space which didn’t have anything. We put in another full bathroom down there with a floor to ceiling shower, etc.

The Press

I’ll touch base here on the press. My investment partner, Alex Schroeder, got approached by one his field agents. A local news channel, Channel 7, reporter approached a field agent of Alex’s and said hey, I’d really like to do a piece on a rehab in the Bay Area. Do you know of anybody or anybody that would be interested in following me through this process from beginning to end?

So Alex and I collaborated on this and over the course of the nine months, we had multiple onsite interviews and at Channel 7 news just kind of going through the evolution this project. If you take the opportunity to go to the URL that’s on this presentation you can see the whole interview. It’s interesting the spin the press puts onto rehabbers. We’re not looked at always in the best eyes and it’s a bit of an uphill battle explaining away sort of what our value proposition is.

Anyway, it’s a very worthwhile five-minute interview to go through. It just kind of looks at the press’ point of view and you get to think about how you can respond and turn things into a positive spin so that the press gets the right message. I remember going through this over the multiple interviews. I kept asking the reporter, what’s your intent, what’s your intent, what’s the message that you’re going to try and deliver, because I was nervous and concerned that they were going to put the wrong spin on it.

Ultimately, this interview is fairly neutral. There are pros and cons in it and you can see some of their points, but they also did paint our role as residential redevelopers as a positive thing, as well. So after nine months of doing this, ultimately, I was happy with the outcome of the interview.

With that, I would like to thank Fortune Builders for everything they have done in creating this opportunity for everybody. This continuous education has been phenomenal. I open it up, Anthony to questions.

Anthony: Awesome! Thank you, Ken, this was a great presentation with a lot of different moving pieces in here. There are a couple things I want to point out before I jump right in to everybody’s questions. One thing you mentioned I think is really important.

Heck, I just sat down with some students in my office today and one of the very first things I always talk about is the MLS field agent system and really just networking with your peers. There are more deals out there in your network than you’ll ever find doing direct one-to-one marketing, so great job implementing that system. How many field agents do you think you work with?

Ken: Because I’ve spattered them around the Bay Area, I’d say at least half a dozen personally and then my investment partner, Alex, has his own network of field agents. So, collectively, there are probably a dozen people that are feeding us

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leads. While that network can be expanded significantly, you kind of have to work with the agents that are really following the model laid out for them. Otherwise, you end up wasting too much time. Agents aren’t willing to go out there and comp projects for you or take the time to understand what a scope of work might look like, even if they’re 40% incorrect. Those are the agents that aren’t worthy of a lot of energy. So the ones that produce for us, I’d say we probably have six to 10 that we call on regularly.

Anthony: Yeah, I’d say that’s about the same in my office. One of the things we look for is not always that they’re going to do a full-on scope of work or understand it to that extreme. What we tell them is I’m not looking for a general listing here. I’m looking for something you just caught wind of that maybe hasn’t hit the market or it’s in so disrepair that no normal buyer would ever want it. Stuff like that because we don’t want to waste our time either.They’re going to come across them. If you get a dozen or so agents out there all looking for that type of thing or at least have it in the back of their mind, over the course of 12 months there’s going to be at least one deal in there. But, you’ve got to stay in front of them. You’ve got to let them know hey, I’m still here buying. Really wish you would have sent me a deal.

One of the things that I always like to do whenever I get a deal that maybe one of the other agents sent me or is a stagnant listing on the MLS that I happen to pick up, I shoot it out to those newer agents that are working in my system and I let them know. Hey, I want to let you know I just purchased this property and, obviously, it was listed. I wish you would have sent it to me. Basically, I want to give you an idea of the type of property we’re buying, they are out here, that kind of thing.

Ken: The other thing, Anthony, as you just said, stay in front of them. Regularly, every two to three weeks if I haven’t heard from somebody I’m just sending them a reminder email just saying hey, we’re out there. We have capital that’s ready to go and this is what we’re looking for. They forget about you, as well. They’re in different markets. They’re busy with their retail clients. So, again, stay in front of them, I can’t emphasize that enough.

Anthony: Let’s see. You’ve got a question here from David that says, how recently did this project get completed?

Ken: We completed this last year in 2014. If I remember the timeline correctly, we bought it late in 2013 and then we ultimately sold it in, I believe, August of 2014. Something to that affect.

Anthony: Got it, cool. That’s pretty recent. As assumed, we’ve got a few questions on some of the financing nuances. Now, I’m not going to lie, I was a little confused myself. I think it sounds like you sort of had a credit partner, is that right?

Ken: That’s correct.

Anthony: Okay. So, essentially, Ken partnered up with somebody, but their partnership role was to provide the credit to secure the financing to get a traditional bank loan.

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Ken: That’s absolutely correct.

Anthony: Okay, perfect. That should take care of that one.

Ken: As I said, the big benefits for this credit partner were rather than giving the origination fee to a hard money lender, we kind of kept it in-house. In other words, we know this person personally and we kind of kept the money in-house. I’d rather pay this individual $10k versus a hard money lender. Then they have the other benefit of the tax write offs. It was a total win-win.

Anthony: Now that makes sense to me, okay. So you utilized him as a credit partner, he got the traditional bank loan, which obviously saved you a enormous amount of money on 42:43.1 because of the percentage difference.

Ken: It was, roughly, $11,000.

Anthony: Which is basically what you paid them in points.

Ken: Yes.

Anthony: Okay, cool. That was a cool way to do it. See, this is what’s cool about real estate, guys. You can get as creative as you want and this is a really cool technique to do it, so great job implementing that.

We’ve got a few questions, actually, on the contractor which you had some dealings with, if you will. (A) Do you still work him and (B) what did you do when he was a couple months late, the project wasn’t moving along and things just weren’t going as planned? What did you do at that point? How did you handle it?

Ken: The contractor, I think this project may have been one of the last projects they worked on as a company. They have since shut down their business. You could see the direction it was going. They were a very large contractor working for a hedge fund doing upwards of 100 houses a year. Ultimately, they were kind of winding down their business and we kind of got caught in the tail end of that.

I didn’t have a lot of recourse to push things along, but I had done enough business with this individual that we were on a very personal level. There were a lot of phone calls to make sure things were on track, just to keep pushing the contractor and making their actions match their words. Yes, we had a two-month delay, but even during the delays we were still on top of the contractor saying who’s going to be at the job site doing what and when.

You’ve got to be diligent to follow up with that if you’re getting into a situation where there’s some slippage. That’s what we were doing, it was a follow up of staying on top of the GC saying listen. I’m not letting you off the hook, you have a contractual obligation and it’s significant contract. Just staying on top of them, but did I really have any recourse? Probably not, they were shutting the doors.

Anthony: Yeah. The only real recourse we have in those situations is in our contractor agreement there’s obviously a penalty clause and things like that, but like you said,

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if they’re going out of business. That’s why you’ve got to prescreen as much as you possibly can and why we save the large payment draws ‘til the end. We’re paying when work is completed, we never pay up front. They always ask for that and you always say absolutely not. I love to pay contractors, as Paul says. Love to pay when work is completed, but it doesn’t mean I pay you to go party right now with my money. It doesn’t work that way.

Ken: Absolutely correct. I have done probably half a dozen projects with that same contractor and always did we stay ahead on the work and buy-in, in the money; never had money up front. In this situation where the contractor was essentially going out of business, it may have gotten a little bit sticky for us if we didn’t have as much holdback as we did. We had tens of thousands of dollars that we still owed the contractor, so he was motivated to finish this project.

Anthony: Awesome. Let me ask you this, we’ve got a few questions on this, as well. If you could, expand a little bit on how much you increased your scope of work. It was pretty significant, right? Did you do that because (A) we got this question specifically because the values were going up because of the area, the time of year, all of that kind of stuff, or was it because you figured if you put more in you could probably get more out?

Ken: It was calculated, very calculated. The answer is twofold, one is the market appreciation. As I said, Northern California, particularly the Bay Area, has seen rapid price appreciation and we’re the highest prices in the country. So over the course of a nine-month project, we could see prices moving 20%, which is a significant amount of money when you’re talking about a $1 million purchase price or value. Market appreciation was, I guess, the biggest driving factor in terms of us reevaluating that scope of work.

When we put together the larger scope of work, we were going from $65,000 up to $165,000. We were adding, essentially, $100,000 worth of additional construction work. As I said, we ended up with $195,000 of costs. We had these overruns that weren’t necessarily easy to identify over and above the $165,000, but the ARV was such that we were still comfortable with proceeding down that path.

The second point to why the extended scope of work is that coming across deals in the Bay Area is very challenging. Good, quality deals are very challenging, so the thought was rather than do a quick turn on this home, why not break into market appreciation. Why not spend more time on this home because we didn’t have another deal sitting in front of us that made any better sense to go and deploy our capital somewhere else. So the answer as the investor was let’s put more capital into this project because we think it’s going to bear as much fruit, if not more, than if we take on another project at this time.

It was really twofold, market appreciation and the fact that getting a deal was so difficult. So hang on to your deal and expand it to its maximum potential, was our attitude. We’re doing that again right now in a neighboring city called Albany that’s contiguous vertically. The same process was happening. We’re going through it right now. We’re ready to move on another project, we’re funded to do it, but we just

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can’t find a quality project at the moment. So we’re of the attitude of let’s spend more time to make a great product and pick up the upside that way.

Anthony: I love that. You know why I love it? Because you know your market really well. It’s the same thing I’m experiencing here. Whereas before I might take a short 10 versus a long 40 in profit, now I’m taking the longer 40. I have to, there’s not many deals out there.

Ken: You have to, you’re right.

Anthony: So you guys have got to evaluate your market. You’ve got to talk to a lot of agents, if you’re not already and just analyze it. Start following the listings out there, how quickly are they going on and off the market, how much inventory is in your own community and then other communities in the area with low inventory. That’s probably a pretty good market to renovate in, so definitely start paying attention to that.

Ken: Anthony, I can add one other thing and we touched on it a little bit in this presentation. Anytime you’re in a market where you’re seeing rapid depreciation and inventory is basically on the market for two weeks and it’s under contract, we’re having a hard time creating value by simply buying a distressed property, going in and doing a cosmetic redo on it and then, ultimately, trying to squeeze a profit out of it.

What I’m saying is that the purchase point to get into a rehab is so high right now in the Bay Area that you’re having a hard time just being able to go in and do cosmetic rehab. So where we’re focused to try and squeeze those margins is just by adding square footage.

I’ll give you a round number, in the Bay Area things are selling for $900 a square foot. I can build at $350-$400 a square foot. So there’s my spread. So if I can go and buy a home that’s 1,000 square feet on a 5,000 square foot lot and I can go and add 1,000 square feet, that’s where I’m going to make all my profit. I can’t seem to find the ones that you can just go in and do a cosmetic rehab on.

Anthony: I agree. In a down market is when you find a lot of those, at least that’s been my experience on the cosmetic ones. Let’s see here, you got a cool question that I would never really have to deal with in my area. It says, California, they have a major drought, did you ever consider doing anything outside of grass on your landscaping? It’s kind of a cool question, actually. What do you guys do about that out there? Do you have sprinklers? What do you do?

Ken: The kneejerk response by the contractors is throw some sod down or throw a sprinkler system in. That seems to be baked into every one of scopes of work. That said, California has been in this drought scenario for quite a while, but because we had such a poor winter season I think it’s going to come even more into play in terms of having drought-tolerant landscaping.

The home that I’m working on right now in Albany that I mentioned, that property is completely spattered with succulents. As a result, it is going to have very little grass. There’s just two little sections of that property that are going to have grass and the

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rest of it is all succulents and rock. In environments like California where you have these drought scenarios, you definitely have to start thinking about that.

Anthony: It’s almost like a sizzle feature in a weird way. Like any energy efficiency, you go find the holes. It’s going to be a major factor and something you need to think about moving forward. Let’s see here, what about the end buyer. At the end of the day you sold it really quick, any issues with the resale value? I know you pushed the envelope with price, how were you there, any appraisal problems or anything like that?

Ken: Appraisal came in exactly at the ARV, so that worked out very well. The end buyer, as I had mentioned, this comes back to understanding and evaluating your market. The end buyer ended up being a couple in their mid-thirties, with children, who both worked in the financial district in San Francisco.

As I’d mentioned, people were getting priced out of the city and this was no exception. These folks went to Berkeley, bought a beautiful home for under $1 million and had access to public transportation, which is our Bay Area Rapid Transit. The train station was two blocks away, so these folks were going to take the train into San Francisco every morning to go to work.So that was the end buyer and the appraisal was a slam dunk.

Anthony: Nice. So you were basically in-line with all the others in the area, square footage, bedrooms, baths and things like that?

Ken: No. You know, Anthony, we kind of pushed the envelope a little bit. For that particular street we were on, we definitely set a new high for resale. A lot of real estate in that area was selling anyway for the $650-$700,000 price point. Maybe eight blocks north of us took you into a slightly better neighborhood of Berkeley and that eight blocks north of us was commanding the $950,000 price point.

So when I was doing my market assessments throughout the project, I was seeing what was happening eight blocks north. I said, you know, there’s no reason that people won’t travel this little additional distance one way or the other and pay the same thing. That takes us all into the expanded scope of work and budget, etc. We definitely pushed the price point for exactly where that house was sitting. There was probably nothing around it like it within a $150,000 price, maybe even $200,000.

Anthony: That’s awesome. The first thing that comes to my mind, having dealt with this in the past, is if you build it nice enough and it’s a large number like this, you’re into the millions basically, you have to have that fully thought through project. So the first thing that resonates with me is you changed the rod iron fence. There’s nothing wrong with that fence, but what you put in there looks a little more complete. It looks finished. You took the time to smooth out the stucco. You did all those little extra factors that make it really go a long way. It doesn’t look like you carpet and painted it, you know?

Ken: No, it was a full gut remodel.

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Anthony: In the Northeast selling a house for over $900k is not a starter home. Is this considered a starter in your neck of the woods? What are the price points where you are?

Ken: In San Francisco proper, arguably, there is not a single-family home, not large either, probably 1,700 feet, under $1 million. That’s all condo territory, at a minimum, but jumping more into the market this home is in in Berkeley this is very much a starter home. It’s not large, it’s 1,700 feet, 1,750 or something like that, three-bedroom, three-bath on a 5,000 square foot lot. So, yes, your point of entry at $1 million is kind of a starter home in a decent neighborhood not a great neighborhood. Again, this is a gentrifying neighborhood. There are some rough edges to it.

Anthony: It’s a different world out there. One thing I wanted to bring up, guys, I got a few questions on the MLS field agent system. I just know there is a training on the Mastery site and it’s called that. It’s called the MLS Field Agent System, I believe it’s part of your core curriculum, actually. It walks through the whole process, what to say to them, how to interact, how to present yourself and how to strategically work with multiple agents not just one or two.

It’s a great, great, very valuable training, so definitely take advantage of that. As well as we created a pamphlet for you. So if you want to download the PDF manual, you’re not crazy about this type of learning format, you could just download the document and read through the 16 or so pages and get a good barometer for what we’re explaining here.

All right, that looks like all the questions. Ken, I really appreciate you spending some time with us today. Congratulations on this one, man, that’s a homerun deal. Anytime you make over six figures and you get creative, that’s a total win in my book. So congratulations on that one.

Ken: Thank you so much, Anthony.

Anthony: We’re going to be looking out for you. Hopefully, this one and other ones are going to be posted on FB Wins. We could start to follow you and connect with you on Facebook. Everybody on the call, definitely try to connect with Ken and follow his projects. He certainly knows that he doing here, you can tell very quickly. He got creative on this one and it definitely paid off. So I appreciate you spending some time with us today.

Ken: Thank you so much for the opportunity.

Anthony: Absolutely. Guys, we’re going to be signing off, but join me again on Friday. I’m going to go through some things with rental management that you want to be aware of. So if you’re ever thinking about managing you own rental properties, keeping them in your backyard and being that rental manager, so to speak, or a landlord, I’m going to go over some of the pros and cons. There are definitely some cons there. There are some things that you need to be aware of not only from a liability standpoint, but just from a time factor standpoint. Obviously, it can be financially more rewarding not paying a management company, but that can go in a lot of different directions.

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So jump on the call, it’s going to be a winner. It’s this Friday, 2:00 o’clock Eastern. Signing off, we’ll see you then. Take care, guys.

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s3.amazonaws.coms3.amazonaws.com/.../mastery4/transcript… · Web view · 2015-05-27Berkeley, California, for those of you that are not familiar, is roughly 13 miles northeast