Property Management Quality and Your Bottom Line.

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Discussing investment opportunities on CNBC last February, Berkshire Hathaway’s Warren Buffet said, “If I had a way of buying a couple hundred thousand single-family homes and had a way of managing— but the management is enormous.  It’s really the problem because they’re one by one. They’re not like apartment houses.”

If the Oracle of Omaha considers the “management problem” to be enormous, it’s certainly a priority for every real estate investor, whether they manage their properties themselves or with a professional management firm.

A New Role for Property Management

With the entry of dozens of hedge funds into the REO-to-rental business, the role of professional property managers has changed forever.  No longer are they largely invisible managers responsible to a relatively small number of apartment owners and REITs.   They have become the stewards of a new asset class that promises to present an important investment opportunity for massive institutional investors in addition to individual and private equity investors who are achieving rates of return as high as 12 percent.  Often overlooked and undervalued, property managers today are being recognized by more and more business leaders who realize they hold the keys to unlock the potential wealth in the single family rental sector, which today is already a seven billion dollar business.

In response to pressure to establish a new secondary market for securities based on single family rentals, last year each of the big three leading securities ratings agencies—S&P, Fitch and Moody’s— made clear that the quality and accountability of property management will be an important—if not the most important—factor determining how they will rate securities based upon single family rentals. Their ratings will determine the prices and value; securities that rate low or fail to get a rating at all may not sell.

These ratings firms are in the business of identifying and assessing risk for investors and they use what they find to rate securities offerings for investors.  Taking a look at how they view single family rentals might be instructive for investor/landlords who are interviewing property managers.

All three of the securities ratings firms issued opinions last year and all three cited the quality of property management as a critical factor to the risk involved and therefore the rating of SFR backed securities.  The said clearly that offerings will be rated based on the quality of their property management and that quality will be determined by multi-year track records.

How are Property Management Companies Rated?

However, the fact that the hedge funds are new to real estate investing and set up property management subsidiaries quite recently is a real problem.  Their lack of performance history and track records clearly presents risk and at least one rating service, Fitch Ratings, made it clear it will not assign a high investment-grade rating to management firms even if they have a track record dating back to  2008-2009.

In terms of what they are looking for in a quality management firm, the ratings agencies seek expertise and continuity of the manager and ability to manage the operational risks inherent in managing a geographically diverse pool of properties.

The ratings’ agencies’ insistence on multi-year track record may be somewhat counter-productive.  The REO-to-rental business, at least in its current scale, is only six years old.  Within that time, hundreds of very fine property management firms have sprung up across the nation.  In most cases, the more traditional multi-family management companies left this new field to the entrepreneurs, because new skills and new procedures were required to manage multiple locations simultaneously and successfully.   It’s virtually impossible to find management firms that have were doing single family rentals on any scale before 2008.

To sum up, here are some of the useful lessons from the ratings agencies:

  • Insist on reviewing vacancy rates, cash flow and operating history going back several years. Ask for statistics that can compare with competitors.
  • Make sure you are looking at single family rentals, not multifamily.  The management challenges are dramatically different.
  • Beyond six years you may be looking at an entirely different rental environment.

 

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About Author

Brenton (G+) is a professional landlord and a serial real estate entrepreneur, with diplomas from Harvard Business School in Real Estate Management, and Entrepreneurial Development from Massachusetts Institue of Technology (MIT).

4 Comments

  1. Prooperty Manager quality is a key determining factor in the success of your real estate investments. There are good managers out there. Brenton’s suggestions will help you make the best choice possible. Thanks Brenton for elevating the discussion of this important topic!

  2. To me the big take away is the challenge these hedge funds have.
    SFR management is challenging and doesn’t scale like an Apartment building.
    I believe the management issue will lead many funds to exit the market. The ones that remain will not do it on the mammoth scale the “end of mom and pop real estate investor” BS hustlers would lead you to believe.
    Everyone likes to use that Buffet quote to justify the hedge fund stuff but his company isn’t doing it since the management was to big of a hurdle.

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