I was asked by the Australian Property Investor (API) magazine to assist with an article. Jeremy from API sent me the following interview questions and the answers provide a good insight into my property investment background and philosophy. Only a small portion of the interview appears in the article. I thought I’d include the entire interview answers for completeness.
The finished article appearing in the March 2009 API issue on page 22 and is titled “THE DUEL IN THE DESSERT.”
January 9, 2009
Hi Dave,Thanks for helping me out with this. Much appreciated. As I mentioned before, the article is basically a comparison between two different investment strategies and I would like you to make the case for positive cash flow properties. Just to give you an idea, your section of the article will probably run to about 1,000 words. I will re-write the information you send to use in the story and will also pull out some of it out to use as quotes. I will send you a draft of the article to check over before I submit it for publication.Okay, here are a few questions:
1. Can you just tell me a little bit about your investment history? How did you start buying property? When did you start? Why did you start? How many properties do you own? Are the properties all in Alice? If not, where are they? That sort of thing.
I started buying property in 1984. I came home on military leave and my parents told me they were heading to Florida to look at land. “Do you want to come along?” they asked. Here was the deal: Airline ticket from Boston to Orlando return. Airport pickup and transport to property over near the Gulf Coast in Citrus County. All meals and one night hotel included. Price: $100. Even on my military pay, this was a deal. “Sure, Mom, count me in!” I replied and packed my bags. I had no intention of buying anything.
We flew out Saturday morning and when we were on our way back home Sunday afternoon, I was the proud owner of a one acre block of land in Citrus County Florida.
By the time they finished wining and dining me, I would have bought anything they had to sell. My parents bought a block and my mother loaned me the $1,200 down payment so I could get one. I was now a proud land owner and saddled with an $11,500 debt.
The development was more or less a big sandlot. One acre blocks of land – mostly sand – marked out along newly paved streets. “One day there’ll be houses for as far as the eye can see.” The salesman assured us. I wanted to believe it and I felt pretty good about the purchase because I owned something; something I could one day build a house on.
That’s how I got started in real estate. Not very sophisticated. Not well thought out. But, at least it was a start. Sometimes in life, getting started is the hardest part of any venture. I was past the hardest part.
Today, my wife Marieta and I own two three bedroom homes in this residential area. The sand is gone – replaced by green lawns, golf course, activities center, pools and many many nice upscale homes. Both properties are rented and are cash flow positive.
We moved to Australia in 1995. Since then we’ve been very active buying and selling in the property market. Our current Australian property portfolio includes residential houses in Golden Grove South Australia, Enoggera and Pacific Pines Queensland, Rosebery (Darwin) Northern Territory and three properties in Alice Springs.
2. Why do you think buying a property that offers positive cashflow is such a good strategy?
Positive cash flow properties are self funding. They carry their own weight. Negative cash flow properties can become very heavy and your portfolio can collapse under its own weight if you’re not careful. Let’s do a thought experiment. How many properties can you carry if each one costs you $100 a month? I don’t know, but there’s a limit. You’ll eventually reach a point where you have to stop buying properties; the negative cash flow becomes financially crippling. Now, how many properties can you carry if each one is earning you $100 a month? Unlimited!
So, for me, the goal is to get a property cash flow positive as soon as possible. Ideally, it would be best to have positive cash flow from day one. That way you can begin looking for your next acquisition straight away. Otherwise, you may have to wait until you get a positive cash flow before moving on to the next property.
3. Could you perhaps illustrate why you think the above can be a good strategy with an example of a property you either own or have owned in the past? It would be great if you could give me some reasonable detail about the property, such as when you bought it, what it cost, what you rented it out for, whether you had any problems with it, what it’s worth now, and what it was ie how many bedrooms and bathrooms etc.
Like I said, ideally, it would be great to get positive cash flow from day one. But, if not, then the question is, “How fast can I get it generating positive cash?” Here’s an example of a property I’m working on now.
It’s a four bedroom house on about 500 square meters of land in Alice Springs. We purchased it in mid 2007 for $308,000. It seemed like the perfect rental property. Well maintained, rendered brick exterior. Big bedrooms, two car garage in a very nice quiet area of town. And, we knew it was a good price; three bedroom units were going for the same price.
The property was previously under contract but the deal fell through as the buyer couldn’t get finance. The owner then accepted our low offer as he was keen to sell.
Now the challenge. How do we get it cash flow positive? At the time, interests rates were 8%+, so it would take about $450 per week; way above market rate.
I approached the situation in stages. Step one; get it rented at the going market rate or better. So, our agent found a tenant at $360 per week. Now, at least we had cash flow. Step two, raise the rent and/or arrange for lower interest on the loan. Six months later, we carried out tenant requested repairs and upgrades costing about $1,000 and raised the rent to $400. The tenant was very pleased with the repairs and upgrades and didn’t mind paying the extra $40 per week because it represented extremely good value in the current rental market. Now, step three, the property is coming up for lease renewal in February 2009 and we’ll be looking for market rent. This should come in somewhere between $450 – $500 per week. Coupled with the lower interests rates – which we’ll lock in for three years – will definitely move this property well into the positive cash flow arena. It’s taken a while, but we got there.
4. Why was that particular property such a good investment?
It’s virtually a perfect rental property. All the modcons, good neighborhood and close to town. Purchased slightly below market value, it should provide a steady positive rental income for years to come.
5. Does the fact that you seek out positive cashflow properties mean you are happy to accept lower capital growth than you could have perhaps achieved elsewhere?
First of all, capital growth and positive cash flow probably don’t belong in the same discussion. Here’s why. Positive cash flow is in the here and now. You either have it now or you don’t. You can see it (or lack thereof) from day one. You can measure it from day one. You get out a piece of paper and you write down the expenses and subtract them from the income (rent). If the result is positive, then you’ve got a positive cash flow property, if not, you don’t.
Contrast that to capital growth. Next time you go to buy property and the sales person says, “Don’t worry about the cash flow. The capital growth on this property is going to be huge. In five years it’ll double in value!” Simply respond by asking, “would you mind putting that in writing and include it in the contract?”
Capital growth is speculation. You don’t know. And that’s fine. It’s just that you should realize this before making a buying decision.
Capital growth is great if you can get it. But, you have to wait and see; it’s not guaranteed. Look at all the capital growth they’re not getting in the United States these days! The housing crunch in the US may have a lot to do with people believing that capital growth is guaranteed. Many found out the hard way – it’s not!
I believe you first must have a plan to hold the property (positive cash flow) and then capital growth becomes a very pleasant unexpected bonus.
6. Has the positive cashflow strategy been your guiding light or are you flexible in your approach to property investing? Do you think different strategies work better for different people at different stages of their investment journey? Explain.
I’m very flexible when it comes to property investing. Positive cash flow is the ideal but it shouldn’t stop you from getting a “good” property. The catch here is – as always – the investor. What may be a risky and wealth sapping for one person may be low risk and high return for another. Again, let’s do a thought experiment. I have no mountain climbing experience. How risky would it be for me to climb Everest? Extremely. How risky would it be for an experienced climber who has climbed Everest several times? Same mountain, different guy. It’s no different with real estate. You’ve got to get experience. That may mean reading a lot of books. Learn from other people. That may mean making a few mistakes. I can assure you I’ve made lots of mistakes along the way! (And I’m still making them; show me somebody who’s not making any mistakes and I’ll show you somebody who’s not doing anything!)
I’d like to share an example I’m going through now. I’m purchasing a property for $450,000. It’s currently rented at $400 per week. Bad deal. Not even close to positive cash flow. Then why am I buying?
The owners are asking $480,000 but can’t get any offers. They’ve got three things working against them. First, the house is leased until Dec 2009. Owner occupiers are not interested in waiting a year to move in. The property therefore is not attractive to owner occupiers. Next, the rent is locked in at $400 per week. This return is not attractive at all to investors. Most investors are not interested in getting saddled to such a low return investment. Finally, the owners – for some reason – are keen to sell. Otherwise, why wouldn’t they just take it off the market and wait until Dec 2009 to sell? They would probably get market value and then some for this unoccupied, stylish, modern home in the golf course area. From these three negatives, I see a positive. Now, this involves risk.
My thinking goes like this. By Alice Springs standards, this house is cheap. It’s located in the golf course area and has all the features folks are looking for in a rental property: 4 bedrooms, large carport, modern ensuite and family bath, beautiful kitchen with modern appliances. Pergola, patio in the back. Nice fenced yard on one of the quietest, nicest neighborhoods in Alice Springs. The reason the property is going for a low price is the owners are not willing to wait. For whatever reason, they’re keen to sell and sell now. I like working with keen sellers.
Interest rates are low and rents are skyrocketing. So, we lock in the loan at a low interest rate. Then we endure the negative cash flow situation for 11 months. I look at this negative cash flow period as a part of the buying cost. It’ll run me about $5,000 to hold the property until Dec 2009. So, add this to the selling price and ask, “At $455,000, is this still a good buy?” For me, the answer is “yes!” Then in Dec 2009 we go market rent which should run very high.
Right now the market rent for this property is probably $550 per week or higher. That’s not based on theory, but on rental prices we’re seeing in town. We just leased a 4 bedroom golf course property for $600 per week. At this price, I thought we’d be waiting a while to get it rented. I also thought we’d have to negotiate the rent down to some lower figure. Not the case. We had two excellent rental applicants and both had no issue with the $600 per week rental price. Also, I heard recently a 2 bedroom furnished unit near the golf course has just rented for $400 per week. These are historically high rents.
Now, my question is, “How high will the market rent be in Dec 2009?” Therein lies the risk. It’s a risk I’m willing to take.
7. Can you just tell me a little more about yourself, please. It is just for background info that I can sprinkle throughout the story. What is your profession? Do you have any hobbies? How much time do you spend on property?
I started my career in the US Air Force. My career path took me to Woomera (South Australia) in 1990 where I met my wife Marieta. She was the hairdresser in town and I used to get my hair cut a lot! We then spent four years in the US before heading back to Australia. Now I work as a computer engineer but I’m looking forward to one day pursuing real estate investing full time.
I enjoy reading. Especially, war history, biographies and real estate. I’ve read a lot of books on real estate investing. My reading has had a big influence on my investment strategy. But, you have to balance theory with the real world. That involves getting out there and doing it; getting out there and making things happen in your own unique way. As such, everyone’s story will be different.
My time spent on property investing is fairly moderate. I normally read the real estate section of the paper every week looking for potential bargains. Then I may call the agents and look at a few properties that spark my interest. I just keep repeating this process and every once in a while I buy something.
And that’s it. Thanks, Dave. Sorry to have sprung this on you with so little time to work on it. It is just the way things worked out. Anyway, I look forward to hearing back from you shortly. Please drop me a line if you don’t think you’ll be able to get something back to me by tomorrow.Cheers,Jeremy