Some mistakes are just “felony stupid” like walking out in front of a bus or trying to beat a train to the crossing. Then there are mistakes we all make and none are immune because we are woefully human – even those of us in the Real Estate, Loan and Cash Flow Business.
It is almost embarrassing admitting the following error. After all, it was during the peak of my real estate career in the mid ’90′s. I think my attitude was plain “cocky”, believing I was invincible. After all, we were in the fast lane, building several hundred rental units and commercial developments. owned a property management business and a thriving loan brokerage business. Maybe, I just got greedy, who knows?
Well, here’s the story. An established, credible and long time client who owned a large franchise operation (in fact we assisted him with his first wobbling attempt to get the business of the ground) had an idea to do a “start up” operation in a small rural farming town with a population of under 1,000 people. He asked us to do a “built to suit”. By that I mean – if we would build to his specifications, he would execute a long term triple net lease (with conditions in our mutual best interest). We quickly agreed, hired an architect, contractor and boarded the loan.
Approximately 3 weeks prior to completion and move in, our client ran into a serious personal challenge and backed out of the deal. This decision resulted in our ownership of a “see through” negative cash flow custom built structure in a tiny town with no economy, no users or prospective lessees. We were on the hook for a half million dollar construction loan at 12% interest. After 3 years of pain, we were able to unload the “alligator” to a 1031 exchange taker, looking for a place to park tax deferred funds with only about 10 days left to locate his replacement property.
Oh, by the way, another catch. To make the exchange work we had to take for part of my equity, a run down flea, cockroach, termite infested multi-family property with a monthly negative cash flow of $400.00. No problem! Wouldn’t you trade a $5,000 month negative for $400.00? Well, we finally sold the “dog” to a happy rehabber and stopped the bleeding. It was a close one though. The broker with the 1031 client, took seriously ill and actually died… he did live long enough to close the escrow. Whew!!
So, what’s the lesson learned here? First, don’t get too big for your britches and move in such haste you fail to do your “due diligence”. Second, carefully evaluate a situation to see if you have the financial wherewithal to handle a “worse case” situation without jeopardizing other assets. Then consider an alternative plan and/or exit strategy right from the get go. Finally, execute written agreements, even with friends and family. It’s not about trust or not trusting, it’s just good business. Perhaps, if we had done this, the lessee would have had the problem or at least the obligation of finding or participating in a solution. Yes, agreements can be broken, but a thought through carefully crafted lease could have included a contingency fund, advance lease payment(s) a guarantor and/or other safeguards.
As a parting shot, let me say here that it is important for you to remember “people make mistakes, but you are not your mistakes”. It is important not to dwell on our mistakes, but If you cannot remember the past, you are condemned to repeat it. A favorite proverb of mine goes something like this: “a wise man foresees the problems ahead and prepares for them, a fool fails to plan and rushes blindly ahead.” Wonder why that’s such a favorite?