Joe is responsible for directing the financial and fiscal management of company Operations, including budgeting, treasury, tax, accounting, information technology, risk management and insurance. Prior to joining MG, Joe was the CFO and Director of Development with ColRich, a diversified privately held Real Estate company, specializing in Apartment investment, ownership, construction and management (9,400 units), land development and home building in the Western U.S. Joe’s real estate experience also includes being the COO/CFO of Florsheim Homes, a Northern California based homebuilder/developer, with operations in CA and NV, from 2006 – 2011.
Joe was also the CFO for Shea Homes San Diego from 2001-2006 and worked for the international firm Deloitte & Touche. Joe earned his BBA in Accounting and MBA from the University of San Diego. Joe is a Certified Public Accountant, in addition to possessing a California Real Estate Brokers and General Contractors License. Recognized as an industry expert, Joe has had numerous appearances on CNBC television, discussing the housing and real estate markets.
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Tyler Stewart – All opinions expressed by Adam, Tyler and podcast guests are solely their own opinions and do not reflect the opinion of RealCrowd. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. To gain a better understanding of the risks associated with commercial real estate investing, please consult your advisors. Hey, listeners, Tyler here. Before we start today’s episode, I wanted to quickly remind you to head to realcrowduniversity.com to enroll into our free six week course on the fundamentals behind commercial real estate investing. That’s realcrowduniversity.com. Thanks.
Adam Hooper – Hey, Tyler.
Tyler Stewart – Hey, Adam, how are you today?
Adam Hooper – We’re kicking off season three. It’s a great day. It is exciting. We’re bringing on a powerhouse today.
Tyler Stewart – We did, Joe Anfuso from MG Properties Group.
Adam Hooper – Joe’s the CFO of MG Properties. Most of our listeners out there are familiar with our episodes of Paul Kaseburg. We couldn’t get enough of those guys and so we brought Joe on to see if he can follow the light that Paul has painted and knock out some stuff today on how to become a student of the pro-forma.
Tyler Stewart – It’s a high-pressure situation for Joe and–
Adam Hooper – He delivered.
Tyler Stewart – He delivered. This was, I can’t think of a better episode to start season three with.
Adam Hooper – We talked about his transition from his first career into what he does today in the real estate space. How he got into teaching a university course, and then again how to kind of peel back some of those layers of the pro-forma and get to, which I think kind of worked out pretty well. We went down a tangent there of how to read the pro-forma like a story.
Tyler Stewart – That was an analogy I haven’t heard before and it was incredible.
Adam Hooper – It worked.
Tyler Stewart – I’m still trying to get my brain wrapped around it how simple Joe made commercial real estate seem.
Adam Hooper – A lot of really good info in this one. I know we say that a bunch. I don’t know if we need to say something else, but I feel like it’s true.
Tyler Stewart – This is a good one.
Adam Hooper – It’s good stuff. He is a big proponent of keeping it simple. We talked about how the pro-forma is built, how to stress test, how to read some of these assumptions, and at the end we talked about some great resources that he recommends for people who are interested in learning more and kind of keeping tabs on what’s going on in the space, so we’ll have all those down in the show notes, definitely check those out. We always appreciate those ratings and reviews, so if you want to pop on over to iTunes or Google Play or SoundCloud or Spotify, wherever you listen to us, we appreciate the ratings, reviews. As always, if you have questions, send us a note to email@example.com. With that, let’s get to it.
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Adam Hooper – Well, Joe, thanks for joining us on the podcast today. I know we’ve talked a lot in the past and we’ve talked about this show for a while, so we’re grateful we can have you on to spread some knowledge today.
Joe Anfuso – Thank you. I’m very excited. I’ve been a listener and just ready to contribute something.
Adam Hooper – Perfect. Why don’t we take a step back and tell us a little bit about your career, how you got into real estate, what you currently do with MG, who again, we’ve had Paul on many shows. I know our podcast listeners have loved those episodes. He set a pretty high bar for you today Joe from the MG stable. Why don’t you tell us bit about your background, what you’re currently doing with MG and then we can dig in.
Joe Anfuso – Paul is a tough guy to follow. My story is actually, its a little bit ironic and you know it’s a good old American story. I am the son of a commercial fisherman and I was born and raised here in San Diego on Point Loma and so the irony is, I was born and raised on the water. I left college with a commercial tuna fish farming with my family, didn’t know if I was ever going to go back to college. I was the first one that went and you know you spend all that time on the water as born and raised on the ocean and so forth. As I was growing up, I thought that people that only made money were fishermen. They seemed to make good money and didn’t know a lot about other people. I say you go through life and other people I saw that were doing well always seemed around real estate in San Diego at that time and San Diego’s real estate was booming, people either were selling real estate, or you’re building a home or building an apartment or an office building and so forth and so on and so I always had kind of an interesting thought that if I get out of the fishing business, real estate might be something I’ll do and so I went on into college and then went into public accounting, I concentrated, I cut my teeth really on real estate and mortgage banking were kind of the two areas and I learned a little bit about mortgage finance and real estate finance. That’s kind of how I got started in being in real estate and then you fast forward now, I’m the CFO of MG.
Joe Anfuso – MG Properties were as Paul said were a private real estate owned operative of about 20,000 units here in the up and down the west. I oversee the accounting, we have our own in house tax department, corporate accounting, property accounting and then the IT guys or IT team reports to me. It’s overall a long term I kind of oversee all the accounting, financery and so forth.
Adam Hooper – Originally it was the attraction to seeing what was going on in the space that got you interested and then did you just fall in love with the… Real estate is a pretty broad industry to go from knowing nothing about it to this progression to CFO of some pretty large companies. What was it about that aspect of it that really drew you in?
Joe Anfuso – I was always fascinated with the investment. You have real estate in its core, cash coming in and cash going out and I was always fascinated about how you own something and then you get paid for it or you build something and you get paid for it. To me that was contrary to everything I had learned about how people made money with going on the ocean, spending nine months out there during the year, you bring home fish and get paid for it. This is like if I’m going to stay home, that seems like something that works well.h at’s kind of how it started and then you just start to learn overtime from the accounting stamp point being public accounting and learning a little bit and then you know one thing progresses over time and then you just kind of delve into it. I have a bunch of initials that my mom can brag to her friends about and I’ve gone through a bunch of different, you know gone through companies and different transactions and so forth and you just you know with age comes wisdom and that’s kind of hopefully where I am at now.
Adam Hooper – Now that you get paid for owning the real estate you can fish for fun right?
Joe Anfuso – Right. Now it’s a hobby.
Adam Hooper – One of the things that we want to touch on today and we kind of teasing in the intro here is your role with now making that next transition to an educator, teaching this next generation and what we want to talk about today is kind of how to be a better student of real estate. Tell us a little bit about how that transition went from operating into this teaching role that you’re now doing as well.
Joe Anfuso – Well, it was always a little bit of luck, a little bit of timing and then a little bit of desperation and I’ll say that on the university’s part. I’ve been a member of Burnham-Moores Center for Real Estate here in San Diego for 15, 16 years now. The Burnham-Moores center is simply a real estate think tank or advisory board that’s attached to The University of San Diego’s real estate program. It was started by a man named Mark Riedy. It’s now run by a gentleman who’s doing a great job, Stath Karras and he’s the guy that runs the program is a gentleman by the name of Charles Tu really the academic advisor. And about this time last year, almost exactly this time last year, I got an email from Charles. They were kind of in a pinch with a one teacher going on sabbatical and another one had quit, the person they thought they had hired reneged at the last minute and they needed somebody to teach a commercial real estate finance and investment class. I got that and we’re lucky enough our principal, our owner, Mark Lieberman, we talked about it, said an opportunity to come up. He knows I’m one of those old salty dogs, to use a fishing term and I’m here early in the morning, you’ll put in enough time and he said, “You know, if it’s something you think you’d enjoy, something you think would be good…” We’re a big benefactor to the Burnham-Moore Center as well and so it worked out. I first should say really if there’s any really good professors and academics out there, let me apologize because I’m not going to be one of you, right.
Joe Anfuso – This was a last minute, hair on fire. Try to figure out what you’re going to do. I was given an outline, said this is what you need to cover during the course of the year, we’re here to help in any way you can. I took the approach that I’m sure a lot of the academics don’t get the chance and that is you having all the connections of being in the business for a long time. I did what any good manager does and that was I delegated and I had my class, every class I brought in, everybody that I could think of to help. If the subject was taxes I brought in our tax accountant. If the subject was REITs, I brought in the partner from EY to talk about REITs. If it was capital markets, I brought in CBRE’s capital markets guy. I brought in Paul Kaseburg. I brought in everybody that I can think of that would help the students on each one of the items that I was supposed to be covering during the course of the year. Truth be told, the podcast was a lot of homework for the students. As I’m listening to podcasts, a lot of what you guys cover on a weekly basis or how many times a month really does go into what the young people today need to know and so it was always great like a Mitch Rochelle or somebody that they can listen to and get really some good information. I would be able to use that in and to be honest, it was an easy way to get quiz information and so forth and so we can listen to the podcast and get them relevant on information and move from there.
Joe Anfuso – That’s kind of how it started. We’re kind of working on what the next transition is going to to be regard to the next semesters and so forth because it’s difficult to be the CFO of a group like ours when we are at a fast approaching a four billion dollar portfolio and then find the time to take a few hours out of your day, a couple times a week to go teach a class. We’re trying to figure out the best for both of us, but it’s definitely something I’ll be doing over time and over the future because it is invigorating to be around young people. That’s how I got there.
Tyler Stewart – That’s great. I’m curious, what lessons did you personally learn going through the teaching process?
Joe Anfuso – First it was getting that thrill back of we all grow up and now we’re hardened by life. It’s great to talk to young people. They’re not jaded by bad deals, bad people, bad politics. They’re just like sponges that want to learn from people who know what they’re doing. For me the thrill was you could have discussions and there’s no boundaries, right? There’s your teaching young people. The second thing, which I told them in class all the time was I think they’re on the cutting edge of a new golden age of real estate coming in the future because of technological changes that they are going to understand better than anybody. You look into the future and I go to conferences and The National Association of Home Builders, Optech conference and things like that. You see what’s coming down the pike and young people are going to be able just to adapt so well to the changing needs of, real estate professionals. I just told them keep up with what you’re doing, learn the craft, but you guys are going to to be way ahead when you step out. Truth be told, we ended up hiring one person as a Business Analyst out of my class. I ended up being a recruiting vehicle for us.
Joe Anfuso – We had another Financial Analyst that we brought in as a full time intern. Those are the kinds of things that I think for me that was my impression was just that reinvigoration of just taking a step back, remembering, 25, 30 years ago when you get started in this business and you don’t have any of those preconceived notions that you have over time.
Adam Hooper – The technology component you touched on there is something we’ve talked about a bit on the podcast our industry was so slow to adopt to a lot of this technology that other financial services industries have completely leveraged and taken advantage of and it feels like the pendulum is starting to swing the other way, especially as we have some of these younger practitioners getting into the space, coming into roles of decision makers and where they can control some of those technology uses. I agree with you. We’re on the very front end of a massive wave of technology coming to our industry and practitioners having the knowledge and the willingness to really embrace that. So it’s exciting for us to see just how the landscape has changed with the last several years. And we’re really excited too to see how that continues to progress.
Joe Anfuso – I agree 100%. Think about even a company like us, you have operations and just go back over the history of how we have about 550 employees. We have our own in house property management company and for years property management companies worked under where you start as a leasing agent. If you were good at a leasing agent maybe became an assistant manager and then you became a manager and then you became a regional manager if you’re a really good. All those kinds of things. What you’re doing as a leasing agent, maybe that’s not the way you become a manager or a regional manager anymore. The technological changes of what those positions can do or one’s a customer service person, one is really a business analyst and how that dynamic is going to change how we approach property management because at the end of the day they’re there to ensure the integrity of the assets and improve the performance of the asset and overtime that technological change is going to allow different personnel to get in different roles to enhance that. I see that as these are going to be big changes that are going to come over the next five and 10 years that it’s just going to to be dynamic.
Adam Hooper – Perfect. Well, let’s start this transition then into learning and what it takes to be a good student, an intelligent real estate investors. You mentioned that spark, that enthusiasm, that genuine curiosity before we get on in our careers and become jaded. What are some of those key things that our listeners out there that are maybe first time investors in this space or are trying to learn more about how to become a good real estate investor, what are some qualities that you’ve seen that give somebody that edge or give them that right mentality to become a student of this industry?
Joe Anfuso – When I’m thinking about the people that I’ve seen that have done well, I kind of hearken back to remember when we were all in school and we had that one class or a couple of classes we did well in. What did it take for us to become or do well in certain classes? Maybe it was History, maybe it was Science, Math, whatever it was, but those same qualities you see in good investors. One, first you have to go to class and by this I mean you have to be present. You have to know and be aware of what the investment is. That’s one of the qualities that you have to have. Then you have to listen, right. If a teacher talks you listen to a teacher. You have to listen to what people are saying and if you’re an investor, you’re listening to hear a sponsor, you’re listening to a broker, you’re listening to everything that the market’s telling you with regard to that. Then you have to study hard, do your homework. Study whatever that pro-forma is, study whatever of private placement memorandum is telling you and then do your homework. Don’t just agree with what’s on the paper while your homework is going out in the marketplace. You want to do a little bit of due diligence and the technology we have today just by information technology can help you with break some of those barriers. If you love this, like you loved a class, just remember those qualities and that’s really the qualities that will get you to making good investment decisions and getting an A in your class and making good investments. I didn’t mean it to bring it back to teaching,
Joe Anfuso – but I think it really does parallel with regard to you did well for a reason and those same qualities apply.
Adam Hooper – Do you have to love it to be a good investor?
Joe Anfuso – I think you have to, if love maybe a strong word, but you have to have an interest in what it’s going to do and that interest is you’re making that investment for a financial benefit and you know if you’re putting in part of your net worth into an investment, you should then have some interest in what that investment’s doing and be happy to be in that investment for whatever the reason.
Adam Hooper – That’s one of the things that we’ve always tried to really zero in on is what are the motivations of people that are making these investments right? For us as real estate people, it’s a little bit more difficult to kind of put ourselves back in that mindset of this is maybe my first time investing in this asset class. What is that mindset? What is attracting me to it? How to make sure that we’re, through tools like this podcast and other educational materials that we do, how to support that, right. How to make some of these things that you talked about, listening to the sponsor, listening in the market, doing the homework. How are some ways that investors can actually improve those skills or developed those qualities? It doesn’t come in eight to everybody like it might for us decades into this industry.
Joe Anfuso – First and foremost, no matter who you are as an investor, no matter what age, get a mentor. That is so important so that you can have somebody that can explain things to, that you can bounce ideas off of, somebody that’s been through some of the wars that understands some of the dynamics of the investment or the type of investments that you want to make. To this day, I still talk with, I have lunch and go to breakfast with guys that I worked with for years and years that have taught me so much. You still need to be able to talk with them and to get some information and bounce some ideas off of.I think that’s one of the most important things. The next thing I really think is not just getting a mentor but taking advantage of all of the technology or all the information. We live in an information age and so much is available to all of us now. Before you would have to take so many hours to go find and research and so forth. Now at a click of a button, you can find out information that you never would’ve been able to get, 15 years ago. That’s really one of the important things is you have the information at your fingertips. Use the technology, use those people that can help you, mentors and I think that’ll help you along your way.
Adam Hooper – One of the things that you just mentioned there, this accessibility of information, for people that are new to investing in this asset class, it’s very easy to get overwhelmed with so much information. There’s so many different aspects of the deal. Again, whether it’s the pro-forma, whether it’s the sponsor of the market, the projections, the tenancy, the value add strategy. Does an investor need to know all of those? Are there certain aspects that they should focus in on first? How do you distill it down to the most important pieces so you’re not just completely overwhelmed with all the information that is available about these deals with these markets or the sponsor?
Joe Anfuso – I’m a big proponent of keeping things simple and here’s what I’ve learned after all these years and you know, I’m the CFO or finance guy who had been involved in that most of my career. I’ve never been involved in any company large or small, where it just didn’t come down to cash. For most investors, key in on cash. Honestly, you can get into all the different dynamics and so forth, but at the end of the day, the pro-formas and all the financial information, you’re just trying to figure out cash is coming in and cash is going out, you pay your debt, what’s left.
Adam Hooper – It’s that simple.
Joe Anfuso – We try to downplay some of this stuff or say something demeaning to certain people, but we’ve got a lot of really smart people in this business and a lot of people have come in with your big MBA’s and PhD’s and we’ve got some great people. The problem is putting a lot of smart people in our businesses, they want to make things complicated. There’s no reason for it when it comes down to… We’re not trying to cure cancer or come up with a new medicine. We’re just following cash and I know I’m oversimplifying, but when you’re an investor, whether it’s a one unit condo that you buy that you’re going to see or invest as a limited partner, it’s all about where cash flow is going and if you could just remember that and don’t get caught up in all of the crazy terminology in what people are saying and what the brokers are saying on this side and the sponsor saying this side, just remember that this is a cash flow business and you just need to follow the cash.
Tyler Stewart – Could you further break that down for me? So I’m an investor, I’m looking to invest with a sponsor. I want to learn how’s cash coming in, how’s cash coming out, what’s the quickest way to get to that information?
Joe Anfuso – It’s right through the pro-forma. The pro-forma’s writing you the story of what the sponsor is giving or proposing. In most cases I’ll take multifamily since that’s us. Multifamily, it’s coming out to rents. There’s the rents are based on a dollar a square foot or whatever that is, and there’s rent, there’s laundry income, there’s X, there’s Y, there’s cash that’s going to come in on a monthly basis. If you’re occupied, if you’ve got those assumptions, you know cash is coming in, there’s going to be associated expenses with that. You’re looking at the pro-forma is telling you, here’s what we think, here’s where all the expenses are. There historical information that you can go by. There’s a market information you can go by, but they’ll be a way where you can determine if those assumptions appear reasonable and then, there’s within that it’s going to tell you what your debt services and you’re looking at what cash flows there are at the end of the day, end of the quarter, the end of the year, whatever’s in the pro-forma so that you can determine what will I really get from a return standpoint if this pro-forma is correct, right. There’s a lot of detail that you have to do after that with regard to dissecting, is what they’re telling me the rent per square foot is correct, right. If it’s a value add strategy, is once you spend that money and make that investment to put 15, 20,000 dollars in a unit, am I really going to get. The rent’s going to go from a dollar to a dollar 25 a foot things like that.
Joe Anfuso – I don’t want to oversimplify it, but that’s where you’re going to come up with here’s the cash, here’s the cash flow and is this something that I can make an investment in that I will get a return return from.
Adam Hooper – Let’s do a little deeper dive on the pro-forma here. Before we do that though, super high level, like you said, pro forma is basically the story of the cash flows, right. It’s the kind of assumptions at the beginning at acquisition, it’s the projections that you as the sponsor are making about how you think rents are going to grow, where you think expenses are going to go, what CAPEX improvements you have to put in the property and then like you said, it’s that story of this is the amount of cash that’s going to come in. These are the expenses where the cash goes out, this is what our debt services and this is what’s going to be left for you as an investor. You just walked us through there, how a pro-forma is built, but maybe we can go a little bit deeper dive to get investors understand from your perspective, looking at a new asset and acquisition, you get financials from a broker, it’s got your historical numbers and now you guys are going to build a pro-forma
Tyler Stewart – on how you think that deal will perform for the next one to three to 10 years. What process do you as a sponsor undertake to build that pro-forma from scratch?
Joe Anfuso – We’re going to take first, you’re taking the historical information. Paul and his team, this is what they get paid for. We’re taking that historical information and we’re getting the market data that we have. We go out, we assess the market. We’re out in all of our markets. There’s not a property that we don’t know that’s within a certain geography that we don’t know what it’s really getting at rent, what its expenses are that we have looked at. We have to build that from that market data and come back and say, “Okay, here’s where it is. Now, here’s what we know the market is.” We take what they’re providing us, but we take it with a grain of salt because everybody’s pro-forma is the brokers pro-forma, everything’s always a little bit different. I’ll give you an example, right. If they don’t want you to know about a plumbing expense because this is a 30-year old property or 25-year old property, maybe that plumbing expenses put in CAPEX somewhere or maybe that plumbing expenses is somewhere else and we need to know our plumbing expenses in a different line item and it’s not lining up with regard to what we think a 30-year old building should look like. Then we have to take a deeper dive in the due diligence process as to okay, what’s going on or how come these numbers aren’t making sense? Everybody’s always, I don’t want to say playing with the numbers, but you know, everybody’s trying to make things look in the best light they can and then it’s our job to uncover all those
Joe Anfuso – little idiosyncrasies so that we can develop a pro-forma that’s realistic, that we understand what the real cash is going to be needed to pay for those expenses and come up with a return. That’s the building blocks of which we then we’re comparing that to the market data we know that if we’re going to do a value add on a property, we know as well as anybody we know we’ve got our own construction team, we know how much it’s going to cost us to do a full complete rehab. We know what the re-do, we know from the market if we do that, this is where our rent should be. If we can perform, we’re confident that we can raise that rent, hopefully cut some expenses, perform better, asset manage that property over the course of time, improve NOI so that we can end up having a really good longterm investment for which our investors will be rewarded for, that we’ll be rewarded for and that we’ll know we can go onto the next property when that’s sold.
Adam Hooper – Now getting to the accuracy of the pro-forma back when I was in the broker’s world, we’d always joke that there’s usually three, right. There’s the broker’s pro-forma that you get when they’re selling the property. There’s the, the buyer and the investors internal model and then there’s the one that you give to the lender.
Joe Anfuso – Right.
Adam Hooper – How as an investor, looking at these deals where you’re relying on the sponsor how can they kind of fact check or sniff test some of the assumptions that are going into these models. A pro-forma is basically a set of best guesses as to what you think you can do. Rarely are they spot on. There is almost always variance, hopefully to be good sometimes not. How can investors start to kind of pick through some of those points and either gain a comfort with those numbers and assumptions or maybe push back or questions some that seem a little bit suspect?
Joe Anfuso – It’s incumbent to take a step back and look at things a little bit more holistically. Meaning you go back and if the pro-formas writing the story right and there’s an investor, you’re an individual investor, you only have so much information to work with, but you can take a step back, look at it and go, what is in here that makes sense or doesn’t make sense that you can question? If the pro-forma’s the story than the assumption’s right are the plot line. We need to go back and look at that plot line of if we’re, I’m looking at this, the assumptions and it’s telling me we need to average six percent rent increases annually over the course of the investment.
Adam Hooper – That’s like a psychological thriller.
Joe Anfuso – Is that really something that’s realistic? Is that something that makes sense? This is a 30-year old building, 40-year old building and there you don’t see anything in there for roof repairs or plumbing expenses things like that, which you as an investor, as you get over time, you’ll start to realize that there’s certain things you just need to take a step back once in awhile and go, “Okay, does do all these assumptions make sense to me? Looking at the property and looking at the investment in relation to my strategy of what I want to invest in.” If that’s a value value add strategy does the assumption of we make an investment in this property. If they’re telling you we’re going to rehab each unit for 10,000 dollars and we all know going to Home Depot, you can’t do anything for 10,000 dollar in your house. Right there you can make some simple questions as to this is the sponsor really have that knowledge. For somebody like us, we’ve got the in-house construction guys. We know it’s going to cost, between 17 and 20 grand. We know to do a big rehab. We know what that return should be from the market standpoint and if we can’t do it then we can’t do the deal. It takes a lot of work on our part as the sponsor. There’s got to be a little bit of trust, right. Luckily for us, 25 years of history of doing deals, there’s a little bit of trust built in when we get new investors that people, they know someone who is invested with us, they know money manager who’s been with us so forth
Joe Anfuso – and there’s a little bit of trust that we’ve done our homework in doing that. If you go with a new sponsor, you really have to take a step back and do that kind of holistic analysis as to what you’re looking at.
Adam Hooper – I want to go on a little bit of an exploration here and this may fall completely flat, but continuing with this pro-forma being a story, assumptions being the plot line… This might be completely stupid, but like what would be the biography that Abraham Lincoln write? Like a core deal, something that’s very rooted in, more concrete assumptions, easier, more certain things, like a core deal, right? What are some of these, I guess what I’m trying to get to or what are some of the aspects of a pro-forma that would lead someone to believe this is a more certain deal right there. There’s less very potential variants with this story that’s being told. Contrast that although we have to again, what would be like, the usual suspects with the Keyser Söze twist at the end, right, not spoiler alert, sorry. How can investors start to pick up what genre this story is by looking at numbers?
Joe Anfuso – First, let’s say it’s a core deal. Let’s say, when I’m looking at that deal, you’re looking at again the plot line, the assumptions, but there’s probably some quick things you can look at, right. What year is this property built? If this is built within the last five years, now all of a sudden, it’s a newer property and the story should be one of we’ve got a new property, we just need to manage this really well. There’s not a lot of work that has to be done. We want to be in this market, we’re going to put the leverage where we want it to be or where it needs to be so that we can provide the return that’s comparable to a core investment that you want to be in. What’s the core investment doing? Right now, I can put money at two years at 2.59% or 10 years, tenure treasury at 2.73%. A whopping 15 basis points more or I can look at a core deal that maybe gets me four to five percent in an A+ market with upside potential if it’s managed properly. That’s the kind of when you’re looking at the story and matching it to your investment strategy that you can just take a step back and go, “Okay, all right, this is what I’m looking at and this gives me more comfort that there’s not a lot of value add here that has to be done.” There’s not a lot of construction work, there’s not a lot of heavy lifting with regard to moving the demographics so that will mean you get higher rents and in and understanding that dynamic from the core, you know and how that is juxtaposed to what happens
Joe Anfuso – on the opportunity or value add strategy where you’re paying somebody or you’re investing in hopes that your sponsor is doing a lot of heavy lifting to get you a better return. Did that help?
Tyler Stewart – I really liked that analogy and I’m, I’m just thinking through it. If I’m looking at a core deal and the assumptions of the plot lines, I would expect more of a boring, more of a tame plot line if the deal was a little more aggressive, maybe value add, opportunistic. I should expect the assumptions again, the plot lines would be a little more exciting if you will.
Joe Anfuso – I agree. I think that’s absolutely true. If you’re in downtown Los Angeles, downtown Seattle, downtown San Diego, you know, downtown San Francisco, that is just going to be more of a vanilla type story as opposed to I’m going to Kent, Washington and outside the city, outside the core of the city and I’ve got a value add play on a 20 year old building in a market that’s coming up and coming in and there’s a lot of heavy lifting to do. There’s new siding, there’s redoing the decks on the pools, there’s, redoing the rehabbing every unit to a modern SPEC. It’s a much more tantalizing story, a much more exciting story, but it’s one you should be rewarded for by taking that risk as well.
Adam Hooper – The difference that I see between those two stories is the potential for variance of actually following that story, right. Core deal, very mild assumptions, nothing too crazy, a much higher likelihood of hitting those targets. This is one of the things that we’re working on some tools to try to better peg what is the assumed variants in the ability to hit that target. The more plot twists there are, the more variables there are, the more exciting that story is. Does that mean that there’s going to be a greater variance of how that project is likely to turn out or do you feel like the experience of the manager, hopefully we’ll keep even a more exciting story in a tighter band to that, that potential outcome?
Joe Anfuso – I definitely think the sponsor, the manager can mitigate some of that variance. If you’ve got somebody who’s gotten their knuckles bloodied, understands the markets that they’re in, understands what needs to be done from the standpoint of lifting that property to where it needs to be from a value add strategy, you can mitigate some of that and know there’s market risks and execution risk. You can mitigate that execution risk by going with somebody who has done this before, has the organizational capabilities and understands what needs to be done. Absolutely. Market risk is everybody’s market risk. You can make a great decision. The market turns his head on you. You’ve just got to make sure you’re prepared for any of those adversities and write it out so that you can get to another day and get a return. But I do think you certainly can mitigate some of that variability with somebody who’s done it before.
Adam Hooper – Does an investor’s ability to ascertain the excitement of the story, does that come from experience? Does that come from asking questions? Does it come from the gut? Where does that come from? Where does the ability to tell, does the story match with the, does this plot line match with the assumptions of the story, right.
Joe Anfuso – Great. You have to take a step back from there and say, I as an investor have so much of my net worth that I’m willing to put into this space. How much risk and risk tolerance do I have for this amount of money that I’m willing to invest from my net worth? If it’s a small amount and that your strategy should be, if you’re looking for the longer term and it’s a smaller amount then you should be able to accept some of that variability and set except some of that risk and understand that yours a risk reward component to what you’re doing with your money. The fear or the confusion some people get is I’m going to put in X amount because 100,000 dollars is the minimum and maybe for some people that’s 10% of their net worth, maybe for some people that’s a bigger chunk. You get caught up in the, “Well I need to get the best return for that 100,000 of mine and I’m going to go invest it here.” Not really matching the strategy to what those dollars are for you personally and I think that’s really incumbent upon the investor to make sure that they’re matching their strategy, what they want to do with those funds into the next deal.
Adam Hooper – That’s a great point.
Joe Anfuso – And as I look at it from our standpoint and we have, we trade, we do 1031 exchanges. Right now, we’re approximately, let’s say 90 percent of our people follow us into the next deal. Now they may have come out of a, maybe we hit a huge home run on this deal we bought in 2012 and we’ve got a three X multiple, we’ve got a huge hit near the return was, it was giant. Everybody’s happy. Somebody started with 100,000 dollars and they were clipping a coupon, it’s seven percent. That was great. Now all of a sudden we’ve got a three multiple and we’re going, what are we going to do with that money? Maybe for those investors, they don’t want the same kind of, you know, they took the risk on 100, but now on the 300, maybe the better play is something a little less risky, little less of a coupon because now at five percent on that 300, now they’re collecting 15 grand a year. They’ve doubled their income for doing nothing, but holding on. The investors need to understand, where they’re at in their strategy and does that investment match that?
Adam Hooper – That is a very understood point. Is what is the right amount of risk that I should be taken for this capital and we harp on this all the time on the podcast. But as an investor looking at this asset class, what amount of risk do I want to take with this capital? If it’s the all at risk capital and it’s a small portion and this is kind of a flyer and you want to take some bets. That’s fine. But I get the impression that a lot of people are looking at this are putting a larger piece than just the kind of fun money and the importance on understanding the right risk profile for that capital and how it matches with them individually, I think can’t be stated enough. That’s incredibly important and something that we’re going to certainly try to expand upon it and help people get to that understanding, right. I think it’s a very crucial part of investing in this asset class.
Joe Anfuso – Right, I agree. I emphasize that with the young people all the time. Know your risk tolerance. I mean, we went over that ad nauseum on just so people understand, what you’re doing with your money. We would talk about all the time, even everything from equating student loan debt to property debt, right. Why are you investing in yourself and taking on this debt? The same thing is happening in the property and with regard to you’re making an investment, you’re taking this debt to help the return, is it worth it? Just in trying to relate it to them and there for those that are taking student loan debt to get kind of equate it to them so that he can get some really thinking about what’s going on with the investment.
Adam Hooper – As an investor, I’ve understood what the story is, I’m looking at the pro-forma, I’m reviewing the numbers… What are some of the questions that I’m reviewing that pro-forma might bring up that as an investor might want to push on a little bit or I might want to ask the sponsor to either help me stress test it or get a better understanding of the mind of the sponsor and how they’re building the story. What are some of the things I can look at to start kind of picking apart?
Joe Anfuso – Sure. For me, being a recovering CPA, I’ve always been somewhat on the conservative side with regard to debt. My first question’s kind of always surround how is any change in the revenue model going to affect the ability to pay debt service? Over the wars that we’ve seen, that I’ve seen over the years, right, everybody’s always got into trouble because trying to juice your returns in any downturn inevitably meant over leverage net, handing it back to the bank. If I’m a new investor, the simple thing for me to understand is and I want to question is at what point do revenues not cover debt service? Is that a five percent downturn on rents? Is that a 25 percent downturn on rents? Because one means you lose the property, the other one just means well maybe you don’t get a distribution for a couple of quarters. That’s kind of, to me the on. If I’m putting my money out there, I want to know where my money becomes at risk. If I’m with a sponsor that’s listen I got to to make, I’ve got a 65 percent loan to value loan and I’ve got a, another 10 percent mezz debt and you know, we’re going to be leveraged up 75 plus percent and don’t worry cause we’re going to get there in three to five years. It doesn’t take much for a hiccup to where all of a sudden, the first equity that goes out the door is mine.
Joe Anfuso – Those are the kinds of questions I really, I think when you’re first learning to invest, when you’re first getting into these deals, you want to make sure what’s it going to take before my dollars are at risk. What downturn can you sustain before my dollars are at risk?
Adam Hooper – That’s basically stress testing these assumptions in this projection. Is there a band or an amount I guess again it varies on strategy that’s acceptable to take on in terms of what percent decline in revenue before that debt service becomes impaired.
Joe Anfuso – I guess it all depends on the market and so forth. We’ve all gone through periods of time where, you can take a quick 10 percent hidden rents, if there’s a recessionary environment or something like that. So I think you want to look at what’s a reasonable downturn or reasonable recession you look over the course of history that could affect it, right. We went through a gigantic downfall, when the great recession, hopefully that’s a once in a generational kind of move, but with that you still want to be reasonable. What is 10%? Can you withstand a 10% rate? I think a 10% would probably be a big move in the demographics of multifamily right now. I’m one of those people that just goes, somebody’s got to show me how the demographics on the west coast are deteriorating for rental property right. It’s easier to be a point guard for the Los Angeles Lakers than it is to get apartments built. There’s just no way that overtime multifamily housing is, you might sustain hits over a short period of time, but over the long run you know, if you’ve financed correctly, made the correct investment, maybe bought a little early, but at the end of the day it’ll come your way.
Adam Hooper – Just off the top of your head what we did see in the recession eight through 10, how did cashflow get impaired on you I guess in your kind of assets, right more stable, a quality multifamily?
Joe Anfuso – Dependent on the marketplace. If you were on the coastline were at 10, 15%, if you are inland, I know I saw as much as 30 to 35% in some places in valuation. In valuations, you had anywhere from 20 to 50% you go down the Central Valley of California. It was truly, it was a 50 to 60 percent slash and pricing. It all depends right on them cause they’re not building anymore on the coastline. If you’re on the coast, there’s usually some minimum among there’s some protection there, but everybody when the market turns, everybody’s got to take a little bit of pain.
Adam Hooper – If I’ve read the story correctly and I’ve stress tested it a bit internally at some point. I have to make a go-no-go decision, right. I have to agree or disagree with what you’re telling me, the story you’re telling me in the pro-forma. We’ve talked about all these different components, but how does an investor synthesize all of these that we’ve been talking about this last 20, 30 minutes into jelling that into a decision to either go forward or not. Again, there’s a lot of different components that go to this. Is there an easy framework or schema to look at that kind of check these boxes and yes, I agree, I’m comfortable. How does that process go in the mind of a maybe a new investor or maybe a more seasoned investor?
Joe Anfuso – It’s kind of the same for both written. What we talked about on the investment strategy worth what the dollars mean to you and what risk tolerance you’re willing to sustain in that investment strategy. Once you’ve accepted what your strategy is, you’ve accepted the risk tolerance, you’ve done the homework that you were supposed to do, you’ve assessed the market, you discussed with the sponsor, you’ve checked all those boxes and your The decision then is if I’ve made myself comfortable to the fact that I’m with the right person in the deal that meets my risk tolerance, the strategy that I want to have for these dollars, which are a percentage of my net worth, it’s like taking a test. You’ve have gone through all that, you’ve prepared. It’s now time to make the investment. It’s time to take the test and make it. You’re comfortable when you’re prepared that you have made the right decision as opposed to just listening to somebody tell you listen, I’ve done this a couple of times. It’s a great deal. Trust me, I’m going to make this work. Right, that’s what gets you to foreclosure.
Adam Hooper – This definitely mirrors what we said, what you said earlier on, what qualities make for an intelligent real estate investor. Be Present, listen to the story, do the homework and then you’ll have the tools and the ability to make that informed decision rather than just kind of blind faith. I trust this manager.
Joe Anfuso – What I would always tell people whether it was students or not is start small. There’s no harm in learning your craft. Start small. Just learn something from whether it’s a two unit, four unit. You learn what it is you’re trying to learn about the business, if you have no real estate background at all. I know you’ve had you doctors on before representing doctors. You’re not going to have the time to learn everything, but in a small duplex, you configure out cash in and cash out pretty quick. You can figure out expenses, you can figure out what you know, what’s going to happen and it just happens on a bigger scale with regard to a limited partnership investment on a 200 unit plus building. I really do think you can learn the craft by starting in a small space and becoming aware of what happens in a transaction and what happens in a deal.
Adam Hooper – That’s great. We want to touch on next is exactly that once you start making these decisions, how can you kind of practice or test your assumptions or your decision, your conviction as an investor. I don’t know is there any replacement for experience in testing that, right? Just getting it and doing it.
Joe Anfuso – The final exam I did for the students, they didn’t like it, but I thought it was kind of fun. What I made them do by a blind lottery. They all chose a deal and they were all small deals and is everything we learned after the semester. What I made them do was evaluate the small deal. Pretend like I was dad, grandpa, uncle, if they said grandpa, they automatically went with B, but it was whoever I was present to me the deal, provide me the financials and tell me why I should invest in your deal. For any investor, it gave them the opportunity to go in and look at a five unit deal and assess it just like they would on a big deal or if they were a financial analyst in a property to be able to determine why they should convince, mom or dad to invest with them. Investors same thing is understand the experience you can get from even if you don’t invest in getting involved in a smaller deal well, really it’s just the nuts and bolts of the transaction it’s just the numbers get bigger and bigger transactions and there’s all kinds of groups. Doctors get together and buy a 10 unit buildings and things like that and different people get together and buy stuff and partnerships and so not every deal has to be a 200 unit building, but it will all gain. You’ll gain the experience and the credibility you need to make, continue to make investments in that deal.
Adam Hooper – Is that a relatively linear scale of what that experience is? Is a 200 unit deal a 100 times more complex than a two unit deal. I don’t think so. I know there’s some scale there where you’re cutting your teeth with two or four or six unit deals. Sometimes that’s going to be just as much work if not more as a 50 unit deal, right.
Joe Anfuso – I agree. Right there’s economies of scale when you get to when you start dealing with bigger properties, but you know if you own it, if you’re doing a duplex deal and you think rents are a buck a square foot and everybody else’s ninety cents a square foot, that’s the same problem you have if you’re on a 200 unit deal when you know you’re at a dollar a foot and maybe the market’s at ninety cents a foot. Whatever it is it’s the same kind of issues. The multiplication just gets a little bit bigger.
Adam Hooper – Good, that’s awesome Joe. This has been a fun… I think that analogy thing worked, we took a chance. As we kind of wrap this up here, is there a set of questions or and maybe that… This is a whole other conversation, but you know, kind of the process of going through a framework of answering all these questions that we talked about today but do you have kind of like a keystone set of questions that an investor should always try to answer with each deal they look at, financials pro-forma, obviously risk is.
Tyler Stewart – We’ve talked about with Paul quite a bit and trying to figure out that tolerance, but what would you say are the kind of the top three to five things of every deal people should try to answer?
Joe Anfuso – Well, first I’ll give you a little acronym. That is from a scholastic standpoint, READ and READs are usually for revenue, expenses, assets and debt. If you concentrate on those areas, those are the questions you need to answer so that you can determine cashflow, debt, I told you I’m a little bit more conservative, but I think debt is the killer in this business if you don’t manage it correctly. Looking at your debt coverage, looking at your loan to value, all those things with regard to debt. You look at your sponsor, answer your question on your sponsors, make sure you understand who that person or persons are, what they’ve done, how legitimate they are. Then the other thing is I always like to look at what’s the risk I’m taking compared to the market. If it’s too good to be true, the old story goes, it probably is right. You need to be aware of what the returns are, or the returns being promised with regard to the market. Again, does that match your strategy of your net worth dollars going into that? That’s kind of the questions and I can’t overemphasize keep it as simple as possible and don’t get caught up with all of the terminologies and all the crazy idiosyncrasies people will throw out at you. Take a step back, keep it simple. Remember, this is a cash business that can ease it, that should be evaluated that way.
Adam Hooper – That’s great. I think what risk am I taking compared to market is a whole other episode that will, we’ll hopefully be able to get you back on and do a deep dive on that because we’ve touched on it multiple times here to just today that is so fundamental to investing period, but especially in this asset class where there’s such disparity between markets, between assets, between managers, that’s a pretty big point that we can hopefully have you back on and drill down a little bit more into.
Joe Anfuso – Be my pleasure.
Adam Hooper – Perfect. Well Joe, I think that’s all we’ve got for today. Anything that we didn’t cover or anything you want to add that we didn’t touch on?
Joe Anfuso – I would say no for other things I may have skipped, but there’s resources out there that I think people should be aware of or that you can use. I as somebody professional in there, I like to use there’s Zelman and Associates, which is a Ivy Zelman, probably one of the best financial analysts in the business with regard to home building and multifamily. Jeff Adler over at Yardi is an economist. These people all put on webinars and so forth and data that you can get from them either by purchasing or being on their mailing lists. The National Multifamily Housing Council, a National Association of home builders. They all provide weekly information. I get emails all the time of what’s going on in the marketplace. If you’re going to be in the business, I always think it’s good to have some sources that you’re gaining some information and some knowledge on what’s happening in the marketplace all the time. I just recommend people as well as having mentors, make sure you’re getting market information as well.
Adam Hooper – That’s great advice. We’ll put links to all those different resources here in the show notes and links to we had Jeff Adler on a while ago, another really solid episode, great guy and tons of information.
Joe Anfuso – I agree. He does a really good job. I listened to all his webinars and it’s just easy to. He keeps things very simple and in a straightforward fashion than I think any investor would get benefit from.
Adam Hooper – Perfect. Well Joe, we’ll let you get back to getting ready for next semester and running things at MG. We really, really appreciate your time today. This has been super informative and I hope our listeners get a lot of good stuff out of this episode.
Joe Anfuso – Oh, I appreciate it. Around here I have the saying that, Paul creates the mess and my group’s got to clean it up.
Adam Hooper – Plenty work to do. Perfect, well Joe, thanks again. Listeners as always, if you have any questions or comments, please send us an email to firstname.lastname@example.org. And with that we’ll catch you on the next one.
Tyler Stewart – Hey listeners, if you enjoyed this episode, be certain enroll in our free six week course on the fundamentals of commercial real estate investing. Head to realcrowduniversity.com to enroll for free today. In RealCrowd University, real estate experts will teach you the important fundamentals like the start with risk approach, how do you evaluate real estate sponsors, what to look for in the legal documents and much more. Head to realcrowduniversity.com to enroll for free today. Hope to see you there.
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