The Fastest Way To Build A Six Or Even… Seven Figure Real Estate EMPIRE!
A bad property manager isn’t just a bad investment. They have the power to threaten your deal, take it down, or even directly create negative cash flow. If they don’t do what you need them to, they can turn your investment on its head in record time–and do serious damage to your portfolio along the way.
With that in mind, today’s installment of the Operational Risks series is all about property management failures. Based on my own experiences, as well as those of several people I know, I’m sharing the common mistakes investors make when it comes to property management.
You’ll learn how to avoid bleeding money, how to turn bad situations into cash flow positives, and the critical differences between a bad property manager and a good one.
Key Takeaways with Josh Cantwell
- Key questions to ask any property manager you’re interviewing.
- Why you should NEVER let your property manager do your capital improvements.
- Why property managers are generally terrible at marketing.
- How to determine if you’re spending too much on utilities, staffing, or other operational expenses.
- Why some property managers will rent to tenants below your guidelines–and how this can become a serious problem 4-6 months later.
Josh Cantwell Tweetables
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Josh Cantwell: So, hey, there. This is Josh. Welcome back. And listen, I want to explain to everybody today some of the operational threats to your deals, your commercial multifamily deals that we’ve experienced, challenges that we’ve had in this case, specifically with property managers that can threaten your deal, that can threaten to take down your deal, that can threaten to create negative cash flow in your deal. So, today in this series of operational threats, we’re going to talk about Threat #3: Property Management Failures.
Josh Cantwell: And so, let’s talk about some of the things that I personally experienced. And so, we talked about operational threats to a business. I definitely feel like there’s a lot of deals that people bought over the last 2 to 5 years, and they bought them with major, major mistakes where they bought them with the wrong kind of debt. They bought them with short-term financing. And that deal is going to possibly lose money and bleed because the cost of that, that’s going to go up. So, over the last couple of years, I’ve seen guys buy a building and they want to get the highest leverage possible so they get a bridge loan. That bridge loan has a two-year or a three-year or a four-year term. And then at the end of that 2 to 4 years, guess what happens?
Well, the bank comes calling. The bank wants to be paid off or the rate skyrockets, in this case, because interest rates have skyrocketed in the past 8 to 12 months. They started going up in February of 2022. I’m recording this now in November of 2022. So, essentially over the last eight months, interest rates have more than doubled. I bought a property in 2021 with a 3.25% interest rate. Today, if I want to buy that same property, the interest rate would be 6.5. So, the interest rate has literally doubled. And so, that creates a threat to your deal that the cost of debt will go up. Well, at the same time, if your property manager is not being asset-managed properly, the property manager can get off the rails. So, property manager can, you know, make sure that maybe they’re not doing everything they can do. And if the property manager doesn’t follow the plan and essentially having them be managed, things can go sideways very quickly. And I’ve seen it happen on a number of deals. I’ve seen it happen from other operators. And here are some of the mistakes that property managers make that can become a threat to your deal.
This is also some of the things that you need to ask your property manager when you’re interviewing them, when you take on a new asset, when you buy a new property, some of the things that you need to ask them. So, number one, one of the problems I’ve seen is that when property managers receive invoices from vendors that they’re not loaded into the accounting system. Let’s say it’s AppFolio, let’s say it’s Yardi, let’s say it’s any one of the systems that are out there that those accounts payable are not loaded into the system and paid on time. Then all of a sudden what happens if there’s an aged what’s called an aged payable, which means it’s 30, 60, 90, 120 days late, now it’s aged and that aged AP grows to the point where some of those vendors threaten hot off of services. They threaten to pull their people off-site, whether it’s a landscaper, whether it’s the pool guy, whether it’s the property manager themselves, whether it’s maybe a vendor, maybe it’s the water, the sewer, maybe at some of the utilities, maybe it’s the garbage guy, whatever. If those payables are not loaded into the system and then shared with the general partner, the limited partners, especially the general partner, those aged APs can grow. And then all of a sudden, it’s like, “Oh crap, we got to pay those.” So, we’ve got to make sure that all the accounts payable are loaded to the system so it’s very transparent.
Number two, and this one’s a major no-no is never have your property manager also do your capital improvements. I have a number of property managers. They all want to do the capital improvements. They all claim that they can do the capital improvements. There’s absolutely no way I would allow the property manager to also do the CapEx. So, what we’re talking about is unit turns. You’re talking about sealing and striping driveways. You’re talking about roofs, windows. You’re talking about boiler systems, commons, landscaping, amenities. Trust me, it’s enough for a property manager to handle just doing the property management. If you also trust them to do your capital improvements, you’re asking for major operational problems, which you’re going to turn into operational threats. One of the things I’ve seen done before, which one of my buddies that also owns a bunch of apartments, he trusted his property manager to do his capital improvements. And guess what? Well, all the capital improvements were mixed in with all of the operational expenses. So, now it looks like all those operational expenses are through the roof, which they’re not. It’s actually a separate category.
Number three. The third risk and the third property management failure is marketing. Whether they use online like Apartments.com or Facebook Marketplace, we love Facebook Marketplace, by the way, for leasing out units, whether it’s Rent.com, whether it’s leasing events on the weekends. I have a property manager who said, “Hey, you know, we’re not fully staffed so I can’t do leasing events,” and I call bullsh*t on that. I said, “Then bring in a leasing agent.” And all of a sudden, they brought in a leasing agent who’s pretty much paid 100% commission. They started doing leasing events twice during the week and once on Saturdays and all of a sudden, their Apartments.com leads, their Facebook Marketplace leads, they started showing up, those residents. Those prospective residents started showing up at leasing events. They started going into the chat feature and they started communicating with the property manager and all of a sudden we went from 85% occupied to 95% occupied. Well, that 10%, this was on a 220-unit we were working on. That’s 20 leases times roughly $950 a unit. That’s about $20,000 a month.
The property went from slightly bleeding cash to cash flow positive because we forced the property manager to do leasing events and they said, “Well, we’re not going to do leasing events. We don’t have the time. We don’t have the manpower.” I said, you know, basically, I call bullcrap, “You’re going to do leasing events or I’m going to find a different property manager.” And so, that’s something that comes down to asset management. You, as the general partner, need to asset manage the property manager and make them make sure that they’re doing proper marketing, Facebook Marketplace, Apartments.com. Rent.com. You know, they’re syndicating out. They have updated photos. It’s amazing to me when we turn units at some of these buildings and we have amazing new properties with brand new photos that the property manager doesn’t take the time to go update the photos. Well, go update the photos. Make sure that they’re updated. Check Apartments.com, check Facebook Marketplace, check their websites, and then make sure you’re following up with regular recurring leasing events. We require leasing events every other Saturday. So, it’s really important that you asset manage the marketing, make the property manager do the marketing, but that you manage the manager.
Another operational threat from a property manager’s perspective is the utilities. I actually looked at my P&L on one of the 300-unit buildings that I own and I noticed that the garbage bill, the annual garbage budget for taking out the trash, the annual budget was $24,000 a year, $2,000 a month. And when I bought this building, I noticed that the garbage had already, we had already paid over $54,000 to one of the garbage contractors. So, I got on the phone with the property manager and I said, “Hey, what’s going on with the garbage?” And they said, “Well, yeah, you guys are doing a lot of CapEx. You’re doing a lot of capital improvements. So, the garbage company is coming out and they’re having to take out the dumpsters and replace the dumpsters more than we had originally planned.” And I said, “Well, actually, no, that’s not the case because the dumpster company that you use for regular resident trash, that was a company called Rumpke and there was a different trash contractor for the capital improvements. And that one was built into our CapEx budget.” I said, “So, Rumpke is not coming out more than normal and swapping out the dumpsters.”
So, then they decided to go look at the bills. They looked at the ledger and what they found was that Rumpke instead of charging us $2,000 a month to swap out the dumpsters for all the residents, they were charging us $2,000 per pickup. And so, instead of having a bill that was $2,000 a month, the bill was over $10,000 a month because Rumpke had made an accounting mistake. So, when you get your P&Ls, you’ve got to make sure that you have a budget in there that you start with and then check what they’re spending versus what the actual budget was. Another property management failure that I’ve seen is that the property manager is not sticking to the budgets. If they want to do marketing or they’re just going and spending money on marketing willy-nilly and I said, “No. There’s a budget for marketing. You have to stick within the budget.” There’s a budget for your staff, for your property managers, your maintenance techs. There is a budget for plumbing. There’s a budget for repairs and maintenance. You’ve got to stick within that budget. And if you’re going to go over that budget, you’ve got to ask us for permission.
Another property management failure that I’ve seen is that they’re significantly overstaffed. And I’ll give you an example. Every time we buy a building, we have a formula of what we’re willing to spend. And that formula is $500, write this down, $500 per unit per year for property management salaries. So, if we went and bought a 200-unit building, we’d multiply that times $500 and that means we’re allocating $100,000 for property manager salaries, bonuses, health care. All of that goes into that $100,000 budget. So, write that down. $500 times the 200 units. $500 times it could be in a 50 unit. It could be a 500 unit. Doesn’t matter. $500 for property management times the number of units. That’s your budget. Then for maintenance, the budget’s $450 per year per unit. So, again, if you buy a 200 unit, simply multiply times $450 per unit, you get $90,000 and that’s your budget for maintenance techs, okay, for the salaries for your maintenance guys. Well, we were onboarding a new property and the CEO of the property management company came at me and said, “Well, no, the national average for property managers and for maintenance techs, the national average is $1,250 per year per unit.”
Well, I said, “Well, frankly, I don’t really care what the national average is.” The national average could include properties in San Francisco, very expensive. New York, New Jersey, very expensive. Could include properties in, I mean, pick a city, Denver, Tucson, San Diego. Seattle, Chicago. I don’t operate in any of those cities so don’t give me some B.S. about the national average. What I care about is what am I willing to spend in my market. And so, I said, “No, this is what we’re going to stick to. We’ve got to find a way to reallocate. Maybe some people have to be let go. Maybe some people have to be moved to some other buildings.” And so, if you just let your property manager dictate what your budget is, they’re going to go over budget. I can guarantee you that. And so, those are my budgets for repairs and maintenance payroll and for my property management payroll.
Finally, another operational threat. That’s a typical failure of a property manager that you’ve got to make sure that you are on top of and your asset managing is leasing below guidelines. So, if you have a building that has some vacancy, let’s say it’s 10% vacant, 20% vacant, 25% vacant and your property manager starts to cut corners on letting people move in just to fill up units. They’re letting people move in below your guidelines. One of the guidelines is they have to have gross income that’s three times, 3X the rent. That’s one of the income criteria. Obviously, to verify employment, verify if they have prior evictions or verify if they have prior felonies. If they don’t have a job, if they have evictions and they have prior felonies, then they’re not, okay, we’re not going to lease to them. Well, I was a partner in a building at one time where the property manager, even unbeknownst to her own company. We had hired a third-party property manager. That third-party property manager had a regional manager and the regional manager wasn’t even aware that the property manager in the leasing agent was leasing properties, leasing out units below the guidelines.
And so, it doesn’t show or rear its ugly head until three or four or five months from now when they move in. Maybe they pay the first month’s rent, the second month’s rent, and then they default on their rent, and now there’s an eviction. Well, if you have 10% of the portfolio or 10% of that complex that’s now been leased below the guidelines where you didn’t verify income at three times the rent, you didn’t verify employment, you didn’t verify evictions or felonies, it’s going to rear its ugly head four or five months from now, and all of a sudden you’re going to have a major 5%, 10%, 20% of your building where they’re not paying. Now, you have to go through the evictions, the kick-outs, and then you got to turn the unit a second time, and then you got to release them out. That can cause a major, major cash flow problem. And if you have debt that’s now coming due, now you’re in deep trouble.
And so, these are major operational threats that I as an asset manager, if you’re the general partner in charge of asset management in our business, my partner’s name is Tyler, he’s in charge of asset management, these are all of the characteristics, the KPIs, the important numbers that he tracks on a bi-weekly basis. So, these operational threats from property management failures include, one, not loading the payables into the system. Two, do not allow your property manager to also do your capital improvements. Three, under-marketing the property. Four, overpaying utilities. Five, not sticking to budgets. Six, being overstaffed in property management maintenance. And finally, number seven, leasing below the guidelines. Those are all property management failures that I’ve seen in some of my own buildings but primarily in other buildings, buildings that I’ve even gone to buy. And I see these problems with the former owner.
Josh Cantwell: So, I hope you enjoyed this episode, this solocast. If you are getting a lot out of this, guys, please right now, open up your phone, smash down on the subscribe button. Leave us a five-star rating. Leave us a review. Let us know if this is helping you get more confident in the way that you manage your buildings. And also, as we round out 2023, I want to make sure that you’re aware of some opportunities. Number one, if you’re a limited partner looking to build a relationship and have some investment capital, go to FreelandVentures.com/Passive and register on our portal so that you can see any upcoming deal flow that we may have. Number two, if you’re a current operator and you’re looking to level up your business and you’re looking for a network of investors that can sponsor loans, that can raise money, that can do property management, do capital improvements, if you’re looking to become part of a group to really build out your network, if you’re looking for coaching and partnering and mastermind, go to JoshCantwellCoaching.com right now and apply to be a member of our Forever Passive Income Mastermind group. We’ve got almost 100 members. They’re all operators, they’re limited partners, they’re passive investors, they’re active investors, all looking to grow their portfolio using best practices.
Finally, number three, I’m going to be teaching a three-day event where I’ll be focused on making sure that my mastermind members get today’s absolute best strategies, strategies like I’m sharing with you right now, and get those strategies from me, from my playbook, from my operational handbook. And I’m going to be teaching that for three days to my mastermind members and they pay $10,000, $20,000 plus $500 to $1,000 a month to be a member of that group. What I decided to do was allow people who are not members of the mastermind to attend that for three days, to get a taste of what it’s like to manage buildings, to buy buildings, to acquire, to do the capital improvements, to refinance buildings and learn how to structure your debt and how to do your acquisitions and raise money. So, if you go to ForeverPassiveIncome.com, there, you can secure a ticket to one of my upcoming virtual bootcamps to learn exactly the entire multifamily investing system from A to Z. It’s the things that I’ve learned over the last six years in acquiring over $400 million in real estate and buying over 4,400 units.
So, go to FreelandVentures.com/Passive if you’re a limited partner. Go to JoshCantwellCoaching.com to join our mastermind or go to ForeverPassiveIncome.com to join our three-day virtual bootcamp. All right. So, I hope you enjoyed that solocast on operational threats from property managers. Don’t forget to join us for every episode going forward. And we’ll see you next time. Take care.