For all of its rewards, real estate can be a treacherous business. And if you’ve survived and thrived in these waters for 50 years – like Gerald Guterman – I’d say people should listen when you speak.
Gerry is a legendary real estate investor and founder of Guterman Partners. He spoke to me recently during a special edition of Fried On Business.
So, naturally, I listened. Closely.
When you purchase real estate for investment, Gerry said, you’re taking on the responsibilities of a professional. If you don’t act accordingly, you’re going to get creamed.
One example of unprofessional behavior might be to rely on so-called “rules of thumb” when making an investment, Gerry said.
“Rules of thumb sound good to those without any in-depth knowledge, but they generally have no basis in fact. They generally don’t impart wisdom,” he said.
“We have rules to follow and to live by for survival and profit. They’re not rules of thumb. They’re pragmatic actualities. There’s no substitute for location, physical condition, cash flow, financial history, stability and future resale value.”
For Guterman Partners, thorough demographic research on a property is one way pragmatism expresses itself, Gerry said.
“We are known as demographic geeks. We believe that demographics are the lifeblood of real estate,” he said, adding that almost no one gets this right. Almost no one bothers to ask the right questions.
This, of course, is disconcerting when you consider that real estate, as an investment, is a 24-7-365 business.
“Sleeping or awake, money costs money. We’re investors in a business that costs money every minute of every hour of every day. And we can make money every minute of every hour of every day. Investment real estate can be a money machine that rewards knowledgeable people with real, touchable, current and future cash flow and appreciation,” he said.
Decades of experience have taught Gerry to look at potential deals with something of a jaundiced eye. It’s a skepticism that, time has shown, is justified.
“Ah, the cardinal rules that have cost me more money than otherwise. Every seller is a liar, and every deal is a bad deal. There’s no exception to this rule,” he said.
Gerry said every seller or his representative will lie in some way – either by outright misrepresentation, slanting the facts, or simply failing to deliver unfavorable information. In other words, lying by omission.
“You owe it to yourself to insist that all of the appropriate information be delivered,” he said.
A few examples:
– Environmental reports
– Income statements
– Rent rolls
– Turnover reports
Sounds like due diligence to me, and that’s what Gerry calls it, too.
“There are many people who think due diligence is unnecessary. I was actually told by a national, competing investor that they receive sufficient information from the seller.
“Of course, I started to laugh. Your knowledge of the property before closing should be guided by hard, in-depth, independent, confirmed reality. Facts. Perception is not reality,” he said.
“Your perception after listening to a seller is not reality. Your perception after listening to a broker is certainly not reality. And the rule always applies: Due diligence is mandatory. If you don’t have due diligence, as soon as you close the transaction, be sure to check yourself into a mental institution. It will be safer for you.”
Now, I’ve not been in the business as long as Gerry, but I too have heard statements that have given me pause. I’ve been told by buyers, for example, that they’re not worried about current cash flow. The improvements they’re going to make will overcome any deficiencies, and then they’ll sell it for a mint.
Gerry isn’t buying that, either.
“What kind of absolute fool would buy a property for more than the property’s current value. Nobody is wealthy enough to do that. You make your money on the day you buy the property because you’re buying the property at its then current value or you’re paying less than its then current value. But you never buy a property based on hopes and dreams.
“You make your money on the day you buy – never on the day you sell. You collect your money on the day you sell,” he said.
“It’s very important for people to understand that hopes and dreams don’t guide this business. And hopes and dreams don’t keep you out of trouble. You have to have the pragmatic reality of the moment.”
Like Mark Twain famously said, a good way of obscuring reality is to use fancy statistics. I’ve heard them all. So has Gerry.
“You know, an internal rate of return is the wish that the broker makes, when he’s giving you the information, and he believes that you may actually be stupid enough to actually believe that wish,” he said.
“So be careful. When you buy, buy what the seller has to sell.”
The objection might be made that, if the price is low enough, an investor could buy with little fear of making a mistake. Sort of like we did back in the days of the S&L bust and the Resolution Trust Corporation, when good data could not be had.
Gerry said the RTC days were an anomaly. Deals were structured so that no debt service was paid for the first seven years, and after that only when revenue materialized.
As for today, Gerry said no way.
“I wouldn’t buy from anyone without physical or financial history – unless they were the RTC again – and I got a special gift from God.
“If it wasn’t for that, I will tell you right now that there are rules and minimum standards to live by when you’re investing in real estate. You may bend the rules for other things, like a larger portion of ice cream, but you never, ever bend the rules for real estate,” he said.
“Don’t be a clown when you buy. Don’t do partial jobs. Know exactly the information you’re getting. Be sure you’re getting the truth. Don’t be a clown, because it’s so difficult to take off that makeup. And you don’t want to have to cure the mistakes you made because you were lazy when you were doing the due diligence work to begin with.”
But what about portfolios? Surely the good properties in the package can carry the one or two laggards. That’s the way it’s been pitched to me many times.
Gerry said never buy real estate in anything but a single-asset entity. If there’s a problem, the problem stands on its own. And the consequences don’t impact the entire portfolio.
I could go on about this fantastic interview. We covered a lot more ground, including:
– The true impact of turnover in a multi-tenant property.
– The insanity of signing personally on a real estate loan.
– Why time is never of the essence.
– The perils of “specific performance” clauses.
– Why a buyer and seller are only a broker’s commission apart.