Posted about 5 years ago

When Do You Walk Away From A Deal? When THIS Happens.

I will always follow the “don’t let a deal die on your side of the table” philosophy. There is really never a reason to not offer SOMETHING to the seller.

Or, at least that’s what I used to think.

This week I was sent a deal for a 351-unit apartment community in Dayton, Ohio. I was told it is a distressed property and only 95 out of 351 are rented. The other units need rehab.

Ok, I’m cool with that. I’ve got team members that can turn that puppy around.

Seller wants 2.8MM for it and it’s been on the market for about a year.

Hmm, ok, something sounds fishy. Why has it been on market so long? But I still moved forward because perhaps it was just an unrealistic seller and now, after having property sit on market for so long, he/she will be more reasonable.

So I offer 1.9MM to get the ball rolling. They counter at 2.3MM.

Hmm, ok, sounds like we’re getting close here. I happen to be in Cincinnati at the time so I decide to take the short trip up to Dayton to view the area and the property. That way I can make a more informed offer.

When I visit areas one of the many things I look for is a McDonalds. And, I want to see how new the McDonalds is. Because if there’s a new McDonalds nearby that tells me some smart Fortune 500 people identified the area as growing. It ain’t the end-all, be-all but it’s a good indicator.

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So, where do I begin about this property….

First off, the night before I leave I google the area and there’s a drive-by shooting 2 blocks from the property. And, as I’m driving around the neighborhood of the property there ain’t no Micky D’s anywhere.

So I arrive at the property and notice an iron rod fence that is destroyed. Apparently a drunk driver plowed through it and they haven’t fixed it yet. The most impressive part is the fence is on a 10 foot hill.

Anyway, as I walk up to the leasing office I notice a NO GUNS sign. I’m glad it’s there although later I’d be wishing I was packing some heat. When I tell the leasing agent that I’d like to rent an apartment they tell me point blank “you don’t want to live here.”

Hmm, yeah, you’re right I don’t but I tell her “well, I would like to see what you have available.” They don’t have anything available now but will be able to get me a good deal in about a month. I ask where it would be and they say “we’d put you right next to our office because the closer you are to us the less drama there will be.”

I have a feeling “drama” is code for something.

funny-animal-captions-can-i-interest-you-in-some-drama

Still, that wouldn’t deter me from buying the place. As long as the numbers make sense. I know the seller bought it for 1.1MM cash so they don’t have mortgage on it. That means opportunity for me because we could do some owner financing.

Well, turns out they only have 45 apartments leased and none available now because of “renovations.” I tour a “renovated” apartment and…it…is…d.i.r.t.y. They even show me an apartment that just had someone move out – it was TRASHED. I was shocked they would be showing it to a prospective tenant.

The 45 apartments thing is a BIG deal because the 1.9MM offer price was based on having 95 units rented which is what the proforma indicated.

Mentally my offer price just dropped 50%.

At this point I’ve only seen the renovated apartments and still need to get a sense of what the other apartments look like and, specifically, how much work is needed to get them to rentable conditions. While talking to the property manager he lets slip the following bomb:

“The owners live in California and are trying to sell but haven’t been able to yet. They need to figure something out because the City of Dayton just mailed us our last warning on our windows with broken glass. Starting next month we’re getting fined $500 per building for every building with broken glass. There are 49 buildings so that is…(he punches in the numbers on his iphone calculator) a $24,500 fine…per month!”

“Why don’t you just board up the windows,” I ask.

“We’re going to have to but that’s going to cost over $100,000,” he says.

Damn. These owners are in trouble. But still, I’m a glass is half full kind-of-guy, so I see this as opportunity to get a better deal.

So here’s what I know at this point:

- Super motivated owners who are bleeding money

- Management staff that’s not good

- Out of state owners

Sounds like a perfect storm to do creative financing. But, I need to determine one very important thing:

- How much does it cost to rehab the community and how much will I make after it’s done?

The property looked like a Hollywood movie set where they just shot a riot scene and then excused all the cast members for the evening. It needed everything major. Parking lot, roofs, HVAC and everything in between.

clown-scare-riot-police

I did a napkin estimate of 4M – 5M renovations.

Ok, fine. So what would it be worth after the rehab?

Well, the property is the largest in its submarket and the submarket’s average occupancy is about 85%. That means the much smaller properties are having a hard time leasing and if I have 351 units ready to be rented I’m going to have a VERY HARD TIME (i.e. impossible) renting them out.

It’s called “absorption”. Yeah you’ve got 351 units but that doesn’t mean people want to live in that area! Plus the rents on the existing 45 units were already very low.

I determined that if we did the 5M rehab then it might, MIGHT be worth 8M IF we could get it 85% occupied. And I just didn’t see any way of making that happen.

So, when do you walk away from a deal?

  1. If the seller isn’t realistic about their property’s worth after you do your due diligence
  2. If the cost and time to rehab the property is more than the after repair value

I scooted out of there having learned a very good lesson.

As far as the property goes? If I were the seller I’d recognize I made a bad investment because I didn’t know the area. Because that’s the key to all of this. If the area was ok or growing then you could make it work with a rehab. But the area simply won’t support the amount of rehab that’s required.

I’d actively market it everywhere and tell people to name their price. I’d take whatever I could get. Including, but not limited to, a 6-piece chicken nugget from the McDonald’s in the neighboring town.



Comments (37)

  1. This was perfect, thank you for sharing.


  2. Haha... probably would have walked. I try my best to stay away from drama.


  3. @frankie 

    @Frankie Woods awesome! Congrats! Yes, definitely a big difference between the two. Are you going to move to 5+ units as well or stick to 1 - 4 units and the financing involved with them? 


  4. @Joe Fairless , I am.  I recently purcashed two 4-plexes here in St. Louis and am looking for me.  Everything is cheap here, but there is definitely a difference between good cheap and bad cheap :)  Learning everyday! 


    1. Sorry, "looking for more" , not "me". I know where I am...

    2. Sorry, "looking for more" , not "me". I know where I am...

    3. Sorry, "looking for more" , not "me". I know where I am...

  5. @Frankie Woods thanks for the nice words. Are you looking at multifamily properties? 


    1. Sorry, "looking for more" , not "me". I know where I am...

    2. Sorry, "looking for more" , not "me". I know where I am...

  6. @max 

    @Max M. yes, perhaps a police training center :) 


  7. Thanks for the article Joe!  Great stuff!


  8. Subscribing

  9. I wonder if it would be possible for someone to just buy the place for practically nothing, bulldoze the entire thing and just let it sit there until a good opportunity to build it into something more profitable came along, then sell the land to another investor.


  10. @Joe Fairless Last I saw recently, it was still being offered for sale as a "great deal" as compared to a smokin' hole in the ground.


    1. @darrin 

      @Darrin Carey haha, oh man. I think I'm going to stop by again next time I'm in Dayton - just out of curiosity. 


  11. @Mimi Hui thanks a lot. Yeah, I'm curious as to what's going on with this property now. 

    @Darrin Carey any idea what happened to it? 


  12. excellent post... I agree, signs of an improving neighborhood = better potential, that property read like a potential money pit.


  13. @Deana Boozer interesting and there ain't no dumb questions especially during a brainstorm which this deal definitely is. 

    If we were to subdivide the lots then we'd still end up with the same problem as before - the costs of repair exceed the income we can command with rents. Regardless of how small we section it off at, we'd still come back to the same problem (just on a smaller scale). 


  14. I'm a newbie here, so, if this is a dumb question, pardon it...  

    but would it have been possible to sub-divide the lot to break off some of your expenses?  Sub-divide the lot, keep and rehab some units and then attempt to sell off the rest?  


  15. @Jason Eyerly or perhaps a state of the art police command center? 


  16. What's the cost of bulldozing the place and building a strip mall or possibly a therapist/ammunition store in it's place? Lmao.


  17. @Roc P.   thanks a lot! Have you come across a deal that just didn't make sense any way you looked at it? 


  18. Great stuff Joe. Roc


  19. @Pedro Duquesne agreed the owner is definitely holding on to the past and not the present. 


  20. @Shaun Reilly  yeah, brainstorming is fun on this property because you'd think there has to be some way to make it work. At least that's what I initially thought. 

    Side note, I'll always remember you as the guy how 1st reached out to me when I joined BP. So, thanks again for the warm welcome. Meant a lot to someone just entering the community at the time.


    1. Good read, I like the MCD tip.  Regarding the property, the owner is holding on to past and not the present. Sounds like the condition of the property is really bad and needs some TLC.  What is most likely the hidden risk is the reputation of the complex in the community. I would budget a larger then average amount of money for marketing in an effort to rebrand the complex.  


  21. If there's one person who loves this property, I know it's @Darrin Carey. Rumor is he offered full price. :)  


  22. Thanks for sharing this analysis. Looking for a McDonald's reminds me of the story about Burger King in the 1970's. They were expanding like mad just like McDonalds. McD's had a big real estate department that did analysis of locations with demographics, etc. Burger King didn't have the money to fund the overhead of a big real estate group. So they just opened a new restaurant in the towns McD's opened new restaurants.


    1. HA, WOW, I had never heard about that before. What a great story and, quite frankly, a smart business practice by Burger King. Let them do the work and test out the market then go in behind when it's proven. 

      Thanks for sharing @Jerry K. 


  23. I don't know, I think I would have put in a new offer.  :)

    Sounds like if you got it cheap enough you could still make it work.

    Assuming your napkin calcs were in the ballpark offer something like $400K with like 5% down (as a token) and the rest owner financed at maybe 3% over 30 years fully amortized (I know it is a large commercial, but that type of financing is what can help make giving them anything palatable).  Maybe after honing it down this is still too much and you need to go even a little lower.

    Most likely won't even negotiate on that, but throw it out there that you have some interest.  It sounds like these owners are perilously close to just losing the place all together if they start getting hit with that $24.5K a month fine as well so maybe after 1-2 of those they might be of the "JUST TAKE IT" level.

    But they know you would just take it at least.


    1. HA, well, the challenge is even after you get property under your control you have to drop (at least) 100k in it for the broken windows. And, when the heck will you get any money in return? Not sure cause the area doesn't support the rents that you'd need to charge after you do all the work. The expenses on this place would be crazy due to all the work that needs to be done to get it back up to code too. Like I mentioned above, I'm really curious what will become of the property.

      1. As I said basing this off your quick clacs, it might not make sense.

        My thinking though was if it is worth around $8M at 85% then dial it back to 70% and it is like $6.5ish.  Take the top of your $4-5M rehab range and buy the place for the $400K I said and you are all in at $5.4M with that $400K financed on great terms.  So if you just re-position and cash out with a still low vacancy you get >$1M and can still market it as a place with lots of potential once you fill the units to get to market vacancy.

        This is not my game so no idea how difficult it would be to secure the financing on the $4-5M in renovations.  If you can take that down with your investors and/or bank connections seems like there is still some decent meat on the bone with potential to do even better (i.e. you can do the renovations for more like $4.5M and get up to a still modest 75% occupancy).

        Just brainstorming and looking to learn.  I find this a very interesting case study. 


  24. Sometimes properties really are worth nothing.  Now you see why no one has bought it in over a year.  I've seen these before, and then several years later they become vacant land.


    1. Agreed, this is the first property where really nothing made sense other than send a silent positive thought towards the ownership group that they will be able to recoup some of their money, someway (just not from me!). I'm very curious what will become of the property in 2 - 3 years. Vacant land is probably the odds-on favorite. 


  25. @David Rundle thanks a lot. Yeah, McDonald's and WalMart are two things I look for. 


  26. Do you want fries with that?  Great post, very informational.  The McDonald's trick is a new one for me.