đź“– The Story of My $30,000 Loss
Happy Tuesday!
Here is an Idea, an Action, and a Question to consider this week.
Idea
I was so ecstatic after my first flip success that I was ready to jump into the next one as soon as possible. I had turned $250 into over $18K on my first try! Surely I’d have even more impressive results the second time around. After all, I was a “seasoned” investor at this point, right?
I couldn’t have been more wrong.
When I was an instructor pilot, I noticed a scary trend among new pilots after their fourth or fifth flight. Pilots who until that point had been conscientious and cautious would tend to start missing checklist items, fly passes that were too close, and conduct a range of unsafe maneuvers.
The trend puzzled me. Wouldn’t pilots be the most unsafe on their very first flight, not on their fourth or fifth? The F-35 only has a single seat, so you go up for the first time all by yourself. Sure, someone like me follows you in a separate jet to help you out, but there’s not a ton an instructor can do beyond talking you through various situations.
Like clockwork, though, right when the pilots got more independence and went out on their own maneuvers beyond my visual range, I would see the following problems frequently arise:
Channelized attention––getting tunnel vision and over-focusing on one aspect of the flight, like staring at a flashing red light and ignoring everything else
Task saturation––taking on too many tasks at once without having established essential habits or putting backup systems in place
Complacency––thinking that you had more awareness than you actually did or a false sense of confidence, like trying to do the preflight checklist from memory and forgetting a step).
Because these were common issues, the instructors would ensure to brief the students prior to flying a sortie (or “mission”). We’d warn the students that having a little experience could be more deadly than having none because overconfidence was typical as they got more comfortable in the jet, which would often lead to one of the problems listed previously.
In hindsight, when I took on my second flip, I should have prepared myself the exact same way I did my student pilots!
High off the win of my first flip, I found my next opportunity quickly. It was a deal from a local investor that I knew. He’d recently purchased a property and was looking for a partner to help raise money for the rehab, run the project, and split the profits fifty-fifty. I jumped at the chance to work with him on the project. Due to the nature of the purchase, our due diligence timeframe was compressed, which resulted in a rushed inspection process. We were willing to accept a bit more risk and a shortened timeline because the profit margin on this deal was significant. After we established the structure of the deal, I was able to raise the money needed for the rehab relatively easily.
I thought I was on my way.
The consequences of our lack of due diligence were apparent shortly after construction began. The house had beautiful cedar siding that we budgeted $8K to repaint. When the contractor came to finalize his bid, he touched the siding––something I hadn’t done when I inspected the property––and his finger went right through it. “Well,” he said, “this siding is definitely rotten.”
It turned out 90 percent of the siding was rotten and needed to be replaced.
That hurt, but I was still optimistic. Every project has unexpected setbacks.
Then the inspector started removing clumps of wood from the house with his fingers, and we could see there was no moisture barrier underneath. The previous owner had never installed one between the siding and sheathing, which meant we had to install a new moisture barrier as well. Eventually, we removed some of the siding so we could see the sheathing beneath. It, too, was rotten and would need to be replaced.
My original planned budget of $8K for repainting the siding quickly ballooned to over $35K.
And the bad news didn't stop there. The issues with the siding are just one example of a slew of problems that arose––setbacks that could have been mitigated had I completed a more thorough inspection before starting the project.
Luckily for us, we’d started with that large profit margin. From our initial budget, we had the potential to make over $250K in profit. We eventually finished the rehab, and the end result was an absolutely gorgeous property. We found a buyer, and we were set to make $30K in profit. A lot less than that initial $250K, but still a win.
Unfortunately, while we were in escrow and prepping to close, the 2020 COVID-19 pandemic hit. No one knew what the crisis would do to the real estate market. With the country shutting down, our buyer freaked out and backed out of the contract, sure that the market was going to tank.
We relisted the property and negotiated an offer from a second buyer who was also pessimistic but willing to buy. His offer was $60K less than the previous one, however, which meant my partner and I would end up losing$30K if we accepted this offer. We had a choice to make: take a $30K loss now, or pass on this offer and risk a potential $100K loss if the market did take a dive.
We decided to accept the offer and take the $30K loss.
Well, in the end, what came to pass was that the market took a heavy bull run. If we’d have had a crystal ball, that would’ve been a great time to predict the future!
I share this story with you for two reasons. First, to demonstrate that real estate is not always roses and butterflies, no matter how hard you work.
Second, to show you the power of relationships. I had investors in this deal that had gone wrong in many ways. Per our agreements, I would have been within my rights to pass the financial loss on to them and move on to the next deal––I could have told my investors, “Sorry, guys! It was a loss. Here’s your money back minus $30K.”
That’s not what we did, though. My partner and I took the $30K loss ourselves and paid back our investors their initial investment plus their preferred interest.
Not only that, but we spared them no details when we described what happened. We admitted our lack of due diligence and risk analysis with the profit margin. We described the surprise in expenses of the siding––and of the foundation, the massive termite damage resulting in 80% of the garage having to be rebuilt, etc. We told them that we appreciated them and would continue to do everything we could to protect their money if they invested with us again.
What was their reaction? These same investors are still investing with me today.
While they understand that I cannot always guarantee they will make money, they know that I will do everything in my power to protect their hard-earned capital. They appreciated the authenticity of my response to the extreme situation and my appreciation of the relationships that we have.
Ultimately, my reputation wasn’t tarnished at all by this loss––if anything, my reputation was strengthened. It would have certainly been hurt if I hadn’t returned their money or if I hadn’t been transparent, because the details of the project would have come out eventually.
If you protect people early on and build those relationships, they’re going to stay with you. They’ll trust you because, at the end of the day, that’s what people who invest in real estate want. They don’t like the stock market because your investments succeed or fail on the whims of people you don’t know. But in real estate, you can invest in people you know, like, and trust.
Action
Before jumping into a new real estate deal, take the time to reflect on lessons learned from past projects. Implement a mandatory checklist that ensures thorough due diligence, particularly in areas that might have been overlooked in previous flips, such as property inspections, repair budgets, and partnership agreements.
Question
Have you ever experienced overconfidence after a big success? How did that impact your decision-making in your next venture?
See you next week,
Matt “Roar” Gardner
Real estate investor-agent, Author of Supersonic Real Estate: Light Your Afterburner to Accelerate Your Investor-Agent Career (Coming Soon!), and keynote speaker
PS: My new book, Supersonic Real Estate, is now available on Amazon! Grab your copy today. And let me know your thoughts. I love feedback!
