Six Lessons Learned with $2.8 Billion of Real Estate During COVID
Jillian Helman of RealtyMogul was one of the speakers featured at this year’s Best Ever Conference. RealtyMogul has purchased over $2.8 billion in real estate. In her presentation, she outlined the top lessons she learned managing a massive portfolio of properties during the COVID-induced economic recession.
Lesson #1. Play defense before an economic crisis, not during a crisis
The first lesson is to make the proper preparations before an economic crisis occurs. Investors who are typically affected the most by economic recessions were too aggressive during periods of economic expansion.
The single most important defensive tactic to implement prior to a recession is conservative underwriting. Do not do deals that fail to meet your underwriting criteria. Do not make aggressive revenue growth assumptions based on historical natural appreciation trends or forecast reports. Do not assume a cap rate at exit that is equal to or less than the cap rate at purchase.
Two other defensive tactics Jillian follows prior to economic crises are having a strong property management team in place and having open conversations with lenders to ensure they pick up the phone during a recession.
Lesson #2. The proforma is always wrong
Not only is the proforma provided by the listing broker incorrect, but your yearly income and expense budget is also always wrong. Prior to submitting an offer on an opportunity, you must make a lot of underwriting assumptions. Many of these assumptions are confirmed or adjusted during the due diligence phase. However, there are always unknowns, which means your proforma is never 100% accurate.
Therefore, when creating your proforma for a new investment, Jillian recommends the following:
First, have a minimum contingency budget of at least 10%. For example, if you expect to invest $10,000 per unit, include a contingency budget of at least $1,000 per unit.
Second, scale back the number of units you expect to renovate and lease. Have a conversation with your property management company (or whoever is overseeing the renovations) to set a timeline they can stick to and assume an even more conservative one.
Third, assume an exit cap rate that is 1% greater than the cap rate at purchase. In doing so, you are assuming the market will be worse off at sale than at purchase. If it improves, great. You will exceed your return projections. However, if there is an economic crisis, you have already taken that into consideration in your underwriting.
Last, do a sensitivity analysis. In a sensitivity analysis, you vary certain metrics to determine how it affects the returns. For example, if you increase stabilized vacancy or bad debt (two metrics that change during recessions), does the deal still meet your investment criteria?
Lesson #3. Take a breath and be deliberate
No matter how much preparation and defense you play prior to an economic crisis, it is still a stressful experience once one occurs. That is why it is important to relax, determine what your top priorities are, and focus on those.
During COVID, Jillian’s top priorities have been the health and safety of the residents and her team, keeping occupancy up, and shoring up cash reserves. This involved taking a deep breath and deliberating to determine how to best focus on these priorities. For example, she decided to halt renovations, rent increases, and all nonessential repairs to shore up cash reserves and maintain occupancy.
Lesson #4. Don’t be afraid to innovate
Economic crises almost always require quick changes and adjustments to acquisition and asset management strategies. The COVID-induced crisis is no different.
The greatest change for most investors because of COVID has been the use of technology to show units to prospective residents. For example, Jillian (and many others) began using virtual, self-guided tours. Here is a blog post with a few other uses of technology in multifamily investing that are currently being used.
The point is that oftentimes changing your investing strategy is required during recessions.
Lesson #5. Do experiments and test the market
When innovating and making changes, experiment with different strategies to see what works best.
In the example above where Jillian experimented with virtual tours, the conversion rate was higher than in-person tours with a leasing agent. Since the experiment worked, she doubled down.
Therefore, double down on innovations that work, and quickly stop experiments that don’t.
Lesson #6. Be a stellar communicator
During periods of economic expansion, it is possible that many investors never reach out. If they receive their distributions in the right amount and on-time, they are happy. However, even if the distributions aren’t affected, expect more investors to feel concerned during a recession.
To proactively address these concerns, consistent communication is key. Jillian transitioned from quarterly updates to monthly updates. In these updates, she included steps they were taking to proactively address any operational challenges, like dips in occupancy or collections. She also expressed their availability to investors who had any questions or concerns.
You should strive to be a stellar communicator all the time, but even more so during economic crises.
Lessons Learned During COVID
Most of the work required to survive an economic crisis happens during the previous period of economic expansion. This starts and ends with conservative underwriting.
Once the crisis hits, take a breath and determine your priorities. If change is required, test different strategies and double down on what works. Also, make sure your passive investors are top of mind and keep them in the loop on what you are doing to conserve their capital.
Disclaimer: The views and opinions expressed in this blog post are provided for informational purposes only, and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.