@Anton Ivanov Thanks for your post. A lot of what you listed seems to be in line with the big concerns about TK everywhere. Now I am not saying your list is in any way incorrect, because I see these, let's call them 'discrepancies', with TK companies as well. However, I do notice that these companies tend to have two things in common - bargain basement properties and pricing and suuuper aggressive marketing - which means investors can be on alert for those red flags and avoid a lot of headache. Whenever some new outfit comes along promising 30% returns on $40k properties, with no actual office, a 'minimalist' website, and a waiting period just to schedule a call, wait a day or two for all the pros to come out for a collective eye roll. Sadly, a lot of people get caught up in the hype.
A lot of investors, new investors especially, get drawn to whatever REI they can get the most of for the least money (because they understandably want to get a jump start on something they are excited about), which means a lot of so-called turnkey outfits will try to out-price each other to get the sale. And when you fight for price like that, it means cutting corners - investing in low-tier/high-risk areas and/or skimping on rehab. These issues lead to your first two bullet points - too low vacancy and capex/maintenance. Companies that buy low-end properties in less than desirable areas are going to have trouble keeping good tenants long-term. Companies that don't do sufficient rehab are going to encounter capex sooner than later. A company that does both is not worth your time to begin with. These companies also seem to downplay or omit entirely the necessity of having adequate reserves for when there is a capex issue. A good provider will be upfront about the fact that all properties will need some major repair or replacement at some point down the line - even investing in a brand new build only delays the inevitable - so having back-up funds available to handle that is important.
However, these massive red flags should disqualify a turnkey company long before investment if due diligence is done properly. While, if you've ever seen my posts, you'll know that I harp on how important it is for a TK company to have data-driven metrics for investor analysis, in this situation, you don't really even need them. A 10k property, even with 40k of rehab (which most TK companies don't do) is still a 10k property because of the neighborhood, comps, residency, crime etc. TK companies in C and D areas are almost never a good choice - money can be made in those areas but you really need to be an experienced investor, on the ground, with a solid rehab team, knowledge of Section 8 regs, and the patience and time to be a landlord. If you invest in a TK C or D prop (esp out of state) you're going to deal with vacancy, big move outs or evictions, late rents, government bureaucracy (if you take Section 8) and virtually no appreciation potential. You just can't get a quality TK investment for $40-50k because the underlying value of the property isn't there. It'll always be worth $10k and you'll have the tenancy headaches on top of all that sunken cost.
With regard to points 4 and 5, I guess I can't believe anyone invests with a TK company that claims no vacancy in the first year (but of course they do). Not that a good property can't or won't be occupied all year, but rather that a good analysis should include all potential expenses. We always include vacancy in our calcs, with a rate based on our most recent 52-weeks of data plus a little padding. Same goes for rental income increases. I'd shy away from anyone that tries to convince people they can predict the future or guarantee occupancy/value - it's one reason you hear veteran TK people talk about cash flow and equity vs appreciation, you just can't know what a property value will do over time and betting everything on the chance of appreciation is risky. So for a company to give you pro forma ROI calcs based on increasing rents (and the assumption that they will have regular tenancy with those rates) seems....bold.
Jay made a good point about the apples-to-apples nature of TK. It is unfortunate, but a lot of investors do gravitate towards the biggest, shiniest, numbers. So if every other company puts out numbers that omit certain factors, then the one company that doesn't looks less profitable and rarely gets a chance to explain why. This is exactly they reason our property jackets are so long. They have three interactive spreadsheets: one that shows the apples-to-apples 'standard' ROI calc that excludes vacancy and maintenance like everyone else, one that shows cash 15-year financed ROI, and a third that shows 30-year financed ROI. The second two include all expenses and amortization tables to show how equity is built as tenants pay down the notes. Neither formula uses increasing rents, so any increase is icing on the cake. Maintenance and vacancy are both based on 52-weeks of data plus padding. We also pad the PM rate just to keep things conservative (not because it will go up later). Of course, maintenance and vacancy both fluctuate year to year, so one year you may genuinely not have any expenses and cash flow will be higher than the estimate, but have a lot the next which hurts your margin, so using a rolling average of our most recent data helps us keep our ROI estimates as accurate as they can be without a crystal ball. Of course, we understand (and are upfront about) the fact that our maintenance rate may go up in the coming years as our portfolio ages and capex issues come up, but it should still stay below 3.5% based on the life of the upgrades we do and the age of our properties, so still below the 4% we use on the property jackets. It's low because we only invest in B/B+ properties in good areas, do everything in-house, and overhaul our rehabs with new floors, new HVAC, new roofs etc. We also live and work in the market we invest in, so we know where rental demand is and where it isn't, which areas/schools districts draw long-term tenants looking for a home, etc., and we have the marketing and networking infrastructure to place vetted tenants swiftly (often a big issue for self-managed props). A lot of these so-called TK companies seem to be little more than out of state marketers who are trying to fatten their margins by having no overheads (read: no office to visit in the city they are marketing). You should be able to visit any provider you consider and lay eyes on the property, tour the town, spend the day or the weekend. If that's not an option for some reason (no office, property and provider in different states, provider doesn't have time), look elsewhere.
Our current 52-week rolling maintenance rate is 2.6% and our occupancy is 96.5%. This isn't a pitch, it's a demonstration of the fact that TK companies that do things well and focus on quality instead of cutting costs to chase a sale can genuinely produce the numbers you referenced, but they can't just be pulled out of thin air and they almost never can be achieved in lower-tier areas. We aren't the cheapest investment available and we don't aim to be. The focus is value and service, not beating the competition to the bottom. Good properties attract good tenants that stay longer and treat properties better. Again, TK companies that operate in C/D areas just can't realistically offer the same. We are not the only ones that do things this way, but it does seem the industry is overwhelmed by the less scrupulous, perhaps because they have the loudest marketing. Maybe that's another thing to add to the red flag list: hyped up marketing with a 'lowest price in town, will sell out FAST' message.
In the end, I'd say what you have there is a good set of criteria for eliminating potential TK companies. And truthfully, you will weed out 99% of the industry this way. People seem to think becoming a TK provider is a great way to make a quick buck, but few people realize that both parties need to make money and be satisfied, for the long-term, or the whole thing will implode. That's why you don't see reputable, stable companies in the TK space listing properties with lost of !!!!! or hyping "INSANE" cash flow in low-tier areas. It's about passive income, equity building through tenant pay-down, portfolio building, and reliability. Not get-rich-quick schemes. TK is for long-term investors looking for reliable passive income who are willing to put in the effort necessary (and it's plenty) to determine which provider they are comfortable doing business with for the next 10+ years.
Your post makes one last really good point, which is that you should ALWAYS run your own numbers. Not only should every investor do their own due diligence and their own math (not just napkin math, though that is useful for weeding out a lot of options) but they should have a ton of questions for any TK provider they consider and they should expect swift, data-based answers and a level of customer service that means that if they want to get on the phone and go through the math step by step, someone will happily do so in a timely manner. I've droned on a lot about that in other posts, so I'll leave it at that ;)
TK is certainly not for everyone, and there are sadly plenty of people out there looking to take advantage, but I always have to jump in to speak up for the good guys ;) Though, from some of the horror stories I've seen, I can certainly understand the sentiment and I'm sorry your TK experience has left you with a sour taste in your mouth. Your post is a great reminder to anyone considering TK that they need to do their due diligence before pulling the trigger.
Sorry for the monster post - my greatest BP weakness! If you have any questions about what I've said or would like to take a look at the property jackets I mentioned just to see the math for yourself, just shoot me a message any time.
Best of luck!
Clayton
