The Deal We Didn't Buy

This one stung, but some things are just necessary! We started underwriting this 574-unit, 3 property portfolio in Little Rock, AR in the spring of 2021. The numbers checked out, even with assuming a large $15,000/unit renovation. We flew into town and took a tour on our own, because the seller did not want to alert the staff. Our tour consisted of walking the grounds and peaking into a few units that maintenance was working on.

After our time in Little Rock and some conversations with former staff and current contractors, we decided that the smaller property had too many issues to move forward with. It is located on a very steep hill and has had a history of landslides and water flowing into units – just not worth the hassle. The other 2 properties, however, consisting of 450 units, still made sense. We added a few hundred thousand to our renovation budget and started negotiating with the seller.

After settling on a Letter of Intent agreement with the seller in June, it took until October to get the property under full contract! This was our first clue into the type of seller we were dealing with.

So, what happened that made us cancel what would have been our biggest acquisition? After all, purchasing 450 units in one transaction would have been a huge step for our growing company.

1. Physical Due Diligence uncovers major neglect. To say the seller is a slumlord is a major understatement. The abuse that this owner is putting their residents through is why landlords get a bad name. This alone does not discourage me from buying, in fact, I welcome the challenge and really enjoy turning a dump into a safe, clean and welcoming place to live once again. The issue at hand was that the $17,000/unit that we ended up budgeting was not going to cut it. We had to increase our budget to nearly $20,000/unit.

One example of this, is that the 2nd story decks that residents need to walk on to get out of their apartments are literally ready to fall down. They are rotten and the structural supports are failing. In one area there is a hole large enough for a kid to fall through!

2. Murders and other major crime on-site. This property is in a nice B/B+ neighborhood, with A class just down the street. After digging in, we stumbled upon a murder that happened during the summer (while we had a signed LOI). The seller never disclosed that to us or our broker! As we toured the property, we also heard over and over from the residents and contractors that break-in’s and drug problems are running rampant on the property grounds. Again, a challenge, but bring it on!

3. Misleading financials. This was the nail in the coffin. We had financials that painted a picture of low occupancy, but with residents paying rent. We used that for our modeling and obtaining debt quotes. During due diligence, however, we received an updated financial statement that showed massive delinquency. This statement completely threw us for a loop and the only time I’ve seen something like this before was on a deal that the seller was falsifying the books. When we asked the broker, he was clueless as to what happened and could not get an answer from the seller.

4. Debt changing due to the above. Our debt quote was based on the assumptions that we originally had. With this new information, our interest rate would be much higher, and our proceeds would be less, which in turn, drops our profit

5. No seller price reduction. Even through all of this, we could do the deal, but needed a sizable price reduction. I hate asking a broker for a price reduction, but it was the only way to move forward. We expected the seller to reject our reduction and that is exactly what happened.

Overall, we must look out for our investors, ourselves and our residents. In this case no one would have won if we moved forward with the deal.

I’m sure the brokers were upset. They put in a lot of time, but I feel we communicated well with them, and the seller was straight up dishonest and misleading. The broker certainly felt bad about how the deal went for us. The good news is we’ve bought $30mm+ of real estate through them, so the know we can close, and I expect to buy a lot more in the future.

So here is the deal – we all want to grow our business and that for us, means buying real estate. It’s a hot market and hard to find deals that pencil out, so it’s easy to ignore a few hiccups along the way, massage the numbers and move forward with the deal, but you need to know when to walk away. This would have grown our portfolio, but it would have added too much risk to ourselves and our investors.

You got to know when to hold ‘em, know when to fold ‘em.

To your success!

Todd Dexheimer