What no one says about using OPM (other people's money)
If you read real estate investment books, articles on BP, listen to podcasts or just generally find yourself learning about real estate investment then you will notice a common thing that is almost invariably mentioned, the use of other people’s money. A term so frequently referenced that it even has it’s own acronym, ‘OPM’.
It’s a simple, brilliant concept really. Basically you fund most, if not all, of a given venture with funds that don’t actually belong to you. Some of the often cited benefits include less personal money out of pocket, the ability to leverage more assets then you otherwise could, potential increased returns for yourself, ect… Gratuitous amounts of ink have been expended in many ‘how to’ style real estate books about the art of asking for money from others. You are supposed to present your deal as an opportunity, as opposed to a financial favor. You can motivate potential investors by creating a veneer of ‘act now or you might miss out’. The list could go on for a while.
This is all well and good but its only half of the story, and the less important half at that. I don't think that I have ever read one chapter, blog post or even word about the responsibility you take on when investing with money that is not your own. This silence is deafening and feels profoundly misguided. If I were approached by someone asking me to part with my funds for thier project the very first, and I mean VERY first thing I'd want to know is if this person takes seriously the responsibility implicit in what they are asking of me. I wouldn't ask them this, its hard to imagine an answer other than 'absolutely'. Rather, I'd let their knowledge (or lack thereof) inform my assessment. Sure, I'd want to know the basics of the investment. I'd want to know the IRR for myself and any other partners, whether or not the person asking for money actually has any skin in the game, the plausibility of any forecasts or pro-forma details, the background of the person asking for money, ect…. These details, taken as a whole, can begin to offer clues as to whether or not those with a hand out respect the responsibility they are asking to carry when suggesting that you part with your dollars upon their request. For example, someone could present to me an investment with very attractive pro forma returns but, if the predictions include rent increases beyond what evidence supports, I would question whether this person takes their responsibility seriously. Sure, they may have crunched the numbers on an offering memorandum, but have they bothered to learn what is behind those numbers and why? Does this knowledge blind spot suggest a lack of respect for what they are attempting to undertake?
The real estate entrepreneur is someone whom must posses a great deal of knowledge and expertise to reasonably asses what their projects are likely to return, in the real world. Foregoing this necessary learning process and jumping right to the part of asking others for capital is not only risky to everyone involved, its also an obvious rookie move to the seasoned investor. You're not going to get turned down because the investor misunderstand the opportunity presented, you're going to get turned down because you misunderstand what you are asking for....unjustified trust.
I write this because its personal to me. I’ve been a student of real estate for a long time, I’ve assembled a portfolio of a dozen houses that performs pretty darn well, I’ve studied economics at the university level and ran a business basically my entire adult life. Not too long ago it occurred to me that I want to really begin to grow in real estate. There is obvious and large opportunity for those that play the game well. It seems like a fun, challenging industry that requires a breadth of knowledge and rewards those who put forth the necessary effort. But another thing occurred to me as well. I didn’t yet feel comfortable enough with my own knowledge to ask other people to allow me to take risks with their hard earned cash. I’ll bet I could have pretty easily persuaded any number of people I know to invest with me in whatever projects I wanted to put together. I’m fortunate in the sense that I think I have a reputation, among some people that know me well, as someone who is trustworthy enough to invest with. BUT, despite my desire to get started, I chose to put on the brakes and educate myself, to forego possible short-term paydays in favor of long-term risk mitigation. I think I’m now, after much preparation, nearly ready to started. Any unrealized profits I could have made in the meanwhile notwithstanding, I'm very happy to have made the decision I did.
Nuance, planning and knowledge form the backbone of any investment. It worries me to see so much about how great OPM is and yet so little about how important it is to actually know what you’re doing before you ring up your friends and family with a hand out. The people who you ask for money likely spent their finite time on this earth earning what you are asking for. Don’t take their time or money for granted.
Bad deals chase capital, but capital chases good deals. Truly good investments do not require great sales techniques. I'd contend that your time is better spent learning what makes a great deal than learning how to persuade others to fund a mediocre one. If you think using OPM is a great way to rake in cash, you’re in plentiful company. If you truly respect the very real responsibility in doing so, however, it appears you may be a needle in a haystack.