by Mike Lima
"Luck is what happens when Preparation meets Opportunity" yields 95% ROI in less than 3 months!
This quote by Seneca, a Roman philosopher from the mid-1st century AD, has been one of my favorites for years. It's a great saying because it reminds us that we create our own 'luck' based on the things we do, or do not do. But never did this phrase resonate so strongly with me than it did in my early days as a full-time real estate investor. That's when I first seized the meaning of this saying and put it to quick and successful work. It happened in January 2004, when I was still a "rookie" investor.
It had been only 8 months since I had left the corporate world, after 18 years of "working for the man". I had been fortunate to gain a wide variety of experience, with 5 years in public accounting for a huge CPA firm; 6 years as the Corporate Controller and Director/VP of Finance for a $100 million consumer products company; 3 years gaining Sales/Marketing/Operations experience with a Fortune 500 technology company; and then 4 years as COO/VP for an international software company. My jobs took me to many places, here in America as well as overseas, including Europe, Asia, and Africa. I made a good living, averaging 6-figures compensation plus expense accounts, medical benefits, 401k contributions, and the like.
But I was still "working for the man". No matter how well I performed, the company would receive the vast majority of the dividends for years to come. I made a decent living, but didn't have the luxury of significantly improving my lifestyle or controlling my own schedule. So when the opportunity presented itself, I began earnestly building my new future, and that started with a real estate shopping spree in mid-2003. At the time, I had been a full-time investor for less than a year, and a part-time investor since 1992, and while I had already done 25+ deals, they were all traditional buy-and-hold transactions.
I would buy the houses below market, get them into rent-able condition, and then find lease or lease-option clients to cover my mortgage (and provide some cash flow) while I built up equity. I had yet to step outside of that comfort zone, even though I had read about the many other ways one can make money in real estate. It's one thing to read about it, but quite different to take the plunge and dive in. What if I missed something in my analysis? What if I don't have the correct documents to protect me properly? What if....??? Maybe that was my collegiate and corporate brainwashing coming out-- get education, then analyze. Make a list of all the downsides, and then analyze some more. Paralysis by analysis can be the result.
But my corporate and fiscal background did provide me with many tools which, when drawn upon successfully, would lead me to success within real estate. One such tool was the foresight to plan and prepare for the future. I had been diligent about building a strong FICO (credit) score of ~ 800, which served me well as I purchased and financed many houses the year before, quickly amassing a $3 million portfolio. I had also prepared by selecting a strong bank (Wells Fargo) and developing a good relationship with them. I had become a preferred customer of the bank, which I leveraged by asking them for an unsecured line of credit (LOC), and they gave me a $35,000 line! That meant instant access to cash if/when I needed it.
An unsecured LOC is not backed by any collateral, such as cash in the bank, or property, and thus it is harder to obtain from a lending institution, and the interest rates are higher. My unsecured LOC carried an interest rate of about 12%, which wasn't the cheapest money, but was still a lower rate than nearly all credit cards offered, so it made good sense to have it in place, just in case an emergency or opportunity presented itself.
For your God of dream or devil
You will answer, not to me.
Talk about the pews and steeples
And the cash that goes therewith!
But the souls of Christian peoples . . .
Chuck it, Smith!
—Gilbert Keith Chesterton (1874–1936)
In January 2004, such an opportunity did present itself, and I was prepared. A business acquaintance, who later became my business partner (Sean Terry), came to me with a deal that he was involved in. Sean had a very different background than I did. Rather than going to college and climbing the corporate ladder, Sean was busy climbing real rope ladders and trudging through muck as part of his Marine Corps training, before moving on to start several businesses in true entrepreneurial fashion. The Marines taught him to essentially disregard fear, which served him well in these entrepreneurial endeavors. In this case, Sean was working with another investor and they had found a below-market house in a nice neighborhood, where remodeled homes were selling at good prices. This house needed to be fully renovated -- including a new roof, new kitchen and baths, more livable square footage, a more open/efficient floor plan, new flooring and paint, and new landscaping -- in order to fetch their targeted market pricing and profit goals. They were planning on doing a classic real estate flip.
They had purchased the property with hard money (translation = private, high interest rate financing), and were halfway through the remodel. But their extra cash was tied up on other projects, so when the General Contractor fell behind schedule and behind budget, they didn't have the additional cash reserves needed to service the hard money debt and finish the remodeling project. That's when Sean approached me and offered me a great deal if I could inject $25,000 of quick cash. (Hmmmm, I thought..."Luck is what happens when Preparation meets Opportunity"). In exchange for the $25,000, I was offered a return of $5,000 on my money for a 6-month promissory note, plus a one-quarter share of any remaining profits on the project, all to be paid when the house was completed and an exit strategy was realized. This was potentially a sweet deal, but there wasn't time for procrastination, as the parties needed the money fast and were undoubtedly seeking funds from other sources in parallel. So I knew I had to assess the risk and make a decision quickly.
The risk/opportunity factors, as I saw them, were:
1) the accuracy of their value projections for the house once fully remodeled;
2) the likely time-frame to complete the remodel and successfully market and sell the house; and
3) the type and content of the documents needed to define my participation and protect my investment, within reason.
Once I reached conclusions on these 3 risk/opportunity factors, I would be able to estimate my Return on Investment (ROI) and my relative risk to obtain that ROI. Oh, and I still needed to come up with the $25,000 of cash! Since I had recently purchased a portfolio of rental houses, my operating cash had been depleted, and without dipping into 401k's or mutual funds (which would have taken too long to convert to cash anyway), I only had about $5k of instant cash in the bank. When Sean proposed the deal structure to me, he was savvy enough to directly ask me, "Mike, do you have the liquid cash to do this deal this week?" With only $5k readily available in the bank, I didn't have the liquid cash, did I? So I answered him like any responsible business person would: "Sure, I've got the money to do it; I just need a day to do my due diligence".
Was I being deceitful? Certainly not!! I did have the liquidity; it was sitting there in my unsecured LOC just waiting for a rainy day... or a great opportunity. As long as I could deliver the $25k of cash, it didn't matter to Sean or the other investor how long that money was seasoned in my checking account, if at all. It also didn't matter if I was obtaining the cash by borrowing it from my bank under a pre-arranged credit facility. All they cared about was getting the $25k to finish the remodel and cover the carrying costs until the property was sold. It was time to dive in and do my due diligence on this deal. The first task was to estimate the future value of the house, after remodel. I used a subscription service to search the county records for information about the house, as well as comparable sales within the last 6 months. I concurrently asked a realtor friend to run reports showing comparable sales and active listings from the MLS.
It seems I impregnated Marge
So I do rather feel, by and large,
Some cash should be tendered
For services rendered,
But I can’t quite decide what to charge.
—Anonymous.
I reviewed the project information provided by Sean and the other investor, to verify the current cost basis of the project, along with budgeted costs to complete. I toured the partially completed house and talked with the General Contractor, getting comfortable that the remaining work could indeed be done within the new budgeted targets. Within hours, I was able to address my first 2 risk/opportunity factors, as outlined above, and determined that the project would likely come in within the new targeted budget and timeline, and that the resulting remodeled house could likely sell within 3-6 months for a price that would net me a profit share of $15-25k.
This real estate investment appeared to be quite sound! My last piece of due diligence was to ensure the necessary paperwork was in place to document the transaction and protect my position. After reviewing the contract already existing between Sean and his investor friend, I prepared a Promissory Note and a concise Revenue Sharing Agreement that described how profits would be split after all expenses and debt were first paid off (including my Promissory Note!).
The parties accepted the documents, so we all executed them and I simply logged into the Wells Fargo website, went to my $35k LOC account, and electronically transferred $25k of it into my checking account. Then I drew a cashiers check on that account and bought myself a deal.
Voila! The transaction was completed, and I recorded my financing position with the county recorders office so my Promissory Note would be a matter of public record. That way, whenever the property transferred or got refinanced, the title company would see my Note and contact me for a payoff. Since I was now a party to the project, I received periodic updates from Sean as to how the project was progressing, and joined him on-site several times to check out my collateral. They did a fantastic job on the remodel and within six weeks, I received $35,000 back (all of my initial investment plus $10,000 more), and then I got another $14,000 six weeks after that, to complete my share of the remaining profits. So I only had to pay interest on my LOC for 6 weeks, totaling about $350. Therefore, my investment of $25,000 yielded a profit of $23,650 -- or 94.6% ROI -- in less than 3 months. That's an annualized rate of return of more than 400%!! Not bad for a relatively safe, collateralized investment.
In my corporate jobs, I would have earned roughly the same $24k during that same time period -- but that's where the comparison ends. My corporate positions required me to work around 55 - 60 hours per week for that money, without much incremental upside. This investment, on the other hand, required about 8 hours of time during the first 2 days (due diligence and preparation of the paperwork), and then only about 1 hour a week after that, because the general contractor and Sean's investor friend were the ones doing the laborious work on the project. I was free to do other deals, and make additional money during those 3 months, which I did.
I leveraged other peoples' time and other peoples' money (remember, I want more? Claim your free report on how to quickly build $648,000 of instant equity and save $100,000 of real cash! yours for free for a limited time only... Mike lima is a full-time real estate investor who has successfully closed over 500 deals. For your free report, as well as additional information about real estate investing, please visit http://www. Fortressinvestor. Com today!