Monday, May 14, 2012

Sometimes It's Best To Take A Pass #4.0: Walking Away From A Few Million Dollars... Part 1.

That's right. I just walked away from a couple million dollars... and I couldn't be happier. Let me explain, in what will be a 3 part post.

First, let's rewind to roughly 2.5 months ago. At something like 2AM, I was emailed about an apartment complex in my home state's capital that was reduced in price from $2mm to $365K. From what I could tell, it had obviously been boarded up for a long time and would likely need a lot of work. The whole thing was interesting to me, sheerly from an observational standpoint, as well as from the fact that I have a history of buying some of the shittiest looking pieces of property in the world, fixing what ailes it- generally just cosmetic stuff, and then selling or renting them out (generally followed by a healthy refinance). Since my great uncle has more than a few rent houses in the county that this complex was located, in addition to the fact that he likes to look at various real estate deals, I figured that he would find it of interest too- so, I shot him an email with the property info. Like me, he was very curious about the complex. After he emailed me back, a text message to my Realtor and 2 hours later, the 3 of us met in Frankfort with the listing agent to take a look around the 126 unit complex. As you can see from the screen shot of Google Maps below, the thing was absolutely huge. The main building was literally the length of a football field.

Upon entering the largest of the 3 buildings, containing 86- 1BR apartments, we quickly saw what was pictured above: that there was extensive damage to the facility... based on the price, that wasn't a surprise. Wiring had been torn out, copper piping was destroyed, and ceiling tiles were strewn about the floor like dead soldiers on a battlefield. Not only had the 3 inch copper pipe that supplied water to the whole building been cut out (which is freaking huge stuff to find for an active plumbing system in Kentucky...) and a whole lot of the copper wiring in the hallways was gone. However, there was still a good amount of copper in the electrical panels and nothing had been ripped out of the walls.

When walking through the building with a host of flashlights in hand, we discovered that the copper water pipes inside of the individual units had very little damage to them... Other than the connectors for the hot water heaters, virtually all of the copper was intact. This meant that hooking everything up would be a bit time consuming, but relatively easy. Basically, the whole of the building was a jigsaw puzzle that we would pay licensed plumbers and electricians ~$45 bucks an hour to fix. Overall, not a terrible problem to have. These were the problems that everyone coming into the building would freak out about, but, were not a problem.

The next thing that we noticed was that the building was well insulated. While the outside temperature was about 80 degrees on a late February day, we needed jackets inside of the building... when looking for holes in the drywall to see what kind of insulation it had, there were very few that were big enough to let us know much. When on the 3rd floor, we walked under an attic access point and felt hot air billowing out, almost as if from a turkish bath... again, another decent sign as to the craftsmanship that went into the building.

After this, we we focused on the fact that the main building had a sprinkler system. Again, we were reassured that when all the systems were in proper working order, that the building would end up being very safe. We also noticed that almost all of the window AC units had been stolen or destroyed in an effort for copper vandals to get their next fix... One of the AC units had only a single cut in it- the looter seemed to have gashed himself rather badly and bled pretty profusely as he fled from the scene.

It also seemed that in various instances, the vandals had "set up shop" so to speak in the various hallways of the building where there was still working electricity for them to see the full extent of their destruction. The truly ironic part, is that a lot of why they had lost power, was due to their own vandalism when cutting out copper wiring.

Despite the extensive copper vandalism, most of the appliances remained and seemed to be in decent enough shape. A lot of them were old, but the appliances (just like the plumbing problems) were easily fixable by knowledgeable people, and could be cleaned up with very little expenditure. Literally, the picture of the stove on the left was the worst one in the place... If you gave me an hour and $20 dollars for cleaning supplies and new burner pans, I could have the thing so clean and shiny that you would be willing to eat off of it you had never seen the "before" picture of it. Off the cuff, we figured that we could pay a squad of cleaning ladies ~$10 bucks an hour and they would average anywhere from 2-6 appliances an hour, depending on how dirty they were.

As we continued through our discovery of the main building we continued seeing things that we liked that would scare most people away. All of the drop ceilings had been ravaged and left for dead on the floors, creating a terrible mess. A few units smelled of grease, animal, and likely human urine- these are several of the smells that often mean that there is money is to be made on a piece of property. We ran across dingy clothing, used needles, bent spoons (for freebasing), used condoms, and fly tape where insects were practically begging to squat for real estate.

Moving on to the other 2 buildings, we saw that the damage was pretty similar, but due to the scope of the project necessary to get them up and going, they would obviously be the ones that we brought online first. One consisted of a total of 12- 2BR units and the other had 28 efficiency apartments. Both had 2 floors, firewalls, but no sprinkler systems.

There were other things that we liked... All of the showers were stalls and there were virtually no bathtubs. We surmised that because of this, the complex was probably elderly housing at one point and that it seemed like a great use to put the property back to. This would be especially true as none of the utilities were separated and any buyers would be footing the bill. While a lot of people are scared of paying utilities, we figured that we would be able to control the costs through various redundancies in our systems, hedging, and that we would be protected by the ridiculous margins that we should be able to get... Aside from that, we immediately thought that with the elderly, we could give them a flat rate for rent and their utilities that wouldn't change on a monthly basis, and that would do wonders for them, since most are on a fixed income. With the baby boomers not getting any younger, we figured that this had the potential to be a win win for everybody involved since we figured we could rent the units out very affordably.

After surveying the property, we saw that there was yet even more that we liked: abandoned buildings in the area... and from cyclical industries nonetheless! A car dealership was amongst them. As the economy would rebound and the apartment complex came online, the area would likely come up again. If that wasn't enough, the houses around it were all pretty nice- the property was certainly in a middle class neighborhood, consisting of people that had generally lived there since the sub-division was built... Generally, with these types of properties, the neighborhood that it sits in brings the area down... that was not the case here. The neighborhood brought the property up!

After my uncle and I got a chance to talk about the situation, we decided that despite our never having done business together (other than founding a small family investment partnership), we would form an LLC and buy the complex... We offered $385K for the complex, simply to come in  right above the asking price; just enough to out bid the people that would say "WOW! $365K?! SURE, I'll take it for that!" But wouldn't be so much as to make us overpay. It took a week for the bank's legal council to sign our contract as he was in the hospital, but, they got back with us and at that point we had 21 days to determine that the property would meet our "intended use" as per the contract we sent them.

We were raring to go. The from the instant that we had a good idea that we were buying the complex, we started the processes of lining up financing, meeting with a plethora of inspectors, and even more contractors. This was no doubt going to be a long and arduous process to the buildings up and operational... After all, this complex alone would account for ~2.5% of the rental units in Frankfort! We were chomping at the bit to get the ball rolling.

More to come...

Disclosure/Disclaimer: I and various members of my family (who have some accounts that I manage) are generally long real estate and investments based on real estate. I ultimately did not buy the complex that I am speaking of. I reserve the right to change any of our positions at any time. This is not advice of any kind and is solely my own opinion. Always do a ton of your own research in regard to anything that I say, do, write, or so much as even think about.


K Prasad said...

Very interesting post. Im very interested in these types of situations. It is really difficult to find original content like this. Keep up the great work!

Anonymous said...

I'm looking forward to part 2!

Tom L