How to pick winning investments based on school districts

0:00the first first acquisition was made in tandem with my my then girlfriend now wife and it was it was really focused on not the actual individual piece of real estate but the like the underlying market conditions around the real estate like my my big belief going in and still now is almost everyone focuses explicitly just on the actual building and kind of Misses about like what's going on in the market and what we what we fell in love with was like hey we want to find a market which we were defining as a zip code that had a lot of demand to actually be in there but very limited Rental Supply so a lot of people want to be there no rentals available no land left to build new rentals they don't allow multif family development so you can't knock down a house and build a multi family like that

0:48kind of creates a really interesting situation of like you're in an advantage position as the as the as the landlord so we we picked the market that we liked and then it was just a function of like what is the first house that roughly fits what we're looking for meaning like three bedrooms in good shape and we'll buy the first one that has that criteria in the specific Market that we like so that's what we did I think that was 2018 2019 we bought that house and we we still technically own it today through the fund cool and so how did that evolve into I want to focus purely on markets where there's Elite school districts that ended up being kind of the core driver for the the deand

1:37The demand side of the equations like we we think about real estate through Supply demand like our Elite School District really is the demand driver like if you look at if you look at sensus dat of like hey why do people move like biggest reason people move is moving somewhere for a new job and then the second largest reason people move is family reasons slash moving to take care of an elderly parent relative somebody who might be sick and then the third largest reason that people move is family reasons for the betterment of the kids and it was like Hey on the job side offices are everywhere I have no control over what that looks like and office locations can move moving to take care of families like that can completely depend on where the family is but moving for the betterment of kids for most people they Define it as a better education for their kids and the really good school districts don't move

2:25They are static they're stationary if you can invest in those really good school districts you got a lot of people millions of people per year who are looking to try to make that move got it and what's the the ideal type of property to own in one of those school districts because I imagine it's probably already you know the if if it's a great School District price prices are elevated and there's probably you know starter homes are probably harder to come by what's what's like what are the metrics you use to measure this is a great deal and what what type of property do you target we've got a lot all in it's about 17 metrics that we use that we need something to hit about one and a half% of homes on the market fit the all 17 criteria some of them are gimmies like minimally three bedrooms minimally one and a half bathrooms

3:14We exclusively buy across a couple states in the midwest so we need garages because people don't want the car outside in the snow but then we have a bunch of call it extra ones that we care about we're we're building the portfolio so we could sell it down the line so we care about what some the bigger single family players care about like speed limit of the street that the house is on house has got to be on a 25 mph speed limit for us to Street fres to buy it can't have solar panels can't have a pool so once you take all of those kind of 17 into equation if it passes all of those then you actually need to do the financial underwriting you needed to have a unlever yeld on cost of at least six ideally six and a half say that again I'm sorry unlevered what unlevered yield on cost so ideally we want to all of our Acquisitions minimally at least a six

4:02Ideally a six5 when we purchase it can you can you give an example what that means unlevered yield on cost for sure so unlevered yield on cost is basically a function of like the the numerator is your noi like the actual profit that the home makes per year before Debt Service over the total purchase price of the house plus any closing cost your renovation cost and we we really like that metric because that tells you what the actual home or real estate property is generating for you taking Mortgage in debt out of the equation like if you don't want to buy a notg great property because the mortgage debt is 3% and you don't want to pass on a terrible property because the mortgage date is mortgage de is 7% you want to buy in cash and find a way to hold it until whatever so

4:51We like that metric because it just shows you that explicit property how is that property U performing from a return perspective got it okay so for example then if you were buying a $100,000 property it would need to create 6,000 to 6,500 per year annually after all your expenses other than your mortgage exactly right so so that means $500 a month a cash flow essentially on a $100,000 house or you know2 200,000 be $1,000 a month cash flow that seems that seems great I mean that's that's really good cash flow where is it a challenge to find those types of metrics it it traditionally hasn't been hard for us to find those what works in our

5:39Favor is we're we're really targeted on what we're buying and where we're buying it so we we only buy in 37 zip codes there's 37 zip codes only that we track and we've built a bunch of software on top of the MLS so every time a home in one of those zip codes hits the market it's dumped into our software and we can check it against our 17 things so we we know when a home hits the market if we want to put an offer on it inside of five minutes so we're we're always first offer which gives us a pretty high hit rate we win about 55.1% of our offers right now so it's it's not super difficult just because we we can kind of cut through the noise pretty quickly right now for example there's there's about 490 homes in the market this morning and

6:28There was about eight that we like and we're able to kind of cut through the noise to get to that a pretty quickly wow that's great awesome and you mentioned in there that you the part of the reason you have these 17 metrics is because you want to appeal to eventually be able to sell the entire portfolio to maybe a a private Equity company or or something like that what I guess what are they looking for like what what's the endplay that you see you know in terms of how big this needs to be to in order to appeal to them and what what's an appealing portfolio if somebody was listening to this and like what I'd like to build a portfolio and sell it as well yeah I so I think there's a couple different elements to it I I think it's super important people in general

7:16look at it because at the end of the day if you're buying a piece of real estate like you are most likely going to sell at some point in your life span or your kids are most likely going to sell at some point in their lifespan so like you need to be thinking about what that end buyer is going to want so for for us our average home is around $480,000 a purchase price they're around 500 on average now so around 200 homes or hundred million do worth of equity is kind of the Tipping Point where where the larger funds will get excited about the portfolio and it's big enough for them to be interested in so depending on the purchase price of somebody's portfolio around a 100 million total is the number you want to be shooting for for in terms of like what they're looking for the diligence that goes into an acquisition of that standpoint is much

8:05much higher than every standard and traditional standard traditional real estate acquisition so for example we are needing to basically build our data room as we go along because they're going to need all this information I need to have every single invoice we paid for every single maintenance technician for every single house forever neatly categorized I need to have the make model serial number of every single oven and every single microwave and every single furnace in a spreadsheet I need to have every single furnace filter size in a spreadsheet we got to have all that data together because they're going to demand and expect that if you don't have it you're gonna they're going to haircut you on price because they're going to assume that the properties are not taken care of to the level that they would want them to have been taken care of because you can't prove it with the data but if you do have the data and

8:53You say hey I can show you categorically our average furnace is a 2018 furnace they're pretty new they're in pretty good shapee you're not going to have to replace all the furnaces in the portfolio then they go okay like I get it I can see that that's proven like we B we can bump up the price a little bit because we know we're not going to be replacing a seven 8,000 furnace in every single one of these houses next year yeah that's really interesting and I I think most people don't start with the end in mind especially that big of an end in mind I think a lot of people listening to this are you know more mom and popop investors like just getting started in those early stage buying a few Properties or handful of properties they hear $100 million and they're like that's that's insane that's that's it'd be tough to get there but having a system like you talked about it's just you know you you every

9:41Day you can see are there properties that that meet our criteria and it makes sense to add to the portfolio so I'm curious about a couple things that I want to hear about is number one the financing of $100 million worth of for the property how that works and then we can get into some of the management side of it too because it sounds like that's a pretty significant undertaking as well for sure so on the the financing side of things there's there's a bunch of different flavors to it I I think the most important thing on the fundraising side is fun financing side and let's say like let's say you're using 80% mortgages you're putting 20% down payment is that what you typically do we so we we're actually much more we're we do 59% LTV so 40 41% equity in our in our Acquisitions right now but like whatever whatever percentage it might be like standard

10:30Like 80% mortgage like what I think most people forget and about that is like the bank is your business partner and they actually own 80% of your business because that's that's literally what the financing looks like so I think it's an important framing because it kind of flips a switch of like the lender is just like a service vendor to me to like my lender is my business partner and to that end like you got to find Banks typically Community Banks like credit unions those kinds of folks are most likely to work with you but actually truly treat them like a partner like if you are doing your quarterly financial planning for the next quarter and you've also finalized your numbers from the past quarter send them to the bank like there that loan officer is used to hearing from you only when you are looking for

11:18A loan but they still own 80% of the property that they gave you last time like check in with them like hey Bob hey Sally how you doing like this is how things are going in this property like our plans for the next quarter we're going to probably do some work on this unit and this unit and otherwise things are looking good or like hey things are not looking super great right now but we know that and here's our plan on how we're going to fix it that's going to build a lot of confidence with Bob and Sally next time you go back to them to get a loan they'll be like oh I know you you've got you've got your eye on the ball you've done a great job with all the properties I love how you keep me informed like it goes a really long way with those lenders so for us like we're we're really focused on kind of building those relationships with really good lenders we've got one one primary that's got most of the portfolio and then two Challengers who both have pieces of the portfolio that's

12:06Important so all all the all banks know that they they need to continue to be a good partner to you otherwise they'll be replaced and we we exclusively use 30-year debt fixed debt don't want to use floating don't want to use arms don't want to do anything cute that could slightly juice return in exchange of too much risk and like I said we're at the 59% LTV right now okay okay interesting yeah and so I guess why do you only do 59% as opposed to leveraging up to 80% which you see with a lot of investment loans so we typically go in at 65% right now we're at 59 because we haven't purchased anything in three four months and we're have

12:55Been paying down debt across a couple years now for different homes so on the portfolio right now it's 59% we typically do 65 for for US 65 has been like the right intersection of still like really healthy on dscr and we like we're confident that we're going to be able to cover cover the monthly payments but also can can get the highest return associated with it like theoretically if you lever at 100% that's the highest possible return but the highest amount of risk and where our like intersection of like Risk return curves as like around 65% is at least with these interest rates we think is the best best spot for us to be at got it okay so okay so so say a $500,000 average purchase price you mentioned so then

13:43Before your debt you add debt to it you'd be cash flowing at least $2,500 a month on that for the 6% and then you add the debt on that so then you you've got still I would imagine some some cash flow there what's the the end goal that you have with the or I guess like what's when you project your numbers out do you what do you how do you base that type of the type of return that you're eventually trying to get to is it is it a function of mostly Equity like increasing over time like paying off principle and the property appreciating or are you concerned that much about cash well so it's the

14:32Answer is both so our we're forecasting our total return over like a 10 to 12 year period as we build the portfolio for sale and the return is almost it's like 55% from the equity and 45% of the return comes from the cash flow so it's it's pretty close we pay out cash flow monthly to our investors so they they get monthly direct deposits and then on the equity side it's mostly actually comes from the the value of assembling a portfolio the homes theoretically should appreciate a little bit but it's kind of one of those situations where like each home individually is worth 500 but if we have a package of 200 of them together we can sell each home for 580 because it's a value the value of the portfolio is is is greater than the sum of

15:20Its parts so the the equity return comes from the value of that kind of assembly oh really okay I didn't realize that so there's there's a a Big Boost to the value by having it all sold together as a portfolio got it exactly okay okay interesting and so when it comes to your fund then what's the what's the size of the fund what type of projected returns do you offer to people can you share a little bit about the details of that and I guess also like what maybe what are some of the pros and cons of having a fund as opposed to raising capital for each deal there's there's a lot of cons way to describe it

16:09Not all roses and sunshine absolutely not it's a there's there's a ton of there's a ton of added complexity and an insane amount of added cost from going down the fun path I I strongly would prefer actually if we were able to go deal by deal but it's just with the nature of the purchase price of what we buy coupled with how fast they sell it's it's great homes and good school districts like they hit the market at 9:00 am and they are under contract at 12: noon like we we we need the cash in the bank to be able to move on them and we can't do that if we have to we go deal by deal although it would be much much easier if we if we could do that the reason why it's so complex on the fund side is I mean we are an ed SEC registered instrument like where we are raising capital

16:58From folks the legal the legal side alone is significant we need you need to have two different accounting firms one is called the fund administrator they're in charge of for lack bit words like delineating what dollar goes where and then we have a separate accounting firm that prepares tax returns for all of our investors the k1s and audits the first tax first accounting firm oh I see and like between the three of those that's depending on the fund size and complexity and what that looks like that could be 80 to 100 Grand a year just for those three players it's it's a ton of added headache as a result from there the the the only real benefit to be to going down

17:46The fun path is if you believe the economic return is larger from having having a fund in our case because we're trying to build a portfolio we think the economic return is larger going down it so this path so we have to do it this particular way but if you can get away with not doing it I think it is a much better solution and there are some really fantastically sophisticated I think the best multif family operator in the country is is a is a company called Northland and they are 30 40 years old at this point and they have never once raised a fund they are exclusively deal by deal granted deals are 100 million plus but they're 40y year history and probably the best multi family operators in the country and

18:34They've never once raised a fund