Commercial Real Estate & Business Finance And Loans

In the past few months, I’ve gotten emails from a number of gurus, legitimate ones and otherwise, trying to sell their latest and greatest private money courses and events but, in my experience, they only teach people how to get private money to fund their deals, not enough on how to properly manage the deals or about minimizing the pure risk to their private lenders’ interests.

As of the date of this post, I count 21 separate “gurus” trying to sell me their techniques for obtaining private money with claims that banks are no longer lending in this tough economy.  If you doubt that this many “gurus” even exist to sell information on obtaining private money, I gladly give you the initials of each one, not the full names, though, since some of them are actually legitimate gurus who I respect but just wish that they’d teach a bit more on what I’m ranting about, i.e., the pure risk associated with private money.  The aforementioned “gurus” (their initials only) include, in no particular order: AG, AC, DL, LE, SL, PR, JS, JB, TM, LA, RO, RL, JM, GA, BL, RS, LB, PG, ET, JO, and DL (a different DL than the first one listed here).  I’ve attended the private money events of four of them (AC, DL, PR, and JB) and all of them lack a critical topic, in my opinion…the topic of being responsible borrowers of private money.  In other words, there is very little in these courses and events that teach private money borrowers about minimizing the pure risk associated with private lending.  To those who borrow private money, myself included, we gotta ask ourselves: What investments are we putting our private lenders into and do the potential rewards to our lenders justify the risk, especially the pure risk, to their money?

What is meant by pure risk?  Let me give a few definitions as I see it.  A private lender can be pretty much anyone you know who has money to lend, whether that person is sophisticated about money or not.  Pure risk has nothing to do with potential rewards but only has to do with getting back the invested money.  Put another way, pure risk is not about “winning” but is just about “not losing”.  While people most often associate the financial term, ROI, as meaning “Return ON Investment”, there is a second ROI that many people often forget about…”Return OF Investment”, i.e., the pure risk associated with an investment.

When you attend a private money event by one of these gurus, you learn how to sell private lenders on investing in your deals and how to legally protect yourself from getting in trouble with the law if something goes wrong with your deal.  But you learn very little on how to minimize the pure risk in your deal or even sufficiently letting the private lender know about the pure risk to the money placed with you.  The best analogy I can give is that these gurus who teach how to get private money are often placing loaded guns into the hands of children since, from what I’ve seen, many of these private money event attendees can’t even responsibly manage their own money, much less the money of any private lenders willing to trust them enough to place money with them.

I can give two specific case studies in my markets where the trust of private lenders was abused by their borrowers and all of the private money was lost in bad deals.  The first one involved a residential property investor who lost about $3.7 million of private lender money by using this money to typically pay off junior liens on residential properties so that she could buy the properties “subject to” the senior lien(s) remaining attached to the properties.  The second one involved a commercial property investor who lost an undetermined amount of money on bad commercial deals such as trying to convert a war-zone apartment complex into condominiums.  I have personal experience with this commercial property investor as he tried to get me to put $160,000 into this deal that he eventually lost to foreclosure, but fortunately I backed out of the deal after doing a background check on him and finding out that most of his commercial deals at the time, as well as his reputation, were pretty much el-stinkeroo, leaving some other sucker to take the fall in my place.  In each case, the pure risk of these “investments” was not adequately explained to the private lenders who trusted the borrowers with their money or else these lenders probably would not have put their money at risk with them.  Both of these investors appeared to prey on whoever had money whether their marks knew much about money or not.  In my own experience with the condo conversion genius, I was never asked to ascertain whether or not I was an accredited (experienced) investor and I was only told how great my return on investment would be by investing in his failed condo conversion project, never about the pure risk associated with it.  In both cases, millions of dollars of private money were lost to foreclosure because the pure risk was way too high and based on the private money being placed into severely over-leveraged properties just to get the deals rather than safeguard the private lenders’ interests by properly mitigating the pure risk associated with each deal.

When I first really dug into real estate and private equity investing back in 2005, I listened almost solely to what the private money “gurus” taught and put some private lenders into some bad deals as well because these “gurus” didn’t teach me enough about mitigating pure risk with proper deal management.  Fortunately (for the lenders, not me), I was able to use my own money to buy them out of these deals but lost quite a bit of my own money by doing so.  I didn’t fully understand the pure risk and responsibility associated with borrowing private money back then like I do now.  The saving grace is that I put them into relatively small deals and was hesitant on borrowing too much private money until I fully understood how to responsibly manage it and the pure risk associated with each private investment.  These days, I am very picky when choosing an investment and do whatever I can to minimize the pure risk to the money of my private lenders as well as to my own money.  For example, a relatively recent deal into which I put my own money has an estimated loan-to-value of less than 60% which should minimize the pure risk to my money.  This is supposed to be a passive investment for me so I’m waiting to see how the borrower does with the money before lending him any more even though he’s asked to borrow more.  I have no desire to manage any deals that he messes up and I’m sure a lot of of other private lenders have the same mentality.

One thing I truly believe is to place my own money into each deal in which I have private lenders.  This is called “putting skin into the game”.  I believe that it is important to put my own skin into any game in which I have private lenders involved so if there is a loss, especially because I underestimated the pure risk involved, then I also lose.  Too many “gurus” teach private money courses that tell borrowers how not to put any of their own money into deals but also to actually collect “acquisition fees” at closing and get paid a lot of money just for putting the deals together.  In some cases, these “acquisition fees” can range in the millions of dollars that the private money borrower actually walks away with at closing.  When private money borrowers walk away with none of their own money at risk, and even get paid by putting their lenders at risk, there is no incentive for these borrowers to stay in the deal and properly manage it.  There is a local investor in my area named Carl (I referred to him as “Hal the earthworm” in a previous blog post but will use his real name here) who doesn’t know what he’s doing but is reasonably good at selling people on his deals no matter how bad they are.  Carl and I went to some of the same events that teach how to get private money to fund our deals and, in my opinion, he is one of those who abuses the responsibilities placed in him by private lenders by first and foremost trying to collect large “acquisition fees” at closing rather than considering how he will responsibly manage the deal that he places private lenders into.  My personal experience with Carl is that he once put $13,000 of my own money at risk with very little concern about the pure risk to my funds.  I no longer return his calls and won’t do any business with him since this would be a waste of my time and subject my money to more unmitigated pure risk.  In a nutshell, I think the guy’s an idiot.  Remember: You invest with idiots at your peril.

The first private money event I attended had me believing that if you find a good deal, then finding private lenders to fund the deal is no problem.  Now I know better after seeing private money placed into bad deals with high pure risk because of the borrowers being able to sell themselves and not the deals.  Private lenders generally invest in the borrowers, not the deals.  Case in point, Bernie Madoff was able to steal money from many private investors ranging from the very sophisticated to those not so knowledgeable about money because they blindly trusted him and not the deals he supposedly put them into.  Turns out that Bernie didn’t put his investors into any deals at all but spent the money living the high life.  Same with Donald Trump, an experienced developer, who lost millions of private dollars in deals that went bad in Mexico and Tampa because people believed in him more than the deals into which he put them.  I have no doubt that The Donald didn’t steal the money like Madoff did, but I’ll bet he had none of his own money at risk and probably even got paid for putting people into bad deals with unconscionably high pure risk associated with them (think “acquisition fees” as well as other fees paid to him such as those for using his name on these projects to help sell them to private investors).  The civil laws in this country are very weak, in my opinion, so the chances of private lenders getting money back from deals that went bad with their money in them are pretty much slim to none.  Private investments are not subject to the same scrutiny that publicly-marketed ones, like stocks on the New York Stock Exchange, are so the likelihood of getting money back from bad private investments is often much less than that with publicly-marketed ones, especially in the case of investment mismanagement.

For those who borrow private money or not, I’d like to throw a few possible deals your way.  Just be sure to especially minimize the pure risk to your money and to the money of those who place their trust in you.

If you get nothing more from this post, look beyond what the private money “gurus” teach and always keep in mind the importance of minimizing the pure risk to the private money that you borrow.

As we approach the end of the year, there was a recent announcement by the major media outlets that the unemployment rate 2011 took an unexpected, but welcome, dip to its lowest level in two and a half years from about 9%, where it had been for most of the year, down to 8.6%.  This news is based on a recent story by The New York Times, a well-respected and widely-circulated newspaper.  Also, in that same story, the opening sentence states, verbatim, that “Somehow the American economy appears to be getting better, even as the rest of the world is looking worse.”

Y’know, in the words of a friend of mine back home, “I may be dumb but I ain’t stupid”.  I don’t buy that this small dip in the unemployment rate 2011 is a sign that our economy is getting better or that commercial finance is getting any easier.  Not by a long shot.  Despite the downtick in the unemployment rate 2011, Bank of America and other big players in the lending game plan on laying off tens of thousands of employees within the next few years, the European debt crisis is still out of control, and we still have gridlock in our government regarding the unsolved budget issues that regularly threaten a government shutdown as our politicians maneuver for political positioning going into the 2012 election year.  As a side note, there has always been an uneasy friendship between our politicians and the media.  Our politicos need the media to portray them in a good light so that they can have job security and, in return, the media needs cutting-edge information from our elected officials so that they can sell this information to us, John Q. Public, and stay in business and have job security, themselves.  It’s just as well that I don’t watch TV because of all the misinformation and economic sleight-of-hand that’s constantly tossed out at us, especially with the unemployment rate 2011.

Let’s get back to a bit more of an in-depth look into how our government determines the unemployment rate 2011 and its effects on commercial finance.  The unemployment rate 2011 has been a significant concern and is a statistic that has been placed before us many times.  Indeed, this has yielded supporting data for trying to determine the health of our economy for this year and lender sentiment regarding the finance of real estate and businesses.  But just how important has the unemployment rate 2011 been in determining the health of our economy this past year?  I think that people placed too much emphasis on this one metric and not enough on other information.  I’m not an economist by any stretch of the imagination but I do know how to balance a checkbook.  All it takes to balance any checkbook is a solid mastery of 5th-grade math, i.e., basic addition and subtraction.  If we look back to just a year ago, online news sources trumpeted how unemployment claims had dropped to their lowest levels since 2008 with the not-so-subtle implications that things were looking up and that our economy was on its way to a slow, but steady, recovery.  Gee, that’s funny.  I haven’t seen much change since then.  This reminds me of a quote that has been attributed to former President Herbert Hoover who supposedly told businessmen in the middle of The Great Depression in 1932 that “Prosperity is just around the corner” when, in reality, the only things just around the corner for another 10 years were people selling apples and pencils.

If we look at how the unemployment rate 2011 is determined by our federal government, maybe you will see the same flaws in the data collection techniques that I see.  Let’s forget for now that, in terms of just pure numbers, a person who is employed and being paid the federal minimum wage of $7.25 an hour carries just as much weight, statistically, as an attorney or medical doctor who typically gets paid $200 an hour and higher for their time in determining the unemployment rate 2011 which renders such numbers as being almost completely useless for determining the overall health of our economy.

When determining the unemployment rate 2011, a nationwide survey of 60,000 households, which is approximately 110,000 people, was done to represent our entire country of over 300,000,000 people.  Now I know that basic statistics tell us that this is valid since a sample size of 110,000 people is supposed to be large enough to represent a normal statistical distribution from which reliable results can be interpreted, but somehow dis here theoretical, egghead stuff just don’ make no sense to dis country boy.  C’mon, there are college football stadiums that can hold 110,000 people.  How can a sample size of people, who can all cheer at once and in one location for Michigan to beat Ohio State, possibly give a reliable indication of the true unemployment rate 2011?  The answer is that it can’t.  Not only can there be significant errors in choosing sample households that truly represent our entire country’s population, sometimes the surveyed people can be incorrect by being knowingly or unknowingly dishonest.  Remember when the media used statistics on a limited population to erroneously predict and proclaim that Thomas Dewey defeated Harry Truman in the 1948 Presidential election?

Other flaws in the methodology for determining the unemployment rate 2011 include how our government determines who is employed and who is unemployed.  For example, there is an official employment category called “unpaid family workers” which includes any person who worked without pay for 15 hours or more per week in a family-owned enterprise operated by someone in their household.  This could be little Jimmy or Susie who work for mom and dad by taking out the garbage and doing other “home business” chores each morning before getting on the bus to go to school.  Now I’m not against having kids learn the value of hard work, especially when it contributes to the good of the family, but I deem such a classification of “employment” to be irrelevant in trying to determine where our economy is going and this classification shouldn’t be used in determining the unemployment rate 2011.

The unemployment rate 2011 can be helpful in determining the health of our economy and the status of commercial finance.  But the bottom line is always going to be what is the income versus the outgo, i.e., what are the net incomes to our government and to us as citizens.  The unemployment rate 2011 should be put into its proper perspective as ancillary data and not heralded on the front pages of all the major newspapers.  I recently read in the December 12/19, 2011 issue of Jet Magazine on page 14 that at least six cities (Cincinnati, Ohio; Topeka, Kansas; Highland Park, Michigan; New Rochelle, New York; and Camden, New Jersey) have drastically cut vital services, such as police and  other public safety, since they just don’t have the money to sustain them.  Even if these cities had 0% unemployment but all the jobs were of the minimum wage kind, I seriously doubt that the tax revenues could sustain the services necessary to keep their populations safe and secure, much less finance necessary commercial projects to jump start their own local economies.  This is why the recent unemployment rate 2011, as much publicity as it received, isn’t much more than a footnote in my mind.

Now that I’ve done a bit of complaining about how misleading the unemployment rate 2011 can be, I believe that for every complaint we put out, we should always counteract it with at least one possible solution to whatever ails us.  Ergo, I’d like to put out one or two possible solutions for thought.  Insomuch as our government is concerned, just looking at revenues and expenses should tell us all we need to know.  For example, a previous blog post of mine showed that the Obama Administration spends much more than it brings in.  Simple math tells me that just ain’t gonna work.  A quick look at our governments’ finances and a little math tells me that we’re still in a recession, even though the recession supposedly ended in 2009.  Since there is some lag time from when our federal government acts to when the effects of those actions are felt by us at the local level, my crystal ball tells me to factor in a deteriorating economy for major purchases in the commercial real estate arena, especially those that depend on the government to finance any portion of these acquisitions.

So what would I do to determine local economic conditions and how it affects my ability to get a lender to finance my real estate acquisitions?  What esoteric charts and data tables would I recommend looking at to see how the economy will affect real estate and business finance?  I say none.  Just pick up the phone and stay in regular contact with your lenders.  Be careful with this one now.  A mortgage broker is not typically a direct lender so if you call a mortgage broker, you may or may not be getting the most up-to-date information since the mortgage broker may be giving you outdated information, especially if they haven’t originated any loans recently (ask me how I know this).  It’s best if you can call the direct lenders and ask them what programs they still offer to finance your projects.  Back in 2007, I was considering the acquisition of some residential properties with the main exit strategy being to rehab them and then flip them for a profit.  A friend of mine, Scott Lane, who is the co-founder of our local real estate investment association in Columbia, South Carolina, the Capitol City Real Estate Investors, told me to be careful since his lenders told him that they were no longer offering certain loan programs.  I foolishly disregarded what Scott said and am now stuck with a few properties that I don’t want.  The moral to this story is to lead with the financing.  First find out who will finance your acquisitions and on what terms, and then make offers based on what you know that your lenders will finance.  Please note that nowhere in this paragraph, other than now, did I mention the importance of the unemployment rate 2011 or any other widely-heralded government data.

As is customary with my blog posts, I’d like to put out a few leads presently on my radar for anyone to work and maybe to pick up a good deal or two:

In a nutshell, I don’t find much of a correlation between the overall unemployment rate 2011 and commercial finance unless there is a large portion of unemployment being contributed by commercial lenders so don’t let that statistic, alone, determine your view of the economy.