Article I

 

Business Lessons that Almost Drove Me Out of Business.

          By Vena Jones-Cox

            You might be an entrepreneur if you’re a whole lot more interested in making money than you are in understanding it.

            You might be an entrepreneur if you find yourself jumping from project to project and strategy to strategy, leaving the last behind not because it didn’t make money, but because it’s not as interesting as the next shining star.

            And you might be an entrepreneur if the mechanics of your business—the bookkeeping, paperwork, filing, and tracking your key performance indicators—is so completely boring to you that you just never bother. After all, as long as there’s money in the account at the end of the week, all’s well, right?

            You might very well be an entrepreneur. Most real estate investors are. And much of your entrepreneurial character—the love of new projects, the excitement about constantly growing your business, and the willingness to take intelligent risks—will serve you well in real estate.

            Being an entrepreneur is lots of fun. But it’s not the same thing as being a business person—and if you really want to grow a business that can ultimately run without your constant day-to-day involvement, you’d better spend some serious energy quashing your hatred of the stuff business people have to do, and do it anyway.

            Ask me how I know.

            You see, I have no business background whatsoever. My job history includes selling retail clothing (for a boss who was so tight with actual information about the business that I never had a clue how it worked); doing data entry for a medical lab (at a university, where the idea of running anything like a business is anathema), and working in real estate acquisitions and management for my father (who was the stereotypical entrepreneur, so buried in the day to day of the business that he had truly morphed into a mom-and-pop, or maybe just pop, landlord).

            In college, I took an accounting class. I remember that my reaction to the course work was, “Thank God I’m never going to have to mess with THIS—I’M going to own my own business!”.

            Like many of you, I got into real estate for 3 main reasons: first, it promised much larger profits than any job my sociology degree qualified me for. Second, it was exciting. Third, working at home and setting my own hours was extremely appealing.

            What no one told me was that there would be SO much potential profit and SO many potential deals and SO much to do that I’d eventually end up working 14-16 hours a day, 7 days a week, just to grab and get control of all the opportunities I’d be presented with. No one mentioned that I should be thinking, right from the beginning, about how to build a business around my day to day activities, so that pieces of it could be delegated to others when the time was right. And in all the thousands of hours I’ve sat in seminars or reading books or listening to CDs (Ok, to be more accurate, they were audio tapes way back then), I never heard ANYONE talk about exactly how that might work or how I could prepare.

            And now, countless years later, I’m STILL struggling to overcome my early training and get hold of the “business” of my real estate business.

            If I could go back in time 20 years and tell my new-investor self that this was going to be a problem, I’m not sure I would believe me. But I hope you will, because when you become “successful”, in the sense of lots of deals and money coming in and lots of stuff going on, it’s much harder to step away and put this stuff into effect than it is to plan it from day 1. I know, I know, you’re thinking, “I WISH I had those problems…” but eventually you will. So listen up.

Harsh Business Lesson #1: Employees are Always Cheaper than Partners.

            Note to my partners Jim and Drew, who are no doubt reading this with great interest: I don’t mean either of you, of course.

            Your first reaction to the overwhelming amount of work that your business is likely to eventually generate might be to bring on a partner—or you may take one on long before that point, just because you’re scared and want someone to take on the risk with you. I know I did, several times, and were I to do it all over again, I’d make very different decisions.

            When I say “partner”, the person I’m talking about is the one who’s supposed to split the WORK with you. A money partner, who funds a deal while you do the actual work, is a different character in the real estate script altogether.

            The problems with these “split the work: partners are multi-fold. First of all, they are usually brought on for emotional, not logical, reasons. You want a partner because you’re afraid of moving forward alone, or because you like the individual and want to share your success with him. These are two REALLY bad reasons to give away half your profits.

            Second, I have NEVER seen a happy, long-term partnership in real estate, save for the occasional husband/wife team. No matter which partner I’m talking to, they tell me that the OTHER person isn’t carrying his weight, or is a bottleneck to every deal, or whatever the case may be. Most real estate partnerships eventually split up, often violently, leaving both partners pointing fingers and laying blame. So before you bring your best friend, or brother-in-law, or college buddy, on board as a partner, think about this: how important is it to you that this person to stay in your life in the long term? If the answer is, “very”, don’t do business together.

            Third, partners can’t be fired. If you really ARE the person who’s shouldering most of the burdens of your business, I can guarantee you that your partner will be perfectly content to have that go on indefinitely. In fact, he’ll probably be aggressively AGAINST the partnership breaking up—and if he’s a friend or family member, as above, might very well use emotional blackmail (“I know I haven’t been doing everything I should in the past couple of months, but you know how my life at home is, plus I’ve got this leg injury, just give me a couple of weeks and I’ll straighten up, you know I’ve got your back”) to keep things going. Ultimately, in order to fire a partner, you’ve got to end your business and start another one—and figure out how to split up the debt, equity, leads, private lenders, buyers, etc. when you do. Not fun. Trust me.

            Finally, partners are unnecessary. Whatever work you’re contemplating having a partner do can be done better (and more within your control) by someone that you can FIRE if they don’t do their job. That person is called an employee, and, especially now, he’s really, really easy to find. Not ready for an employee? Get a virtual assistant or a contractor or a piece of software that can do what you can’t. It’s a whole lot cheaper both psychologically and financially to hire a salesperson or bookkeeper or acquisitions coordinator or phone answerer or property manager or file clerk or ALL OF THE ABOVE, for that matter, than it is to give away half your profits.

            Some of you are saying to yourself, “I’m sorry she had a bad experience, but I know that MY best friend would never do this, and even if she did, we’d still be friends afterward, ‘cause we just love each other so much.” Fine. Do what you need to do, but AT LEAST take this advice: if you still insist on having a partner (or it’s a done deal already), plan UP FRONT for the eventual demise of the partnership.

            Make sure the operating agreement of your LLC or Corporation (you DO have an LLC or corporation, right??) clearly spells out a buy/sell agreement that can be triggered by either partner. These usually say something like, one partner makes an offer under which he will either buy or sell his shares, and the other partner gets to decide whether he’s buying or selling.

            Also, make sure that the activities of the company are clearly defined. Just because you’ve agreed with your partner that you’ll wholesale together doesn’t necessarily mean that he gets a part of your rental business. And, on the flip side, it should be agreed to in writing whether either person can do deals in the same field outside the partnership. My apartment partner and I have a deal that basically says, all apartment buildings that either of us find must be brought to the partnership. If either of us doesn’t want to do a particular deal, the other can do it on his/her own.

            Vena Jones-Cox and Missy McCall Hammonds have created a seminar on how to “E-Myth” you business. You can learn more about it at regoddess.com or at our May 2010 meeting!

ARTICLE II

 

Harsh Business Lessons II: How Overhead will Eat You Alive

            Here’s how most real estate investors figure profit on a deal.

o       I got a house under contract for $70,000.

o       I found a buyer who gave me $10,000 as a flip fee.

o       Therefore, I made $10,000 on that deal. Yay me.

Or:

o       I own a house with a $990 PITI payment.

o       It rents for $1200/mo.

o       Therefore, that house cash flows $210/mo. Yay me.

            Now, you don’t realize this, but ya’ll just divided yourself into two distinct groups—the “numbers people”, who are thinking, “wait, there are expenses missing here”, and the entrepreuers, who are thinking “awesome, how can I make $10,000 5 times a month!”.

            I, by nature, fall squarely into the second category.

            I’m not stupid; I’ve known from pretty early on in my real estate career that the profit from a particular deal had to somehow be offset miscellaneous expenses generated by that deal. But what I completely missed until recently was that there are expenses related to the business of real estate. And although they tend to be small amounts spread over the course of the year, they can easily add up to 15% or more of your GROSS—not NET—profits.

            Let me give you a simple example.

            You flip your very first deal for a $10,000 GROSS profit.

            You know that you sent out 1,000 postcards, at a cost of $300, to generate the calls that led to that deal. Because it’s your first, you don’t have to spread this expense out over several deals; you know that you netted $9,700 from THAT deal.

            You also know that you invested $700 in an awesome homestudy course from www.REGoddess.com to learn how to do the deal in the first place. Since it’s your first, you know that you netted $9,000 after all expenses on that deal.

            Everyone can do this math; the $1,000 you spent to flip that house are operating expenses that are easy to get a grip on. Where the numbers get slippery is here:

            You also subscribed to a comping service so that you could figure out the value of properties. This service costs $40 a month—whether or not you do a deal that month.

            You also drove 120 miles looking at 4 different properties to find the one that became a deal. I bet you didn’t even track your milage—especially since you stopped at the drug store, drycleaners, grocery store, and your kid’s school while driving around looking at houses. But you put an additional 120 miles on your car, paid for the gas, and so on. The IRS allows $.55 /mile for this, so let’s say your real (though invisible) expense was $66, or .66% overhead

            You also ordered a termite inspection at a cost of $60, then forgot to send the bill to the title company before the closing, and had to pay for it yourself. You don’t count this, because you figure it was a mistake and will never happen again, but it still represented .6% in overhead.

            You also used up 100 sheets of paper printing comps and offers (‘cause it’s your first deal, and you re-calculated and re-wrote the offers 3 times each). At $.025 each PLUS the ink and wear and tear on your printer, you could be talking about $3 worth of printing, or .03% overhead.

            You also used your computer for an extra 5 hours, and burned the lights in your home office for an extra 5 hours, and and and…and all the little $5 and $10 costs that you can’t actually get hold of.

            Yes, this is a ridiculously simplified example. But with a little help from my much-more-mathmatically-inclined friends, I recently discovered that the overhead on my flipping business is—are you ready for this?—16.4% of the gross profits.

            Let me make sure you understand what this means to a deal.

            It means that after all the expenses that can be directly attributed to generating deals—which includes my acquisition coordinator’s 15% commission, his dedicated cell phone, the printing and postage for marketing, any ads in the paper, and so on, there is ANOTHER 16.4% in expenses that have to be accounted for before I can say that the deal made a profit.

            Now, my overhead expenses are higher than many of yours will be. I have an office with its own utilities, taxes, repair costs, and mortgage interest. But some of my overhead expenses are they same as yours—my personal cell phone, which is used about 40% for real estate-related expenses, my milage and wear and tear on my car, the cost of office supplies and wear and tear on office equipment, and so on.

            So you, like me, might now be saying, “So what? It all gets paid, and at the end of the year, my accountant tells me how much the whole business made so it’s all good.”

            Well, yes and no. Here’s the thing: unaccounted-for overhead doesn’t get treated correctly by you OR your tax person. If you don’t track your mileage and have your business reimburse you for it, you don’t get to write it off. If you don’t have your business pay (a reasonable) part of your personal cell bill, you don’t get to write it off. And what’s even worse is THIS tendancy—

            You earn $10,000 from your wholesale deal. You already know that you spent $1,000 to get it, so you take $9,000 out of the deal and go spend it on bills, or more courses, or a vacation, or a downpayment on a property or whatever, and then…you find yourself with a serious cash flow problem. Because the next month, you STILL have your $40 comping service subscription, and the extra printing and wear and tear and so on, and you still have to pay for it even if you don’t do a deal that month. In other words, you MUST set aside overhead expenses, or you’ll find yourself in a world of hurt. Go ahead, ask me how I know.

            Here’s how this lack of understanding almost killed my business.

            Remember those partners I encouraged you NOT to get last week? Well, do as I say, not as I do, ‘cause I have one. And for many years—like 20—we operated under the “get the check, pay the bills, split the rest” theory of partnership. The operating expenses for the wholesale business as well as the rental business, education business, and so on, were all paid by my management company, and were not divided amongst the various businesses that actually share the office space, staff, equipment, and so on. So a typical wholesale deal looked like this:

            Gross profit: $10,000

            Acquisition coordinator fee: $1500

            Marketing expenses: $500

            Other direct expenses: $100

            Net “Profit”: $7,900

 

            Partner’s “half”: $3950

            My “half”: $3950

 

            Unrecognized 16.4% overhead, paid for by MY company: $1640

            My real “half”: $2,310

 

            If you’ve taken my advice and NOT gotten a partner, good for you. But your problem will remain the same—you’ll PERSONALLY pay expenses that your BUSINESS should be paying. And what’s more, if you don’t recognize and account for the overhead in your real estate business, you’ll find yourself putting those expenses on credit cards, shuffling money from one part of your business (maybe wholesaling) to another (perhaps rentals) to pay the bills, and other things that are uncomfortable at best and just plain bad at worst.

 

            Moral of this story, for the advanced investor: spend some time figuring out your overhead, and start applying it to your gross profits and banking it immediately. Moral for the new investor: you don’t know what your overhead is yet, so apply a generous number—say, 10%--to the gross profit from each deal. Sock it away and don’t touch it except to pay for expenses you haven’t yet recognized. If you spend all of your “profits”, you’ll wonder why you’re constantly struggling to meet the business’s bills, even though you’re making plenty of money.

Vena Jones-Cox and Missy McCall Hammonds have created a seminar on how to “E-Myth” your business. You can learn more about it at regoddess.com or at our May 2010 meeting!

ARTICLE III

 

Why You Need Key Performance Indicators

By Vena Jones-Cox

 

            I recently discovered (while going through my very complicated quickbooks with a fine-toothed comb to discover the “overhead” discussed previously), that I’ve been paying too much attention to the top line and not enough to the bottom line.

 

As entrepreneurs, what attracts us most is the next deal, the next strategy, the next expansion—not the way that our numbers are tracking over time. At the beginning of our real estate careers, we get certain statistics stuck in our heads, like, “I have to send out 600 postcards to get 20 calls to make 1 deal”, or “It takes about 4 weeks to rent a vacancy”, and we proceed, much to our own detriment,  as if these numbers were gospel. So when those figures change—like the rental market takes a nosedive and it’s taking 12 weeks instead of 4 to rent a unit—we don’t notice until we’re in financial trouble and it’s too late to do anything about it.

 

The only way you’ll ever know whether your real estate business is on its way to achieving the goals you’ve set for it is by defining and measuring Key Performance Indicators, or KPIs.

 

KPIs are simply quantifiable metrics that help you to understand the direction in which various parts of your business are headed. You choose which indicators to measure and track based on the nature of your business and of your goals. Some KPIs are financial—like how much money, on average, you make per wholesale deal. Some are non-financial—like how many days, on average, it takes you to complete a rehab.

 

Measuring and tracking KPIs is one of those, “great idea, I’ll be sure to do it later” tasks, kinda like writing a will. And like writing a will, if you wait until you really NEED to do it, it’s too late. Without understanding the key numbers in your business, you have no way of improving them. You have no way of knowing when your formerly-successful strategy is beginning to fail for reasons beyond your control, like the market or the availability of financing or increased competition.

 

If you don’t know how many days, on average, it takes you to rent a house or flip a deal, you don’t know if the things you’re trying to decrease that number are working or not. If you don’t know the average, you don’t recognize when the number of day is going UP, costing you money and requiring extra measures on your part to move properties off the market. If you aren’t measuring it, you can’t improve it.

 

            KPIs vary from business to business depending on your strategy, your goals, and which numbers YOU believe are most critical for your success. You can’t track everything (well, you can, but it’s boring and unnecessary), but here are some examples of the kinds of KPIs you might be looking for:

 

· Marketing

o       Response percentage for direct mail campaigns (number of leads/number of pieces mailed)

o       Response percentage per mailing within a single campaign (what percentage of the overall leads responds after the 1st mailing, 2nd mailing, etc.)

o       Closing percentage for direct mail campaigns (number of closed deals/number of leads)

o       Cost per lead for shotgun marketing

o       Cost per lead for direct mail

 

· Buying

o       Calls needed to make 1 appointment (should be done separately for each type of marketing)

o       Calls needed to make 1 deal (“”)

o       Appointments needed to make 1 deal

o       Offers needed to make 1 deal

o       Days from offer to closing

o       Average cost to close

o       Average percentage of offer to asking price—all offers (most useful in MLS properties)

o       Average percentage of offer to asking price—accepted offers (most useful in MLS properties)

 

· Wholesaling

o       Average days from accepted offer to assignment agreement

o       Average days from assignment agreement to close

o       Average number of buyers you must call to get a showing

o       Average number of buyers you must call to get an offer

o       Average gross profit per deal

o       Average net profit per deal

 

· Retailing

o       Days to complete work

o       Days from completion of work to offer

o       Days from offer to sale

o       Holding cost per day

o       Average rehab budget overrun/shortfall

o       Average profit

§         As a dollar figure

§         As a percentage of ARV

§         As a percentage of repair costs

§         As a percentage of what you thought you’d make

o       Average sales cost

§         As a dollar figure

§         As a percentage of ARV

 

· Rentals & Lease/options

o       Days from vacancy or purchase to rent-ready

o       Days from rent-ready to collection of deposit/1st month’s rent

o       Holding costs per day

o       Average turnover costs

o       Average advertising costs

o       Days of vacancy per year

§         For units of various sizes

o       Percentage of rents collected

o       Percentage of rents collected on time

o       Collection accounts

o       Percentage of collection accounts paid

o       True net cash flow

o       Option fee collected as a percentage of sale price

o       Percentage of options exercised

o       Percentage of options exercised on time

o       Cost per sale when option is exercised

§         As a dollar figure

§         As a percentage of sale price

 

· General

o       Cash balance

o       Reserve account balance

o       Accounts payable (0-30-60-90 days overdue)

o       Outstanding unsecured credit

 

How to Collect Data for KPIs

 

Key Performance Indicators can be a very, very valuable way to analyze your business—but only if you can trust the data that goes into the figures in the first place. Recordkeeping becomes a key task in your business (and deserves a line in each of your systems that apply to your KPIs) when you get serious about finding out where you are.

 

For instance, let’s say you’re tracking a performance indicator of cost per lead. The calculation would seem fairly straightforward: each week (or month, or whatever period you choose), you gather the data about how much money you spent on advertising and mail and divide it by the number of leads you received that month. It’s not a perfect number—some of last month’s advertising might have led to some of this month’s leads—but averaged over time, it should be correct…ASSUMING that the information on which you are basing your numbers is right!

 

What often happens in small businesses is that recordkeeping is considered secondary to making money, and is largely ignored until tax time or until the piles of paper become an actual avalanche risk. As a result, the newspaper ad bill gets entered into the accounting program as “advertising”, even though it includes a charge for the “I buy houses ad”, a charge for an apartment for rent ad, and a charge for a house for sale ad. We figure we’ll go back through and put it in correctly at tax time, but for right now the check just needs to be written.

 

At the same time, the only way lead responses are being tracked is via the “lead sheets” that you fill out when a seller calls. They’re supposed to be kept in a particular file in your office, but sometimes you return seller calls at home or in the car, so some lead sheets are MIA, some get coffee spilled on them and are illegible, and sometimes you just keep forgetting to bring them into the office.

 

The result of all this is that your KPI of cost per deal is useless both as a benchmark and a comparison. You’ve calculated cost per lead using a cost number that’s too high and a lead number that’s too low. So next month, when you’ve got your numbers straight, it appears that your cost per lead has dropped significantly, and you pat yourself on the back—for nothing.

 

What to Do with Your KPIs

 

            Key performance indicators show you where your business is in regards to the critical factors you’ve picked out. But absent some sort of comparison, they only tell you where you ARE, not where you’re headed.

 

            In some cases, you’ll have a goal for where you’d like your key performance to be. For instance, you might have a goal of consistent 95% on-time rent collection. Each month as you measure your on-time rent collection, you can see whether you’re getting closer or farther away from that goal, and make improvements and amendments to your systems to get closer to that goal number.

 

            In other cases, especially as you get started, you won’t know what a reasonable goal is, and you won’t have any historical data to give you a ballpark figure. For instance, you may know that some guru told you that you should make at least $5,000 on a wholesale deal, but you don’t know what you should really shoot for in your particular market. This is an example of a time where inquiries into other people’s businesses comes in handy—if you ask enough local wholesalers what they make per deal, on the average, you’ll be able to come up with a median profit that should work in your business.

 

            In most cases, though, the point of studying your Key Indicators is simply to improve them over time. That’s why you need to measure the same indicators all the time, and not measure indicator A one month and indicator B the next.

 

If you know what the numbers were in the past, what they are now, and what you’d like them to be in the future, you’ll notice any systems failures that affect your KPIs before they become major problems…and you can work on constantly improving the efficiency and bottom line of your business.

 

Vena Jones-Cox and Missy McCall Hammonds have created a seminar on how to “E-Myth” your business. You can learn more about it at regoddess.com or at our May 2010 meeting!