No, this is NOT another ‘Howie Mandel-style’ game show … I’m done with that series (aside from a couple of wrap-up posts, still to come)!
But, this will be my last reader Poll for a while, so I want you to sit down for 3 minutes and make a commercial decision with imperfect information:
Time for a fun ‘hypothetical’ … I’m not really asking you to invest with me [AJC: I want you to learn to invest with somebody far more capable: yourself!] …
I would like you, and a number of other people, to join me in a real estate project [remember: this is hypothetical].
It will be very low risk, because it’s a very well-established commercial strip-mall in a great area, pretty much fully rented with lots of good tenants with long leases left to run and for the last 10 years has produced a reasonable – perhaps not stellar, but certainly highly respectable – profit with very low maintenance costs, tenant turnover, etc., etc.
No catches, here, really … it will be a general partnership, I will be the managing partner and you can join the group of passive investors already committed.
So, let’s look at the deal a little:
Your share of the investment will cost $100,000 and for that you get 10% of the $1,000,000 project (incl. financing/closing costs) … it’s a very inexpensive strip mall 😉
We expect reasonable capital appreciation over the life of the project (up to 10 years, although you can sell out anytime before then, and we will guarantee both a buyer and then-current market price for your share).
The property will return about $9,000 a year (net operating income per 10% share), but we think it’s best to keep aside some as a contingency against vacancies, maintenance, etc., etc.)
So, we will guarantee you (secured by the project itself) $7,500 income each year for at least the next 10 years indexed to 7.5% of the current value of the building (but, NO LESS than the $7,500 p.a. guarantee) v the $3,000 or 3% that a bank will currently give you, and which does not grow. Of course, you may have others ideas in mind for the money, but I hope you will invest with us … after all, here, your income is guaranteed!
In summary: an ultra-low-risk ‘bricks and mortar’ investment returning a MINIMUM 7.5% p.a. on your original investment (increasing in line with property value increase) … you will get your money back, just from the guaranteed distributions that the project will pay you, over 13 years and you STILL get 10% of any appreciation in the building!
Deal or no deal?
The description sounds like a good deal to me for a low risk- a guaranteed 7.5% return + possibility of great appreciation. Of course there are two problems I would see with this hypothetical situation:
1) I only hypothetically have the $100K to invest 🙂
2) It really sounds too good to be true- if a lot of these businesses go out of business can the $9K/year really be guaranteed? Could you really find another buyer in the current economic environment?
Since we are talking hypothetically, assuming I did have $100K in cash and the deal is as promising as it seems- why not borrow from the bank and buy a larger fraction of the development?
-Rick Francis
I hope that I’m not showing my RE Rookie Status too much, but I think that it is too much money tied up for too long. Plus, you get your money back in about 13 yrs. but the 7.5% is only guaranteed for 10 yrs. (right?). Then you have the appreciation of the building, but what happens if it just “happens” to be a down year when you decide to sell out. You would have to wait even longer. I think that I would look for a deal where I could purchase a bigger share for the same $100,000.
Am I way out on left field?
My RE Rookie Status vote: Bad Deal
Adan
Yeah, i’m with Adan. On the surface, it’s not a bad deal, at least it’s better than putting your money in a CD or money market, however, the most important thing is to figure out what your annual compound growth rate is invest in those things that get you your required return to get you to your number by your date.
If this investment return gets you there, go for it!
Sounds like a good deal if $100,000 is a certain small fraction of the cash I have to invest. Although if this mall is going for this amount right now, it could see a larger then normal appreciation from this point since it may have experienced a larger then normal depreciation within the past 1-2 years.
I might be totally of, but:
I don’t have to invest the full 100k. I can finance most of it, secured by the real estate. So, let’s say I can finance 80% of it, which means I “only” need to come up with 20k myself.
If I can finance it at 5%, the interest on the 80k would be $4k a year, which would leave me with $3500 left over each year.
$3.5k annually for an investment of 20k is a return of 17.5% per year. In addition, any appreciation is also yours, so unless you need to average a very high annual compound rate, this sounds like a great deal.
@ Thomas – You are right; deals like this are usually funded by the promoter (who usually ends up being the general partner a.k.a. manager) who has secured funding for the project and the investors effectively band together to come up with the deposit, rather than having to fork out the full $100k themselves. Certainly improves returns …
AJC,
Seems like a good deal on the surface but my big scare is the short term future of the commercial real estate market. There are just too many shoes left to drop. Just because a strip mall was occupied in the last 10 years doesn’t guarantee much in this financial environment.
I’d say CRE has much more room to fall and wouldn’t get into a long term deal at this point.
Keep waiting, it will likely get cheaper. 7.5% return is backed by what? What if the value of the CRE & rental values falls by 50% since we are talking about a hypothetical situation? If that were to happen, you can count on your principle deposit and returns to be written down. Seems like a dangerous game to play in these times!
-Mike
Sounds like a pretty solid deal, but I’d like to know more about the area. Is it in a city(or state) which is experiencing job growth? how about the neighborhood its self? is it run down? or perhaps the city has earmarked that area for improvements which could enhance the value.
What about crime rates in the area?And when was the building built? has it recently undergone any renovations? If not perhaps the near future holds lots of unexpected expenses for renovations.
If I got a bit more info on these conditions , I might be satisfied enough to go in on this .
Since it is hypothetical,I’ll assume all has checked out well and say I’m in . It could go well with other investments to help me reach my goals,and added source of income.
Pingback: Tempting deal … bad deal! « How to Make 7 Million in 7 Years™
Pingback: No such thing as a free lunch … « How to Make 7 Million in 7 Years™
Pingback: The fallacy of dividend paying stocks - Part II « How to Make 7 Million in 7 Years™