by | 05, Apr 2022

Red Flags Passive Investors Should Watch For!

While recording this week’s episode, we tried something new! We are excited to announce that we will be live streaming our podcast recording sessions. Every Friday, from 3-5pm CST, you can watch us live from YouTube, or from Facebook. Check our social media for any updates and reminders! Come see what goes on behind the scenes, or ask a question!

Now for the episode… Red Flags.

We’ve talked a bit about red flags before, but in this episode, we are laying out some red flags that passive investors need to keep an eye out for!

How many operators should be on a deal? Return of capital versus return of cash? No preferred return?

Find out on this week’s episode of Multifamily Investing Made Simple.

Tweetable Quotes:

Self-awareness and self-reflection are superpowers.”  – Anthony Vicino

Instead of making negative statements that are saying I can’t, or that’s impossible, just reframing that same statement as “how can I?” does amazing things.” – Dan Krueger

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five rules of investing

The Five Rules of Investing

** Transcripts

Passive Investor Red Flags

[00:00:00] Anthony: hello and welcome to multifamily investing made simple. This is the podcast all about taking the complexity out of real estate investing so that you can take action today. I’m your host, Anthony Justino of Invictus capital joined as. Bye Dan. Where’d my big chips,

[00:00:28] Dan: Krueger crunch crunch. You know where they are and know exactly where crunch, crunch, crunch.

You like four bags,

[00:00:35] Anthony: Dan crunch, crunch, crunch, Krueger, next

[00:00:37] Dan: episode, save it, missed it. All right.

[00:00:39] Anthony: So for the listeners real quickly, if you don’t know, uh, we are streaming this live on Facebook. And that’s our goal moving forward is that we’re going to be doing all these episodes live on those channels. So if you ever want to join us rat, because he can’t wait until Saturday or Tuesday for the release, you want to see it as it’s happening and you want to see some in-between magic, uh, stuff that happens [00:01:00] a little will Smith,

[00:01:01] Dan: Chris rock action.

Sometimes I get

[00:01:02] Anthony: slapped weird. Yeah. Sometimes I like it. So, so the only way to know the way to see it as the tune in. Alright. Is that enough banter?

[00:01:11] Dan: Yeah. Okay. I think we got, yeah, we got weird. Quit made. It took a minute. So

[00:01:16] Anthony: yeah. You know, I don’t like to mess around. I just like to get right to the weird.

All right. So today we’re going to talk about something that we’ve done an episode on before. I don’t actually know if we’re going to cover the same topics or if these are new and different. So I didn’t do enough research to know. Now we were at the best ever real estate conference. Almost almost two months ago at this point, it wasn’t, it was like, wow, man, time flies.

Well, we were at this conference two months ago and, and Dan Hanford was doing a presentation on seven passive investor, red flags. And he went through his presentation. I wrote them all down and I was like, Hey, this would be a very cool episode where we can do a call and response where we’re like responding to the seven passive investing red flags.

Now here’s the thing. I only wrote down six. [00:02:00] So for copyright infringement purposes, I think that’s good. Like, cause we’re not going to be infringing on him. Know I have six passive investor, red flags that you should look out for as you’re going out there, vetting an operator, vetting a potential deal. And so Dan does not know what these are.

He has no clue. Um, he’s never seen a red flag in his life. I’m going to in a wave these in front of him and see if I can get him to charge.

[00:02:23] Dan: I probably won’t. Um, I’m just going to go with. No. Okay. Well, I just, I like red, but I don’t feel the need to charge when I see it. You don’t wear

[00:02:32] Anthony: very much red. I didn’t wear it very much color in general.

No, I’m usually pretty. That’s coming from

[00:02:37] Dan: shades of gray too. Yeah. I went through a phase where I wear like a lot of red. Really. Yeah, but you have to have a pretty good tan go in. Otherwise it kind of washing away if you’re all tanned up and in Mexico, that’s where the red comes up.

[00:02:48] Anthony: You haven’t seen me in a white t-shirt since the last time he saw me in a white t-shirt because winter I’ve learned is a very bad time for a white guy like myself.

I’m very pale guy to wear white. So it doesn’t help. It’s kind of, you’re wearing [00:03:00] white because you went to The Bahamas and in not too long ago. So you can still kind of. I just go really dark, dark, dark. All right. So enough of that, let’s talk about six passive investing, red flags, but wait, there’s more, there’s more something unrelated, actually, something completely unrelated.

That was all just burying, lead, getting excited. Uh, before we get into the meat and potatoes, you guys know I’m a dessert fan, so I want to have that first before I fill up on carbs. So, Dan, do you have. I asked how, like, I don’t know. Um, do you have any bad investing advice this week? Uh, no,

[00:03:35] Dan: I do. I do. I got some good stuff.

Give the people what they want. Bad advice. Uh, so I apologize. Live viewers. I’m going to start looking in this direction. Um, I’ll come back to you though. Don’t worry. Um, this week’s bad investing tip bad investigative advice is that if you have been seen good results with your investing, if you’ve been making returns, keep doing the same.

Keep it up. If it [00:04:00] works, don’t fix it. Yeah. If it’s not broken, don’t fix it. Yep. Yeah. Okay. It sounds halfway decent, right? I’m here for it. However, Ever I’m going to use this, uh, actually not that horrible advice, but I’m going to use this to reinforce a concept that I think means a lot to me and, uh, us in general Invictus, I think we all kind of share this, which is to be focused on or not focused, but you should tie your.

Uh, performance and your evaluation of your performance, not to the results that you get, but to the system and the process that you have. And the reason I say this is because a lot of people got into investing in, in some way, shape or form, whether it was stock market or real estate or whatever, in 2020, and in 2021, a lot of new participants enter the investing space and, uh, you could do some pretty dumb stuff and have it.

For a period of time. And then we kind of get back to the real world where things go two directions and you can’t just throw darts at a board and everything goes up. Put your money into something in April of 2020, right? So [00:05:00] the system and the process is the most important part with investing. Um, you could do everything right, and potentially have a bad outcome and you can do everything wrong and potentially have a good outcome.

And so if you’re looking at your results and deciding whether or not what you did was appropriate or not based on whether or not you made money, that’s that’s flood, you need to be looking at the system and follow the system. And if it’s a good system, you should have more good outcomes than. But you don’t want to look at the outcome and use that as your determining factor as to whether or not you’re doing the right thing.

So be process-driven not result.

[00:05:34] Anthony: I think we might’ve done this one on a previous episode recently, but that’s okay because it’s so good. It’s so important because, uh, the other spin or other angle I want to come at this from is that self-awareness and self-reflection are superpowers. And we talk about this all the time, where it’s really easy to fool yourself.

I think Richard Fineman, the famous physicist said you must not fully. And also you are the easiest one to fool. It’s so [00:06:00] easy to lie to ourselves and say like, I did everything right. I did, I’m doing the best I can or whatever. And you, if you look over the past decade or on a shorter window, maybe the last three years, like it’s been really easy to do well in the market.

Generally speaking, like I like to tell the story about my triplex, right? Where in nine months, and appreciate it $125,000. And there’s two, there’s two perspectives you can do. One is, wow, I’m an, I’m a genius or two. I’m really lucky. Right. And like being, being accurate about, which is the actual true case is important as we’re entering into this world where the past probably is not going to be exactly like the future.

And if you walk into it thinking, oh, I didn’t make any mistakes before everything was perfect. It was all rosy and hunky. Dory looks. Well, you might be in for a world of hurt.

[00:06:44] Dan: Yeah. Yeah. And the another reason that I touched on this topic for the bad investing device this week is that it ties nicely into the book recommendation, which is coming later.

So I’m a goodness sparing, a little lead there. What is it? I’m not going to tell you. I can see your paper

[00:06:56] Anthony: for a reason. It’s a buried, just listening to see just very short. [00:07:00] Buried his notes. I can’t see now.

[00:07:01] Dan: Um, what was it against? Oh yeah, but I was going to say that there’s this really interesting dynamic that people not dynamic, but tendency that people tend to have, where in Anthony is example where, uh, the randomness of the world, uh, goes in your favor.

People tend to take credit for that. And when the randomness in the world goes against you, people tend to, um, outsource the blame and say, oh, really good. The market was against me. And that’s why my house lost a hundred thousand dollars over this past year. You know, when you’re trapping, like is example, a lot of people will just, uh, walk away from that thinking, wow, I’m such an amazing investor.

Uh, I made all this money. Okay. It was really

[00:07:36] Anthony: interesting there too. Is that like, there’s, there’s extremes to this where, uh, I think a lot of people would look back on COVID and we’ve said this a lot during COVID and we heard a lot of other investors say this too is like, Hey, this is a thing that nobody could be.

Right. Like nobody saw this coming and there was unfortunately a lot of entrepreneurs and businesses that did not survive during that period. And the calling card that we hear over and over the refrain was, you know, it’s not [00:08:00] necessarily a reflection of them in their skill. It was like they just got caught in a bad situation.

Really bad timing. Definitely. There’s a lot of, there’s some truth to that that’s business, but even, yeah, but even at that ma at that magnitude, and I think this is the important thing is because it’s a lot of times it’s really easy to take accountability for things up to a certain point. But then beyond that, we’re like, Hmm, there’s nothing yet.

And it’s like, well, if you’re going to take responsibility for everything and really look at what you could have done differently, because there were businesses that were restaurants, just like you, that survived COVID. So why did they survive? Why didn’t you and what could you have done differently? And I think when you look at it through that lens and you go back to 2007, 2008, it’s the same thing.

A lot of people were caught completely off guard. Maybe that one was a little bit more like you should seen that common type thing, but still like. It’s really easy for me as well. And I’m not, I’m not so human nature.

[00:08:54] Dan: You’ve got to like proactively try to not do that. If you don’t think about this, the default [00:09:00] setting, I think is what we just said, taking credit when things go well and trying to find a scapegoat when things don’t.

I think that generally speaking, there’s different people out there, but I think most people probably. Had that direction if they weren’t actually

[00:09:14] Anthony: thinking about it. Yup. Yup. Uh, and maybe a good question to ask yourself when you’re going through that lens. Now that down that path of like, well, I just got unlucky.

There was nothing I could do is outside of my control or any of those things is to stop the narrative right there and say, well, what could I have done? Yeah. That’s probably the answer. There’s probably an answer. Probably somebody, somebody did find a way. Right? Yeah. So that goes back to something you’d like to talk about, which is from like Robert Kiyosaki, which isn’t.

Um, what was it? It wasn’t the what or

[00:09:43] Dan: the how, yeah. Instead of saying I can’t afford XYZ, ask yourself how I can. So instead of making negative statements that are saying I can’t, or that’s impossible, just reframing that same statement as how can. Uh, it, it does this amazing thing. [00:10:00] And normally I think I kind of poopoo a lot of Robert Kiyosaki’s stuff cause there’s a lot of fluff out there, but that was one of the big takeaways I got from rich dad.

Honestly, probably one of the only big takeaways I got from that book was just the reframing of a negative statement into a question because your brain automatically just starts to try to answer it. Even if you have no interest in finding the answer, your brain will automatically start to try to fill in that blank.

Um, so it’s really powerful little mental switch that I think people should think about. Do

[00:10:27] Anthony: it, do it, people just do it. All right. Now do it. Here we go. Let’s let’s, let’s do some passive investor red flags. And with this, if you’ve ever found yourself on the wrong side of a passive investment or an investment opportunity in general, um, it could be because you ignored one of these red flags and, you know, as you’re trying to learn and grow and improve, you should be asking what did.

Incorrectly, not necessarily what did the operators do? And, um, obviously you could point blame that way, but what could you, what could you have done? And it could be that you missed one of these red flags. So don’t you look over my shoulder, Mr. [00:11:00] Krueger, number one, this is an interesting one that we’ve actually been navigating over the last year.

Let’s do it. Okay. Ready? Red flag. Number one is an operation that only has one managing partner. When you hear that word, what comes to mind? Key man, risk key man risk. Yep.

[00:11:19] Dan: What happens when that guy gets hit by a bus? We talked about this so much. Yeah. And even with two guys, uh, one guy gets hit by a bus.

That’s 50% of things. Like there’s still a risk there until you get a good solid team. This is a risk. Now it’s a risk. That’s mitigated it. Mitigatable um, but you still have to ask the question like, Hey, what happens? One guy, if for some reason, I don’t know, maybe you have a stroke. Uh, you don’t die that you can’t function or you go blind and you can’t, you there’s a lot of things that could prevent somebody from fulfilling their duties.

And it’s a good question to ask. Hey, what’s, what’s the backup

[00:11:53] Anthony: plan? Um, I listened a lot to Jason Calacanis. Who’s an angel investor has a good podcast called this week in startups. And I wrote a [00:12:00] book on angel investing and one of the things that he looks for in founders of startups, And repair has to be a founder pair.

He’s like, I want to invest in just one founder because too much can happen. You can get hit by a bus. You can lose interest. Like you can move on all sorts of stuff. Now, granted, like in our situation we have two, two partners, right. But that still doesn’t solve the issue because one of us gets hit by a bus it’s like, does the other one know how to do the other ones?

Tasks in a lot of cases, the answer’s no for businesses. And so you have to be working on the systematization of your business in a way. Ideally any one person or multiple people could be taken out of an organization and it would still thrive. Yeah.

[00:12:38] Dan: I’d also argue that even when you get really, I mean, incredibly big and established, there’s still some inherent risks there that that could happen.

You look at apple, for example, as Steve jobs is kind of entering that. Death phase of his life and he’s got them easy now. I don’t know how to put it more quickly. [00:13:00] Yeah, that doesn’t sound any better though. There’s no good way of when that happened. When he became really clear where things were headed before he actually passed.

And, um, there was this kind of big worry that this company was just going to completely change when you remove an, a figure like that. And even in a company that. Big that established and you’d think that key man risk is completely eliminated. There’s still a perception of it there. Now, obviously things went on and did quite well under Tim cook.

So they, they did a good job of, of, of, uh, having that succession plan take out. But, um, that’s still something that was a topic that people were concerned on, even with a company as big as


[00:13:37] Anthony: So, I mean, it would be the same with Tesla or space X. You look at these companies and there’s like brilliant people involved in it, but by and large, you look at it and you’re like, okay, with.

Do they lose something very, very important and integral to the system and my thesis. And I love Ilan. I love everything that they’re doing across all their business. I think it’s super cool, but I think they have, they have inherent key man risk without [00:14:00] Ilan. None of those companies are what they are. So that’s scary.

[00:14:03] Dan: So, and I think he was like a big part of the capital for a long time. That’s just a funder. The idea. The, the engineer, the lead engineer.

[00:14:14] Anthony: It’s so crazy to me. He’s the chief engineer of space X that’s crazy. Anyway, uh, red flag, number two. Um, this one we’ve talked about previously a lot. Um, it’s the return of capital versus return on cash.

Can you break down that?

[00:14:32] Dan: Yeah. Okay. Uh, return of capital versus return on capital. So this is something that I think a lot of newer passive investors, they don’t really get the nuance here. Uh, but it is an important one. Um, and actually I don’t, did he give any context as far as like how the difference between the two is a red flag or.

[00:14:51] Anthony: Yeah. So his, his, his thesis. And I agree with this is that you should probably not do deals where your ownership percentage is being [00:15:00] diluted on account of being, having the capital returned. Right? So that’s, that’s the nuance. If you want to explain that one. And I generally agree, like if you’re, you should get

[00:15:10] Dan: the share.

Exactly. Exactly. There’s a lot of groups out there that will structure their deals, such that, um, a large part or all of their, their, uh, distributions to you as an investor are counted as return of capital as opposed to return on capital. And the big difference there is that, uh, from a tax perspective, uh, that should be a little bit better for the investor.

And that’s probably what they kind of lead with the operatives, the do this, where a return of capital is going to be taxed. However, If they are bringing your, if they’re depleting your capital account and that’s tied to your ownership percentage, what they’re effectively doing is very slowly buying you out.

And so at a certain point, when you’ve had all your capital returned, while you’re out of the deal, um, not a great deal there. I mean, maybe that’s what you signed up for. Maybe that aligns with what you’re trying to do, but for most people you’re going to miss out on a decent amount of the upside there.

So [00:16:00] ideally what you’re going to want to see is the return of capital utilized with the capital account for tax purposes. Ownership, the amount of shares you have stays fixed and you don’t get bought out of the deal. Yes. Your capital account gets drawn down. That’s kind of a tax thing, but you don’t want to see your 5% ownership on day one, go down to.

Two and a half percent by year three and then down to zero, by the time they get to selling the asset, then the operator, it works out great for them. They go from a 25% shareholder to a hundred percent shareholder at the end and all these passive investors get kind of whittled down. So that’s something to definitely be aware of.

Um, honestly, I don’t think it’s that common. I don’t think it is. It’s a thing that could happen, but. Maybe you back in the day, people, uh, did that more, but people are a little bit more sophisticated now and they look for this kind of stuff. Yeah. I

[00:16:49] Anthony: think it’s an efficiency of the market thing where honestly, I haven’t really, I haven’t really come across it in the last couple of years.

So I think it’s one of those things to be on the lookout for. I think it may be like

[00:16:58] Dan: two instances when it [00:17:00] was like a one-on-one conversation. Someone told us the way they did a thing and I’m like, that sounds like it sounds like that, but I’m not

[00:17:05] Anthony: harvesting. Yeah. Yeah. I think, I think it does still occur.

Um, it’s just, it’s not one that you probably know. You need to be aware of it and ask about it. But the chances of crossing that bridge is it’s few and far between I think, um, this next one, this next red flag. I actually don’t agree with. I don’t agree. This is a red flag. Um, am very controversial. Um, now I, I, I do agree with it in theory, but there are exceptions to every rule and this is one where I can find an exception to it.

So the rule is, or the, the red flag is that there’s no preferred return or preferred return. Now the

[00:17:41] Dan: preferred return catch up. So the lack of preferred return or catch up is the

[00:17:45] Anthony: red flag. So if there’s a deal and there’s no preferred return being offered, that’s a red flag. Um, I’m gonna put that one aside, cause I don’t necessarily agree with that one.

And I’ll give a, uh, a use case here. The other one, the no preferred return catch up [00:18:00] that is a red flag. Like I don’t understand why you would offer a preferred return. But not a catch-up where if it, and by catch, I mean, not going to cruel. Right. So the idea is I could say, Hey, we’re going to give you a 30% preferred return, but it doesn’t accrue.

So if I miss it in year one, then in year two, it doesn’t roll over. So it’s just, it’s silly.

[00:18:23] Dan: Yeah, no, I, I I’d say I agree with that. I think that, um, There’s and I’ve kind of talked about this concept in the past, where you can look at the different terms of a deal, whether it’s the pref or the equity split or the waterfall structure, and try to pick apart what you think is fair based on what everybody else is doing.

Right. And so if it’s not a 75, 25 with a 7% pref, if it’s got anything less than that, it’s a garbage deal. My, my, my comeback to that is like, what if Ray Dow. What if a Warren buffet would have, uh, any of these kind of rock star, best of the best investors come to you with a deal. And it’s like a 95, 5 where they [00:19:00] get 95% of it and the charging, all these fees and you stand to make a really good return on it.

By conventional standards, the terms look like crap. Um, the thing people need to focus on is, okay, what’s the risk in the deal? What’s the return I’m getting. How much am I putting in? As far as my, my, my resources, my energy, my time, is it just capital? Like, am I getting the returns I need? And am I getting the risk profile that I want?

And that that’s really what matters the most. So when it comes to the pref, like if Warren buffet comes up to you with a great looking deal and it’s just missing a pref, are you gonna say. No, no, it was probably a ton of crummy deals out there with people that don’t know what the heck they’re doing that have great preps.

That doesn’t mean you say yes either. So I’d totally agree with that one. And then the, uh, uh, the, the catch-up or I should say, I don’t agree with that one. I think the lack of a pref is not necessarily a bad thing, but the catch-up thing, the accruing re uh, prep thing. I think if it’s, if you got a pref, like, why not?

Why not? Otherwise, I think it’s just there for sure. Optics. Yeah.

[00:19:59] Anthony: The whole [00:20:00] idea of the no preferred return being like a bad thing or a red flag, like you explained it perfectly. There is at the end of the day, like it’s there, the preferred return is generally there to create alignment of interest between the limited partners and the general partners not assumes that there is a power dichotomy in this situation that the limited partners need to be protected from the general partners and predatory behaviors or whatever.

Right. But as you start to move up through the edge, a lot of investors, like nobody needs to really be protected from buy, buy from Warren buffet. Right? Because the idea is that Warren buffet doesn’t need to predate on you. I just turned predicate, pray, pray, pray on you say I’m making up words there, but the idea is, as you move up through the echelon of investors or operators, like they don’t need.

They don’t need you. Right. And they have the track record. They have the reputation that they can offer, whatever kind of deal that they want to, and people are [00:21:00] gonna take it because it’s still a really good deal. And so one, one good example of this, and I’m not even saying this guy’s a good operator, but Bruce Peterson, I love him.

So I think he’s a good operator. Um, he doesn’t offer a preferred return, but he also doesn’t charge any fees. And that’s the trade-off. He says, Hey, I’m not going to charge any fees. Literally, no fees. But as a result, you’re not getting a preferred return because that’s how I’m going to make my money is off the cashflows.

And so I can’t afford to be not paying charging fees and giving you a preferred return. And now you can for free. Exactly. And in that model, I’m like, cool. You’ve created alignment of interest and that’s really what the preferred return is. Is there alignment of interest? If Warren Buffett comes to me with a deal pay, my interests are aligned.

I’m good to go. I’m happy.

[00:21:43] Dan: Pretty much. Have you seen a sh a chart of Berkshire Hathaway? No. It’s like recessions don’t exist. Seriously. It doesn’t. It just keeps you

[00:21:54] Anthony: going to the moon. Well, it flies in the face. It’s like

[00:21:57] Dan: the insurance man, that business is just a [00:22:00] cash

[00:22:00] Anthony: cow. They say trees don’t grow to the sky, but they never saw Warren Buffett’s tree.

That man knows how to water, water, a coconut

[00:22:07] Dan: tree, half a million bucks a share. It’s crazy. All right, next one.

[00:22:11] Anthony: Split over next, next red flag. And this one, I do agree with. I agree with it, but then I also disagree with it and I’ll let you unpack that for me. So the red flag is that there is a refinance in the proforma.

[00:22:27] Dan: Okay. So if you see a refi package, that’s a red flag. Yep.

[00:22:31] Anthony: So I agree. And I also disagree and it’s interesting. We’ve gone through an evolution as operators and like presenting deals to investors where we used to only show. A single case, a single case where we were very conservative, we thought the world was going to end.

There was no refinance. There was no X, it was horrible. And we would show it to our investors and they would be like that. I mean, that’s, that’s fine. That’s fine. [00:23:00] It’s fine. Because they wouldn’t understand like the risk adjusted return profile of it. It was like, it was very skewed towards risk mitigation.

So then we started saying, well, let’s give people a little bit of a taste of like, cause when we present that, we’re trying to show them worst case scenario that we feel almost a hundred percent confident that we are going to overachieve. So we’re like let’s start presenting and showing them that case.

But also let’s give them some and some glimmer, um, or a glimpse into what we think is possible.

[00:23:31] Dan: Yeah, no, I think I I’m, I’m the same. I think I agree with this and I can disagree too, but the, the, I think the way it’s phrased is what bothers me, because he’s basically saying if there’s any reference of a refinance in the pro forma, then that’s a red flag.

Whereas I would say if the proforma is. Uh, predicated on there being a refinance that is a red flag. If there’s no illustration of what it looks like without a refi, where things go poorly, if the market gets soft, if you the, if the debt [00:24:00] market doesn’t just support a refi, like, does the deal still work?

If you take that out. And typically if you are looking at a deal where they only have a scenario with a refi and you do take it out, it looks pretty bad. It doesn’t work. So that’s definitely a big red flag. Only a scenario with a refi, but just the presence of a refi being in there shouldn’t be a bad thing.

Uh, like Anthony said, the way we present our deals, as we show the base case, without the refi and things go kind of poorly. And then we show a, what we call the stretch goal, which is the refi is included. We’ve got some pretty, uh, realistic assumptions about we actually think is going to happen. And so we show bolts.

We say, What, what it looks like when things go poorly. If, if they go poorly, not when, and here’s what things would look like. If things go really well and you can draw your own conclusions about what you think is more likely, um, you know, we, we just give people the information and they can do with, do with it, what they want, but there’s a lot of operators out there who are just going to show you the most rosy case scenario and pitch that.

And you have no idea, you know, what, how, how big is the downside here? [00:25:00]

[00:25:00] Anthony: Yeah, I think the, we used to preach on this one super, super hard back in the, if you go back to early episodes of the podcast, probably the first 50 or so, like were really against people showing refinances and having them deals predicated that’s the key.

It was like predicated and most deals that we were seeing at that point, they were super predicated on the refinance. You’d look at it and they’re like, we’re going to have a hundred percent refinance. We’re going to return a hundred percent of investor capital in year two. And it’s like, whoa. Okay. What happens if that doesn’t work out?

It’s like the deal just,

[00:25:27] Dan: and then you’ve got to ask, how long has your, your, uh, initial loan, like, do you have to do it?

[00:25:32] Anthony: Oh yeah. It’s it’s it’s two months. It’s two years and three months long. Yeah, it’s a, that’s a weird term, but so, but we we’ve, we’ve come around and shifted our perspective on how to present it.

And I think that is going back to something that you talked about before, about if it ain’t broke, don’t fix it. That was one of those things that wasn’t really. But we also saw the opportunity to improve it a hundred percent. So, because at the end of the day, it’s better to have an investor understand the full breadth and spectrum of [00:26:00] possibilities.

[00:26:00] Dan: It’s difficult to try to get. Enough information without giving too much. And that, that was part of it as well. While we were kind of holding back a little bit, it was because we didn’t want to overload people with all these tables of, of, of matrices and all of these possible outcomes. And then it would just get confusing.

So it’s like, how do we show them, you know, two scenarios that, that seems, it seems, it seems, seems

[00:26:19] Anthony: enough. For most investments. It is like most people like big surprise, surprise. They don’t really want to dive into all the spreadsheets. I know it’s crazy. You’re like what? I’m good at? All right. Number four.

Around 4, 3, 4, 5, 6, 5. I think we’re on five. Okay. I can count. What do you mean people? All right, here we go. Uh, passive investing, red flag, number five is the operators have no skin in the game and what he meant specifically by that is they’re not co-investing in the deal. Yeah, I agree. It’s a simple, yeah.

And there, there are caveats of like, yes, how much can they invest is based off of the bank and lending requirements, liquidity requirements. [00:27:00] Um, there are there handcuffs to this, right? Um, but generally speaking, your operators should be investing something I’ve seen people say like operators should always invest up to 2% or 20%.

And I’m like, nah, I don’t care what the percentage is. I wanted to know it’s enough that it hurts them if they lose

[00:27:16] Dan: it. Yeah, exactly. And then there’s something else to consider as well as what’s the type of debt, because at least on the types of deals that we’ve done is we, we acquire, uh, properties typically with local regional banks that require personal guarantees.

So there’s been some older deals where a lot of our skin in the game was. Uh, signing our personal assets on to that debt. That’s a lot of skin in the game right there. And on one of our last deals, we did get into a situation where we had way more investor demand than we had room. And we had to take our, uh, equity share down to the bare minimum just to allow room for everybody.

So there’s, there’s always going to be some other nuances at play there, but it’s definitely worth asking if you see your operator, not putting any money in the deal and they’re using non-recourse debt. So they don’t technically have that risk either. You got to ask if [00:28:00] this thing falls apart, is this guy even going to notice.

[00:28:03] Anthony: This is, this is a total side, uh, quest I’m about to take us on, but I do want to bring this up because I think it’s interesting, like, as you alluded to on our last deal, we had to, we had to reduce the amount that we wanted or the general partners wanted to invest into the deal. And if you think about the fact that deals are harder to come by.

And the reason that we started this business in general was to invest in real estate and then to find ourselves in a position where our own capital, which we want to put to work into a deal, we have to reduce it to allow, to make room for our investors because that’s good customer service and like it’s good business policy, but it was also frustrating in the sense of like, W what do we do with the car?

What did we do with this? Now we have to find another

[00:28:45] Dan: deal. Yeah. It’s one of our core values. We lead with value. We’ll put ourselves second in order to build the business and help everybody else around us, knowing that at some point some Karma’s going to come back our way. Um, you know, I think that’s, that was my philosophy is [00:29:00] I don’t want to get as much money into this deal and make as much money as quick as possible.

We want to grow this thing. We want to help our investors out because longterm everybody’s going to win from that. So yeah, we didn’t get as much into that one as we need it. I think we, uh, we got some Goodwill with our investors by being able to

[00:29:15] Anthony: squeeze people in. I agree. I agree. Okay. So our last red flag, and this is an interesting one.

I I’m, I don’t agree with it, but that’s because I can explain a way why I don’t agree with it. Um, generally I only agreed with one, we agreed with the one managing partner, the, uh, return averse on the, I think we agreed with most of these.

[00:29:40] Dan: Yeah, it was the refi one, I guess was the only one we had to.

[00:29:43] Anthony: Yeah.

And honestly, I don’t know exactly how he presented that if he was like, if it, if it ever says refinance runaway, like we’ll give him a

[00:29:52] Dan: may or may not be cherry picking names and eliminating

[00:29:57] Anthony: all right. Number last [00:30:00] and don’t, uh, don’t have any, uh, if, uh, if your opera. It’s not a full-time operator. That’s a red flag.

If it’s not the thing that they do, if they’re not, full-time committed to it. Yeah. That’s a red

[00:30:15] Dan: flag. It’s I’d say if you got a one man show operator and it’s a part-time deal then. Yeah. Yeah. If your main contact on the operating team is doing a part-time, but there’s multiple general partners. I could see an argument where, I mean, I guess I’m guessing the context here is that it’s one operator and they’re doing it.

But I’m guessing that’s where they’re going, which I don’t agree with.

[00:30:40] Anthony: I would agree with that. I look at it as it’s not about the operator, because it’s, I know in this space, a lot of people operate independently by themselves. Generally. I think those are capital raisers, but generally operators, people who are actually asset managing and running the assets and the property management team, like they tend to be a company or [00:31:00] an operation, more, more robust.

And so when I look at it, Don’t invest in somebody that’s not part of a full-time operation. Yeah. Right. Because whether or not I’m full. It doesn’t matter if we have, you know, the, the staff, the personnel in place that are full-time operating the thing. So that’s kind of, that’s how I justify a nuance it a bit because I, you know, I have my fingers in a lot of different businesses and I wouldn’t say that I’m full-time in, in many of them, but I don’t think that would be, I would look at that and say, well, the reason for that is because that is a full-time operation being run over here.

So it’s like, if Ray Daleo, you don’t care if Ray Daleo is putting in for, if that is all he’s doing, he’s got so much going on. Like if he’s only putting five hours a week and he’s like, You’re not going to not invest with them. So that’s how I just,

[00:31:44] Dan: yeah. Yeah. I guess the example would be, if I were a one man show, if someone was investing in my, one of my deals and I had a full time.

Like I used to as a corporate analyst, right? So 40 hours a week, Monday through [00:32:00] Friday, roughly eight to five or whatever, I’m in an office doing something completely unrelated. And I can’t really attend to all the things that need to happen. And I just picked up a couple of properties down the street and I’m kind of managing myself, like that’s the kind of operation.

I think that he’s trying to maybe

[00:32:14] Anthony: draw attention to the caveat I’ll make here is cause that’s a really interesting one is if you don’t own your scale, Yeah. Like don’t invest with somebody who doesn’t own their schedule. That’s a

[00:32:24] Dan: big part of it though, because you don’t have the ability to insert yourself when you need it.

Which I think is the maintenance.

[00:32:30] Anthony: Yeah. Cause if I’m a full-time W2 worker and I’m, I’m killing it, then, like I can’t just leave in the middle of the day, depending on the job that I’m doing. Probably. Yeah. So maybe that’s the caveat here that that’ll make this work, but those are the red flag. All

[00:32:44] Dan: of them.

There are no more, literally you don’t have to pay attention to anything else. You pay attention

[00:32:48] Anthony: to these six. I know Dan’s presentation had seven and I only wrote down six. Um, but ignore that other one. You only need these six. That’s all it matters. All right guys. So you [00:33:00] alluded to a book earlier and then you flipped over your pages because you didn’t want me to read it and spoil the good news.

Um, Uh, th the suspense has been killing me. Like literally I’m dying.

[00:33:12] Dan: I don’t know. I don’t want, I don’t know if I want to know. I’m not going to

[00:33:15] Anthony: deny the listeners the pleasure of your,

[00:33:18] Dan: I don’t think that episode. Well, uh, I don’t think we’ve earned it. Yeah, I think we should just do this whole thing again.


[00:33:24] Anthony: I’ll tell you what I tell you. What if you guys thought this episode was, may get enough, go over to iTunes, drop a review, go to Facebook or wherever and like drop a review. I’m saying ma good enough. And then we’ll give you the book recommendation if you thought it was excellent. Cool. Awesome. Like waltz will give you the book recommendation.

If you thought this episode sucked, don’t leave a reveal. We’ll still give you the book recommendation. Yeah.

[00:33:50] Dan: Yeah, I’ll do it one way or the

[00:33:51] Anthony: other, the recommendations coming at you. Open your ears. Get

[00:33:54] Dan: ready here. It comes pretty soon.

[00:33:57] Anthony: Is it called?

[00:33:58] Dan: No. No, I’m [00:34:00] installing now. All right. Let’s get to the point.

Book reco for the week is, uh, thinking in bets by any, do, have you heard of that?

[00:34:11] Anthony: Yes. No. Yes. Isn’t that a that’s Howard letters.

[00:34:15] Dan: Uh, I don’t know.

[00:34:16] Anthony: I used to follow, I used to it. So a little known fact is, uh, oh, you played, I played poker professionally. That’s how I paid my way through through college. Okay.

So yeah.

[00:34:25] Dan: You said you’ve read

[00:34:26] Anthony: this? Uh, no, no, no, but I know.

[00:34:28] Dan: Yeah. So, uh, let me get to the rest of the people caught up to the, Anthony knows what this is, but for those of you who just. Yeah. So this is Annie duke was a professional poker player, turned a business consultant, right? And so she took the philosophies of poker and I’m thinking of things in statistics and probabilities and applied that in a business setting and got, uh, effectively, I think, built a business.

I didn’t really dig into much of her background, but I’m assuming that she took the lenses that you use. Becoming a really good poker player and applied those in a business setting to get people away from thinking [00:35:00] about, uh, things as good or bad or right or wrong, and try to think about things more on a spectrum of different options, where instead of saying, ah, that’s never going to happen saying, eh, there’s probably only like a 10% chance that that could happen, but there’s a chance.

Right? So trying to get people to think more like statisticians and kind of flipping. That lens or not flipping lens, but, but adding some additional lenses to look at things through, with respect, to trying to grapple with the, the randomness of life and the, uh, inherent presence of luck that is always going to be involved with things it’s not just about skill.

There’s always a little bit of luck involved and, and it’s, it’s tough dealing with randomness in the world. The human brain doesn’t really like it, but if you could try to back up and just look at things through statistics and probability, You’re going to have a much better time dealing with the fact that kind of, like I mentioned before, you could do all of the things right.

And have a bad outcome. Sometimes that’s just bad luck and that’s just statistically, it’s going to happen sometimes. Um, and, and she also kind of touched on the point that I made quite a bit, that the process is the most [00:36:00] important thing, not the outcome. Um, so it all kind of ties together. That concept is one that I’ve found just incredibly important to recognize, especially in investing, but realistically in any kind of business endeavor, I think.

That kind of way of thinking about things that the process is more important than the result is is, is big and, and investing in what we do. It’s, it’s huge. Shout out

[00:36:23] Anthony: to goodbye. Yeah. I’ve never read that book, but I love the idea of thinking and probabilities. It’s something that I, when I’m doing my decision journal, there’s an entry in there for.

What are the different outcomes that I think are possible and then thinking hard and ranking them in terms of what I think the probabilities of that outcome is. And just that one exercise is very, very powerful. I’m so into probabilities, actually, I don’t have ever told you the story of the quantum Quickdraw no.

Okay. So this is, this is totally, totally tangential has nothing to do with real estate investing at all. But as some of you guys know, like in a past life, I was a science fiction author. Um, and I wrote a story called quantum. [00:37:00] Where quick draw quantum quick draw, like a six shooter. Yeah. And the main character, uh, he was chance the minor God of luck.

And his weapon was a six shooter that fired probabilistic. So bullets that you never like yeah. Bullets that you weren’t sure. Like they had a probability of hitting, but you didn’t know what the probabilities were. So that’s interesting concept as probabilistic. So that’s a lot of fun to say that. Yeah, there you go.

So that’s going to do it for us guys. I don’t know if you got any value out of any of that. Um, I got a new word I’m going to start to use. It’s really fun when you say. For the listeners at home, just say it in your car. Probabilistic. It’s awesome. And now if you ever see that in a movie or a TV show, like you’re going to know where

[00:37:45] Dan: you made it up.


[00:37:46] Anthony: not like a thing I have literally, I, I like geeked out when I discovered it. When I came up with this word, because I was like, I can’t believe I’ve never heard another person use this word. It’s like copyright TM. Um, Anthony 11. [00:38:00] Anyway, so that’s gonna do it for us guys. Just a favorite, go drop a review, give it a little.

Or hate. We’ll take the hate too, and we’ll catch you in the next episode.

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