Real Estate Investing, with Tony John

While you are preparing to purchase a property, be prepared for ‘experts’ to try to talk you out of doing things.

I can give you a wealth of examples, but here are a few:

1. Valuers
When I purchased our shops a few years ago for $400,000, a valuer friend asked me “if it’s a good deal, why hasn’t someone else bought it?’. Today, it has put probably $150,000 directly in my pocket (after paying interest), and is worth over $900,000.
Interestingly, with that logic, you could never buy a good deal.

2. Lawyers
When we purchased a residential property for $240,000, I had to add my wife’s name on the title, to help us get finance. The bank insisted that she independently see a lawyer, before she signed a particular document.
When my wife came out from seeing the lawyer, she was worried. She nearly pulled out of the deal. The lawyer had explained how dangerous it was to be responsible for a debt. All sorts of dreadful scenarios were concocted, all leading to heartache and poverty.

We decided to buy anyway, and within four years, we sold the property for $680,000. Glad we weren’t talked out of it by that doom and gloom lawyer.

3. Bankers
With our latest property, I contracted to buy a 1.4 million office, subject to obtaining finance. I emailed my long-term banker: could he help us get finance?
He quickly replied, “you can’t get finance for this property. But don’t worry! I’ll write you a letter which will get you out of the deal”

The implication being that I was some sort of idiot to get myself in that position, but he would kindly help me out of my predicament.

We found another bank, bought the property, and it is now worth 1.6 million.

4. Real Estate Agents
We had the real estate agent who did not pass our offer onto the vendor. He told me “the vendor is not going to be interested in that offer” After a week, I called the vendor direct (which was a bit naughty) and asked him if he was interested in my offer. He was shocked that he didn’t know about our offer. He rang the agent, yelled at him, then the agent yelled at me. It was messy there for a day or two, but the vendor accepted our offer.

5. More lawyers
The latest commercial property I mentioned above: we had terrible trouble getting finance, and we didn’t settle on the due date. We were charged penalty interest of $18,000. For various reasons, we felt this amount of penalty interest was unfair.
On the day we were finally ready to settle, we protested the penalty interest. The vendor said “well, you pay it, or we won’t sell it to you, and we’ll put it back on the market tomorrow. Your choice”.
Our lawyer did not want us to settle, and suggested we walk away from the deal, rather than get slugged like this.
But we ate it up, went ahead with the purchase, and as already mentioned, the following month it was valued at 1.6 million. So we paid $18,000 to make $200,000. Bigger picture.

6. Accountants
Have I mentioned that I am interested in aircraft? Well, I am building some hangars at the moment. When I mentioned this to my accountant, he said “you’re not likely to make money doing that. I mean, people may as well build their own. Why would they buy one from you?” In fact, there are many good reasons why people will buy from me, rather than build their own. My accountant has never built a hangar.

So, when your expert gives you advice, you may want to ask yourself: “is this expert obscenely wealthy?” If not, then do they know everything about the topic of building wealth? Unlikely. So feel free to take their advice with a grain of salt.

Please note that I’m not telling you to assume everyone else is an idiot and ignore them. You can learn a lot from listening to other people. I’m just saying that ultimately, you have to make your own decision.

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I’ve never purchased a property without fear.

People are different. Maybe you are fearless. But I am not. Every time I make a purchase, I have a lot of doubts.

• Am I doing the right thing?
• Am I being ripped off?
• If this is a good buy, why hasn’t someone else bought it?
• Will I be able to pay the interest?
• What if I lose a tenant?
• Do I need this much debt? Wouldn’t I sleep easier if I don’t have this extra worry?

I think it’s healthy to have doubts, and to ask yourself some tough questions. These are all sensible questions to ask. If you’re not asking them, then you’re probably being reckless.

When you answer these (and more) questions honestly, you may end up discarding some properties. I had to do this recently. I got quite excited by a deal, but then when I asked some tough questions (and my business partner asked some even tougher questions), I decided not to go through with the purchase. The deal was good, but I wasn’t convinced it was the best thing to be doing with my money. So I said ‘no’.

But if you answer all these questions, and still, the deal looks good, then what? I’ve seen a lot of people who still won’t act. They get gripped by fear, and don’t act. They say things like “I’m still thinking about it” but really, if they are honest, they are afraid to act. Eventually, soemone else will come along and do the deal, then they say “oh too bad, I was quite interested in that, I guess I missed out.”

In fact, not acting is a deliberate act. It’s a cover for “I’m too frightened”, or “It looks like a good deal, but I don’t trust my judgement”, or similar. It’s a way of saying ‘no’ to a deal without having to find a good reason to say ‘no’. It’s a way of pretending to be in the game without actually being in the game. Essentially, it’s a lie.

There’s nothing wrong with saying ‘no’ to a deal. But saying ‘no’ is a very different thing to simply not acting. While it has the same end result, saying ‘no’ is more positive act, and avoids our human tendancy to kid ourselves.

There are a lot of frightening things about purchasing property. It involves large sums of money. There are the negotiations with the vendor. Emotions can run high. There are lots of official documents to sign. There are mortgages with horrible consequences if you don’t pay the interest.

Literally every property I’ve bought, I’ve asked ‘why am I doing this?’ at some point during the process. When things get complicated, or don’t go the way I want, I’ve been gripped by doubt and concerns. Somehow, at least up to now, it doesn’t seem to get much easier, even as I buy more property.

But afterwards, I’m always glad. When the rent is flowing in, I’m happy. When my equity goes up, I’m happy. In hindsight, investing in real estate has always been a very good use of my time, energy and money.

Perhaps getting past all the fear is a big enough barrier to stop most people becoming serious property investors.

How do you press on, despite your fear? Well, you’ll have to figure it out for yourself, but I’ll tell you what works for me:

1. Excitement
I revisit the numbers which excited me in the first place.
I put together a spreadsheet showing how much income I get now, and how much I’ll get after the purchase. How much equity I have now, and how much I’ll have afterwards. If it’s a good deal, these numbers are exciting to me. I examine this spreadsheet frequently during the process, to remind me, and excite me, about why I’m bothering to do this.

2. Risk Mitigation
I look at: if things went wrong, what would be the worst case? Surprisingly, it’s often not as bad as you think.
Example: I once offered an unconditional $40,000 deposit on a deal, without knowing if I could get finance. This was scary - in the worst case, if I couldn’t raise finance, and I would lose $40,000. Would that hurt? Yes, absolutely. Would I continue to live, eat and breathe? Yes, I’d still be alive, and I would still have some money. So the worst case, though bad, wasn’t the end of the world. The sky wasn’t going to fall on my head.

I look at what can go wrong and try to minimize the risk. I get a sense of peace once I feel like I know all the things that might go wrong, and what the consequence will be. If I can handle things going wrong, then I’m usually happy to proceed.

I try to recognize if I’m being hopeful. If my solution to dealing with a risk is to hope it doesn’t happen, then I’m not dealing with that risk properly. This is a warning sign to me.

If there is an outcome which I can’t accept, but I’m crossing my fingers that it won’t happen, then I have a genuine reason to fear, and it’s too dangerous to proceed.

3. Sense of Perspective
If you can, try to put your fear in some sort of perspective. It helps me to consider the bad things that can happen in the world. That might sound odd to you, but it works for me. I read a book about World War 1 recently, and I think about the horror of the British Army losing 20,000 men killed, most younger than me, in a single day on the Somme. I think about what all those men faced. Compared to them, my concerns are of very little significance. Gee, I could lose money. So what? I’ll still be alive. My dogs will still love me.
This line of thinking genuinely helps me to take action despite my fears.

Feel free to substitute some event which touches you.

4. Support
Whether it’s my wife, or a business partnership, I find it helps having other people involved in the adventure, who also care about the outcome. I doubt I would have done the deals I’ve done on my own.

Do I sound like some sort of motivational life-coach? I don’t mean to. But if you’re not growing your portfolio as fast as you would like, consider whether fear is one of the factors holding you back.

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I had a phone call today from a man representing a sports arbitrage company. His company had sent me a brochure a week earlier, and this was a follow-up.

What is sports arbitrage, you might be asking? I certainly had no idea. Arbitrage is where you take advantage of pricing differences in different markets, buying in one and selling in another, to make a profit. Ideally, the transactions happen at the same time, making a risk-free profit. Sports arbitrage is doing it by placing bets on sporting events.

It was interesting to talk to him. He asked me which sport I followed. After I named a few sports which were out-of-season or for some other reason unsuitable, he steered me towards the Australian Open Tennis, which is on as I write this. I was surprised by this; surely he needn’t have bothered finding a sport I cared about - the whole point is that you don’t have to understand the sport or the contestants, you simply look for suitable odds. He could have picked a cock-fight in some remote Vietnamese village, for all I cared.

Anyway, he found a tennis match in progress, found two suitable sets of odds in different parts of the world, and showed how he could take $1000, place a bet in each market, then end up with either $1067 or $1064, depending on the outcome (a 6.7% or 6.4% return)

Easy money, hey? Only it’s not completely straight-forward. You need access to hundreds of online betting agencies, to find the mismatching odds. You can be sure that there will be other people or companies searching for exactly the same thing. because there’s a profit to be made. Then there are technical issues with losing some money on exchange rate conversions, making sure the bets are accepted at the same time, before odds change, not to mention the upper limits to how much bookkeepers will take before changing their odds, or refusing to take more bets. Plus his company took the first 5% profit for each transaction, so the actual returns promised were pretty small.

At the end of his explanation, he invited me to hand over $8000 and start an account with them. They would take care of everything else. This is where I said no, and we ended our call.

At least arbitrage is in theory risk-free. Some investment systems I find comical. One company was trying to sell me horse-gambling software. If I diligently typed in horse data - results, odds, and so on, from all the different venues, for weeks on end, it would tell me what bets to place. I remember explaining to the sales person: “I like commercial property, because I like the safety of a legally-enforceable lease”. She countered with “but this is as safe as commercial property”. I wondered what my bank would say if I tried put up my house as a 30% deposit, and borrow 70% to bet on horse-racing, explaining that it was just as safe as commercial property, and should therefore attract the same LVR.

I know someone investing in rare artwork. He expects to make a good capital gain, and thought I might be interested. I told him that he may well be right, but that I need cashflow in the meantime. I’m not investing to get some lump some at the end. I’m investing to get cashflow now. My lifestyle depends on my investments paying me money now.

I also know people who honestly believe their best chance of getting rich is to win the lottery.

I don’t know if I attract these people, or everyone gets this: I had a consultant come around to offer me a crop of trees. I wouldn’t get to own any land, just a certain number of trees, which would be cut down in about 10 years time. I was amazed at the low return. Yes, you would double your money over 10 years, but that worked out to be a pretty low rate of return. After his presentation about trees, he moved onto a questionaire, including the question “what rate of return would you like to receive?”

I thought about this. I’ve talked about how I like to make a rapid capital gaid soon after purchasing. I like to make my deposit back in the first year, equating to a 100% return of the money I put in. I thought that sounded a bit high, so I scaled it down and said “Probably 50%”.

“OK, 15%,” he said, writing earnestly into his questionaire. “No, 50%” I said. I wasn’t trying to be boastful, but he stopped writing, and looked at me to check if I was serious. When he realized that I was, he was gone within five minutes, and never did the follow-up call that he promised.

As long as it doesn’t take up too much of my time, I enjoy hearing about opportunities. Even if I’m going to say no, I like to understand it first, so I know what I’m saying no to. When people or companies offer me ways to make money, I generally listen, because it’s interesting to hear different approaches. I see what I can learn from them, evaluate them critically, looking for flaws in systems. For example, when I asked Tree-man what happened if a storm or fire destroyed my trees, he said I would get my money back. Get my money back! I would be devastated if after 10 years I got back what I put in! Talk about going backwards.

There are so many opportunities to put your money into different things. Thus far, I’ve always come away concluding: “I prefer real estate.” To be fair, I’ve only been talking about the more unusual types of investment here. What about the stock market?

This past year, I’ve been bombarded by the media, telling me again and again how much money everyone is making in the stock market (at least until the sub-prime issue dented prices somewhat).This is OK. I would need to undergo a massive education process to do well in stocks. I don’t have the expertise. If I went in without the expertise, I would be gambling. Fundamentally, I don’t like gambling.

When you hear all these different things, it’s tempting to move around, from one investment type to another, looking for that big return. The grass does often look greener elsewhere. Alternatively, you might try to put your money into everything at the same time, trying to cash in on all market sectors,. Instead you spread your money too thin and dilute your profits.

At this point in time, and for the foreseeable future, I’m very happy with my choice to stay with real estate. If the media tells me that others are making fortunes elsewhere, good luck to them. When I worry about what other people are doing, that’s when life becomes less peaceful for me.

If you don’t have one already, the sooner you can develop a very clear strategy for wealth creation, one that you can stick with, the better.

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I’ve got a property which is eating me alive at the moment.

Last year, I sold my only residential investment property. I didn’t want any more properties which cost me money each month. From now on, I told myself, I only want properties which make me money each month. This is one of the reasons I decided to focus on commercial property.

Yet soon afterwards, I broke my own rule.

I bought a commercial property (a child-care centre) for $885 000.
I borrowed 70%, that is $619 500.
I pay approximately 8.5% interest on it, that is around $53 000 per year, to cover the mortgage.
The child-care business is leased out for $31 000 per year.

This property costs me $22 000 per year to own. Ouch! Why did I do that?

I confess that each month, when I have to cough up the interest, I ask myself the same question. It’s not comfortable, owning this property.

But I’ll tell you the reason I did it. The property sits on a big block of land, zoned as ‘Town Center’, in a bustling coastal town. The child care centre occupies around 10-15% of the block. The rest of the block is vacant, and can be turned into at least 8 residential blocks. Blocks are selling for around $170 000 each at the moment.

This means that the 8 blocks should fetch 1.3-1.4 million. It might cost a few hundred thousand to do the subdivision, so all up I should end up with at least 1 million for the blocks. That will put more than $100 000 of profit into my pocket, and leave me with a ‘free’ commercial property paying me more than $30 000 per year for the rest of my life. That will be a good outcome.

It’s a great theory. The only catch is, it’s killing me until I am able to sell those blocks. Sometimes things in property happen slower than you want, and this is one of those cases. It’s almost a year that I’ve been holding this block, and the subdivision process is moving very slowly.

So, should I have bought this property, or was it a mistake? I’m not sure. It’s a learning experience. I don’t enjoy paying out money each month. But if things go as I expect, eventually I will be very glad that I did buy it.

As I’ve said before, even mistakes can make you money, as well as give you invaluable experience. Right now, it’s hurting me. I may not buy a property like this in future, because I don’t like paying so much interest (I prefer to have a tenant who pays it for me). But I don’t regret buying it. It has been worth it for the experience alone.

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I know this is supposed to be a blog about commercial property, and I’m getting there, I promise. But I’m going to continue about the sale of our residential property (hey, I’m on a roll). It does have general lessons which are relevant to commercial investing.

We bought with the plan of subdividing one block into four. But when we did detailed research, this turned out to be a bad plan. For all the reasons I explained yesterday, the retaining costs were astronomical, and we weren’t able to make money by subdivision. The main reason we bought the property turned out to be a bad one. What a disaster!

Our greatest fear had come true. Actually, it’s a collection of fears: the fear of making a mistake; the fear of doing something stupid; the fear of losing money; the fear that the naysayers, who told us that the sky will fall down, will be right (’I told you so’).

These fears are so powerful that they keep many out of property investment altogether. This is a shame.

Since I’ve been investing, I’ve done some dumb things. Some things I should have known were dumb. Other things, I couldn’t have known were dumb until I did them (Oscar Wilde: ‘Experience is the name every one gives to their mistakes’). I’ve learnt that when things go wrong, it’s not the end of the world. I’m still alive. I still have family and friends. Even when things go terribly wrong (like, when a tenant went broke owing us more than $40,000), it is not fatal.

Making a mistake with a property deal can be painful. But open any newspaper, any day of the week, and you will see that truly, there are worse things that can happen.

As it turned out, while we held our residential property, the market went ballistic, and we made more than ten times our money. Not a bad outcome for this property ‘disaster’.

So, do your research. Do as much as you can. But more importantly, have the courage to act and make mistakes. Otherwise, nothing will happen.

I was given a dictionary of quotations for Christmas, so if you’ll indulge me quoting General David Shoup: ‘The galleries are full of critics. They play no ball, they fight no fights. They make no mistakes because they attempt nothing. Down in the arena are the doers. They make mistakes because they try many things. The man who makes no mistakes lacks boldness and the spirit of adventure. He is the one who never tries anything. His is the brake on the wheel of progress. And yet it cannot be truly said he makes no mistakes, because his biggest mistake is the very fact that he tries nothing, does nothing, except criticize those who do things.’

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