Creating value by seeing what others can’t
by James Miller
I recently heard at a Real Estate Seminar that 90% of people cannot see past what is in front of them.
What I believe that means is that most people have a hard time visualizing things any different than how they see it right at that moment.
While I believe that is true for a good portion of the population, the 90% did seem a bit high to me. I, for one, like to think that I am in that 10% that can see things differently. There also seems to be a lot of architects, engineers, doctors and designers out there, all of whom have a profession that really revolves around their ability to see things differently than they currently are.
I think what happens is that most of us can see things differently, but mainly within our field of expertise. I would have a hard time visualizing how to preform a Cesarean section, but I have gotten pretty good at picturing what it takes to make a trashed out house livable again.
In showing apartments and houses, I did learn that it is much better to wait until you have a place “show ready” than to start running people through while you are still working on it. No matter how adamantly they claimed to be able to picture what the place would look like with new carpet, they never seemed to want to take an application with them.
How does this tie in with investing in real estate?
You need to practice being able to see what others can’t when investing in property. You will find the best value in knowing how to fix those train wreck properties that no one else wants to touch.
My real life example is from a run down retail building we bought in a small town near where I live. It was a brick building that had a retail space downstairs and an apartment upstairs. Had is the operative word as this place needed serious attention. In the middle of the downstairs was a huge pile of stone left on the hardwood floor. The owner’s son was a mason and had stored the stone there for quite some time. The problem with this was that the excessive weight of the stone was so heavy it had caused the center of the floor to sag by about four inches from level.
I am sure that this floor problem was a one of the main reasons that this property had not moved. T o most people that issue looked like a enormous amount of work. It appeared as though the whole floor would have to be rebuilt and replaced.
I went downstairs into what was closer to a crawl space than a basement and inspected the joists that supported the floor. The joists were in good shape, solid with no rotting, it was just the king stud, or the main beam that supported the joists that had cracked and let loose.
After we had purchased the building and the mason had removed his stone, it took three of us about four hours to jack up the floor to level and replace the beam with a cluster of sandwiched 2×10’s.
Compare that with replacing a roof.
Replacing a roof is something most do-it-yourselfer’s can get a handle on. They, or someone they know, have done it and have a good feel for it. I am sure this floor issue looked to be much more significant of a problem than replacing a roof would appear to be, but the time and materials we spent on leveling that floor were dwarfed in comparison to roofing a house. It can take four hours just to tear off old shingles.
The reason that I choose the roof as an example is that this building had just had a new roof put on it only two years prior. For the reasons just mentioned, that was one thing I didn’t want to have to do to it.
A short time after we had purchased it, I learned that the guys at the lumberyard in town thought that the building was in bad enough shape it should be torn down.
It’ s a real gut check when you are doing a rehab of a building and the people who are supplying the materials for the job think that you made a mistake. But even these guys, in the construction profession, didn’t see what my partners and I saw in that building.
Here is what happened with it:
We purchased the all brick building with a new roof for $57,000 (I said it needed some work didn’t I).
We spent about four months rehabbing it on nights and weekends putting $22,000 into it.
When we were done we were able to rent the upper and lower spaces out for a total rent of $1025/ mo.
Because of that income, we were able to refinance the property for $100,000, ( it appraised at $135,000) pulling everything we had invested into it back out, plus $7000 for each of us (Three partners) .
We are also netting around $100 per month cash flow, have an equity of approximatly $11,000 each and the tenants are helping us to pay down the building by about $100 each month.
It’s true we had to put in some sweat equity, and a lot of people will say that I am not paying myself for that time. I often hear “it’s gotta count for something.”
My response is that what they are saying is true, if it is taking away from anything other than the time I would be spending on the couch watching TV, or God forbid – Blogging. After reviewing the numbers, I am sure you will agree that what we ended up with was worth trading in few evenings of of Everybody loves Raymond.
The main point is that my partners and I were able to look at an old beat up building differently that most, and in doing so, were able to create value that didn’t exist before.
Compare that to purchasing a building that is already “good to go”. Where is the upside? You may have a little cash flow, but you usually have to wait for appreciation… and lately that’s been a negative number.
If I want to create value, give me the train wreck every time.