James: Hi Audience. Welcome to Achieve Wealth Podcast, this is James Kandasamy. Today we have a guest who is, I would call a super passive investor. His name is Jeremy Roll. Jeremy has been investing in real estate and businesses, starting in 2002. He left a full-time job in the corporate world in 2007 to become a full-time passive cash flow investor. So keep in mind that, underline that full-time passive cash flow investor. He has invested more than 70 opportunities across more than 1 billion worth of real estate and businesses. He is a founder and president of Roll Investment Group. He manages a group of over 1000 investors who seek passive manage cash flow investment in real estate and businesses. He’s also a founder for Investors by Investors, a Phoebe, a nonprofit organization that launched in 2007 with the goal of facilitating networking and learning among real estate investors in a no sales pitch environment. Jeremy, welcome to the podcast.
Jeremy: Thank you. Thanks so much for having me here. I just want to apologize in advance. I’m a little sick so my voice is a little off, but I’m very happy to be here. Thanks for having me.
James: You sound perfect. So yeah, I like to put a label on your profile, especially because you have invested in more than 70 opportunities. So is this all passive investment across different LLCs?
Jeremy: Yes. I’ve never been an active investor and in fact, I have over 70 different opportunities right now. In fact, I’ve been in over a hundred over the 17 years that I have been investing for sure easily. So I like to be what I call like hyper diversified. I just loved diversification to help reduce risk.
James: So how many LLC are you invested currently?
Jeremy: I don’t know the exact number and it changes all the time because like for example, in the last two years, I was involved in 24 sales because it’s good timing to sell and I’m currently involved in several things that are under contract to sell and I made several investments earlier this year already. It’s early 2019 and when we’re recording this so I don’t know the exact count. Actually, I’m going to sit down with my accountant and a couple of days before taxes, I’m going to actually recalculate it all. I estimate right now is roughly about 70.
James: That’s what happened when you’re passive ready, don’t even know how much LLC you’re investing in, which is perfectly fine, right? As long as the money coming in I guess.
Jeremy: That’s exactly right. It’s all about the passive cash flow.
James: Yeah. So why did you choose to be a passive investor?
Jeremy: So, the first I’ll say is that I started looking for different way to invest out of the stocks, and bonds in 2002 after the DOTCOM crash. For me, the two pieces that I got fed up with with the stock market after the DOTCOM crash back in 2001, was the volatility because I’m a really low risk, low and steady guy so to watch the market go up and down 30% in a year, it just wasn’t for me. And then more importantly, frankly, the lack of predictability for my retirement account. That’s actually what bothered me the most. So not knowing where my retirement account would be 10 years, 20 years, 30 years, it didn’t seem like a good retirement planning for myself.
And so I started looking at different ways to invest. And the reason why I focused on passive is that I was way too busy in the corporate world at the time to do anything active. I was actually working at Disney headquarters in Burbank in Los Angeles at the time and I focused in on passive cash flow, kind of lower risk passive cash flow, because that’s what I thought was a solution for me for that lack of predictability. So I focused on more predictable cash flow in terms of what I try to find.
James: Okay. Got It. Got It. So you have been investing since 2002 and you say it here in your bio, you invest in real estate and businesses. Can you split the percentage within real estate and businesses? How much percent in each one of those?
Jeremy: Sure. Yeah. I would say I’m very highly concentrated in real estate and even amongst real estate, even though I do single family and all different types and commercial, I strongly prefer commercial. And the reason why I prefer commercial is really that I like tenant diversification, back to that diversification theme. So for example, when I invested in an apartment building, I usually target a hundred units or more and a mobile home park, it’s going to be 75 lots or more if I can find that. Self-storage, I prefer 800 units or more, maybe do a little bit less.
But the point is that I love having diversification and so that’s really where the good fit for me was. My bread and butter are really finding a stabilized 80-100% occupied, class B type of commercial real estate property. And I just want to go to sleep tonight, wake up tomorrow and not much has changed because I live off the cash flows so I’m dependent on the predictability of the cash flow. But the commercial real estate is really my number one focus.
James: Got It. Got It. So towards your experience, you have seen a lot of deals that come across your table, right? How many percents from the total big funnel that you’re seeing, how many percents that you’re choosing to invest? First of all, how many percents you are choosing to at least evaluate? Let’s go before that, how many percents that you immediately kick it out and why do you kick that investment out?
Jeremy: I don’t track the numbers myself, so it’s hard for me to really predict. This is gonna sound crazy, but probably right now because I believe we’re at the end of the cycle, I would have to say that, I mean, I’m easily not investing in certainly less than 1%. Like right now, to make it worthy of even looking at, because I’m very concerned about pricing across all the asset classes anywhere, so if it’s not 10% or better below market value, like true market value today, which is very difficult to find, it’s just like a nonstarter for me. I just feel like the cap rates are too low, I’m not comfortable and I’m a much happier seller. So I’m mostly on the sidelines at the moment, waiting for a downturn and an eventual adjustment and pricing to get back in. But right now, it takes a lot for me to look at a deal, I have to tell you.
James: So you’re saying right now you would reject 99% of all deals that come across your table?
Jeremy: Yeah, I’m very pessimistic in that if somebody sends something to me, I’m almost going into like, this is never gonna work right now because if it’s a market rate deal, I’m not going to look at it. So I’m very pessimistic when I get something.
James: But what would you look at? What your sniff test?
Jeremy: Well, it’s going to depend on the asset class but the starting point for me is, is the price standing out to me? Is the cap rate standing out to me where I think it’s very different from the normal market rate deal? And I’m also as a structure for investors, at least aligned with what I look for. But the number one thing that I’m weeding things out on right now easily, is cap rate in pricing. It’s really that simple.
James: But how do you decide the cap rate? Because the cap rate changes by market and value add entry cap rate is always very real, right?
Jeremy: Great question. So I have a very specific target that I have, so I’m kind of in a small box. Of course, there are a thousand ways to invest, there’s nothing wrong with them. But the way I do is I look for something, it’s typically 80 to 100% occupied, stabilize and may or may not have any value add upside, it’s optional. Class B property in an area B market outside of California because I looked for higher cap rates and higher cash flow and then I start to drill down from there depending on the asset class and little tweaks in terms of what I’m really looking for. So, I can give you all kinds of examples, but that’s kind of high level. And so if something doesn’t fit that box, to begin with, then it gets discarded and then I’ll take it from there.
James: What about operators? How much emphasis do you put on the operators?
Jeremy: Honestly, I tell people that I believe that the operator is more important than the property. I, I truly believe that the number one thing to look at is the operator whom you’re making a bet on. And then number two thing is the property itself. I want to be clear, the property is extremely important, but to me, whom I’m making a bet on is vital. I lived like a couple of blocks south in Beverly Hills in Los Angeles, so I’ll use this example. I can invest in the best building on Rodeo Drive, which a lot of people have heard of, with the best tenants, in the prime area, and it can be 100% occupied but if the manager runs it into the ground, it will get foreclosed, we’ll give the keys back to the bank and I literally have nothing, and it didn’t matter where the property was or how good it was, it’ll all come down to the manager.
So for me, always making a bet on somebody. And in passive investing, I like to tell people that I trade control for diversification. So because I’m giving up control, whom I’m making a bet on is absolutely vital.
James: So you’re basically number one criteria is the operator. I mean, if you don’t like the operator, of course, you’re not going to even look at the offering,
Jeremy: Absolutely. If I already know that I don’t like the operator, I’ll never look at the offering.
James: Okay, got it. So that’s probably the first sniff test. If you do not know who the operator is or you did not know the credibility, you’re just not going to look at even the offering.
Jeremy: Well, no, I can jump into a deal where I’ve never talked to an operator before but I would say that the easiest first pass for me, at the moment, certainly is cap rate and valuation because that knocks out over 99% of the deals immediately. It doesn’t matter who the operator is at that point. You can be the best operator that I love but if I don’t agree with the pricing, I’m not even going to look at it.
James: But don’t you think the operator knows about the deal more than passive investors?
Jeremy: That’s a great question.
James: So the cap rate and the opportunity.
Jeremy: Yeah. So two things for that. Number one is, you and I can have a different opinion about what we’ll pay for an apartment building, right? And so neither is necessarily wrong, it’s just subjective. So I have my limitations of what I’m comfortable with and an operator may have a different opinion. And so as a passive investor, you have to have your own opinion about what’s okay, what isn’t okay as far as what you’re comfortable with, aside from what the operator’s doing.
I will say this as a second answer to that, which is my approach to operators is trust, but verify. And what I mean by that is they’re going to know much better than me how to run any property of any asset class, no matter how many I invest in is a passive investor, that’s just the fact. What I need to do myself is trust that they know what they’re doing if I get comfortable with them, but I always verify a lot of things up front, including did they do proper analysis of the area, the location, the market, the sales comps, the rent comps, and all the different factors. So I’m going to kind of trust but verify and in the verification process, if I don’t agree with something, that’s subjective, well, I may pass but honestly, there could be nine other investors standing next to me who would invest. So there’s definitely subjectivity to this.
James: So how do you verify? Let’s say today, I give a Webinar today, saying this is the opportunity, this is how much, etc.; can you describe the steps that you take as an experience passive investor and where you come to that decision point where you invest in that deal?
Jeremy: Yeah, so I’m going to keep it high level because we could talk about this in depth for many hours. But, high level, what I do is the first thing I tried to do, and let’s say I don’t know an operator at all. Well, I’ll try to assess their personality and what I’ve kind of determined I’m comfortable with is I looked for people who are conservative, which matches my personality. So the first thing I’ll try to do is read the summary, take a look at the numbers and determine if the operator is conservative or aggressive. What I mean by that is, are they setting low expectations, using conservative assumptions to possibly under promise and over deliver to build a long term relations with investors where they’re looking to over promise, make the numbers look really good, attract investors, but we’re not sure how that’s going to perform.
As a personality fit for me, I’m looking for someone who’s definitely conservative and who’s looking to under promise and over deliver. So the first thing I’ll do is try to assess if they’re conservative or not at a high, high level and that’s not a match for me. After that, I’ll get really into the pro forma and the numbers. So I’m a numbers guy, so I’ll go through all the revenue and expense items as well as all the assumptions. Ask a lot of questions and make sure that it’s a trust, but verify, it doesn’t match up with what I think is reasonable. Do I think that their rent increase assumptions are reasonable? Do I think that the expense increase assumptions are reasonable? Do I think that the exit prices reasonable? Is the expense ratio looking okay for the type of asset class it is relative to what I normally see in that type of asset class in that location? And a whole bunch of other variables.
Once I got past financial analysis, what I’ll do is I’ll dig into the operator, like how does this property look in terms of how we’re buying it relative to other comps, are we getting a good deal or not? Is the rent at the market rate or below or above market rate? And I did the operator run all that analysis?
So you want to dig down and make sure that the operator did their homework, understand why the operator likes a deal and see if you agree or disagree. Because again it’s objective. And then I get into like the demographics and stuff and say, is this a good location? Not just specifically the address but the region, the area, is it growing? What’s the population growth and economic growth been for the past 10 years and where is it heading in the next 10 years?
And by the way, that the operating to do their research to find all that out. So what I do is I actually asked for a lot of the operator’s research and I’ll verify what they’ve done and then I may cross-check it against some other data sources, depending on how thorough they were and I have other sources I like to check myself.
Once I’ve gone through all this, I personally don’t invest with an operator unless I’ve met them in person. And before I get to that stage, if everything else has checked off, I’ll actually run a background check on them and all the managing members of the manager; if that checks out, okay, I’ll typically fly to the property, I’ll get their opinion and not just the property but a tour of the surrounding area and what they like about the area and why they chose that particular property. And then, basically, the in-person meetings are really important for me as a final gut check because again, I’m making a bet on a person and the person’s the number one thing for me. And so I’ll go through all those steps that if everything checks out, then I’ll move forward. I mean, I’m skipping a lot of things. I mean, I didn’t even talk to you about the contract. I look at the operating agreement, I read every word, there’s a lot of stuff we can get into, but just try to keep it really high level.
James: Yes, yes. But let’s go a bit more detail into that because I think it’s important. Because there’s a lot of passive investors who will be listening to the podcast and I think it’s important that they can take some action items and implement into their investing as well. So, in terms of financial analysis, do you run all of their numbers again, taking the rent roll and P&L or running on your own? Or how do you do that?
Jeremy: No, it’s ‘trust but verify’. I’ll give you an example that I use. I’ll get their spreadsheet, I’ll actually take a look at every line item and then I may run some scenarios myself. In other words, what happens if the rents only grow 2% instead of 3% per year? What happens if the expenses are higher than we thought? And what happens if the cap rate on the exits different than they thought? What’s the effect? And I’ll take a look at all of the terms of cash flows, the IRR, et cetera. So I’ll take that model and I’ll trust but verify it the same idea.
James: So you rerun back their assumption that the data based on the data that’s given to you, right?
Jeremy: Yeah, I’ll do, what I call a sensitivity analysis on what’s given to me but I also got to verify that I agree with. So like I actually get down to a level of saying, okay, the line item of payroll, at what percentage is it increasing per year? Does it look right? Health insurance, is that really increased correctly? Did they actually adjust for the new tax base? Whether there’ll be an adjustment necessary for the new tax base and they did adjust enough, you know, very specific things. But I’ll go line by line because sometimes the operators just replace of pure 3% growth rate on expenses across everything. Other times, they actually adjust literally down to the line item and you’ve got to dig in and understand why they did that adjustment for each one and does it look correct to you? So it’s again, a ‘trust but verify’ situation.
James: So yeah, that’s interesting. I mean verification that you want to do because as I said, it’s important that passive investors, I mean, even in the book that I published on Amazon, it’s important that each passive investors take a deeper look into who are they investing what are the deals to invest in, which market that they’re looking at. So after the financial analysis on the market itself, how would you get the market data? Let’s say a sponsor giving a number, 3% rent growth increase, how would you verify that data based on the market?
Jeremy: Yeah, so it’s interesting because what I would tell you is that I am looking for someone who is conservative. So if I see a two or two and a half or even 3% number and I know that if I can verify that the economy’s been growing and it’s been growing okay and the population has been growing, then I don’t mind applying that across.
Where I get a little more nervous is questioning why is it 4% or 5% per year? Why did they use that assumption? And especially in the first couple of years, if they’re adding a little value out or something, what percentage was that for each first year? Why is that? What are they really expecting in the rents? And for example, you can really get into taking a look at comps of rents and looking into what percentage rents you’re below market, how much it’s going to increase and then cross-referenced that compared to the increase in revenues they’re anticipating. And so you can do a lot of things. But for me, it’s not like I’m trying to reinvent the wheel. I’m not trying to start from scratch and then say this market’s increasing at 2.57%, there should be 2.6% on the spreadsheet. What I’m doing is saying, is this spreadsheet reasonable? Is this area growing more high level on a ‘trust but verify’ type of concept?
James: So based on your recent experience, which area you think has the most growth nowadays?
Jeremy: Yeah, so I invested a lot of different areas. I don’t just target one or two areas. So, what I would tell you is that the areas that are kind of automatically interesting to me are on because I tend to avoid large cities and hot places like Seattle, Denver, et Cetera. Those prices are too high for me and so I avoid those and they are also hot so I try to stay away from what’s hot because I’m it for cash flow. And so long story short is that Texas and Florida are projected to be the number one and number two states for population growth in the next 10 years. There are many different areas in Texas and many different areas in Florida and some will benefit in some won’t. But the idea that those states will benefit as an example, interest me because we’re starting off on the right foot in those states, for example.
Whereas you can look at it the other way around; Illinois is having a lot of population outflow. I actually got a deal yesterday or the day before from Illinois, I passed for a different reason. But my second reason why I was considering passing it was because it was in Illinois, to begin with. Just because I know there’s been a population exodus and when I have so many options and pass an investor and I’m looking to be low risk, there’s no reason for me taking on any incremental risk when I could just move on to the next deal.
So those are some of the areas that I’m looking at are staying away from, but it’s high level. You know, even in Texas or Florida, you’ve got to look down to the exact location and the area to understand what’s going on in that exact location or area. But those are some states that I like right now that are obvious. There are plenty of others. And what I’ve learned too is that many states and most states have really good areas and many states or most states have really bad areas and declining areas too; even Florida and Texas and tertiary areas and stuff that are more volatile during downturns. So I don’t have a specific area or target, I’m more to evaluate each area as it comes into play as I look at an opportunity.
James: Got it. Got it. So can you give me an example where you thought the deal was good and you invested with it, but later you realize the deal is not so good for some reason and we can go into details there but is there a deal that you thought this is a really, really strong deal but it didn’t work out after a few years?
Jeremy: So I have an example I can give you, it’s my favorite example, it’s actually the only foreclosure I was ever in, but it’s going to take a couple of minutes; is that okay?
James: Yeah, that’s fine. That’s where we learn, right? And which year did this thing happen?
Jeremy: So it’s a really interesting story with a lot of good learning. So this was 2008. I actually was convinced there was going to be a downturn. For this particular property, I had no concerns about the downturns
James: Even though it’s 2008.
Jeremy: It was a 300 unit, student housing property. And frankly, I thought it was a great counter-cyclical play and that students go back to school during downturns when it’s hard to get a job. So I was actually like, this is a great investment.
James: You were like kind of reverse engineer and say this is the right thing to do during downtime.
Jeremy: Absolutely. So I invested with an experienced in-housing operator of the 17th property, it was the first property across the street from a state university campus in Michigan and it was, for all intents and purposes, 100% occupied. So we bought it in 2008 and the first few years, no problem, great cash flow, on target.
2012 I think it was, in the spring we get a letter from the city and all the students got letters from the city, all the occupants, saying that they have to close the bridge to campus that you have to walk across because of repairs because it’s going to be the summer months and you have to do the repairs in the warm months. But don’t worry, it’s going to be open in time for the fall season, we know you need the bridge open because you’re students. But not everybody believed that and the occupancy rate went from 100% to 65% roughly. Now frankly at 65, we would have been about break-even, it wouldn’t have been much of a problem.
The bigger problem is that when we bought the property, we assumed a loan that was ‘do not fall’. So when the bank went to appraise the property, it was only 65% occupied that particular time, we couldn’t refi’ it, the numbers didn’t work out. And so, of course, we tried to negotiate a one-year extension on the loan because what was obvious is that the next year we would have been back up to a hundred percent. But I think the bank just wanted the property because they wouldn’t extend the loan for a year, which is really odd and so we ended up foreclosing.
Now instead of assuming that, had we done a 10 year fixed rate, long term loan, we would have been totally fine. And had it not been for that exact year that the bridge was closed, that was perfect timing, literally. There are many 1% risks in every deal you can’t avoid. This is a great 1% risk story. But the story is not over. So basically the sponsor lost some money in a partial recourse loan, quite a lot of money. And what they decide to do is actually because they were pretty wealthy and they own most of our properties themselves, they wouldn’t syndicate it, they actually, without anybody asking, transferred everybody’s equity interest from that property out of their own equity and another property they own. That was another first property across from the State University in Texas and it took about a year of legal work to get it all done. So we had no cash flow for a year, but then I’m still in that deal today. Still getting cash flow.
So there’s a lot of lessons to be learned there, honestly but it’s great. So the first thing you want to learn is that you cannot predict everything in a deal, no matter what. There’s always 1% risks that you can’t even think of that will come up. That’s why diversification is important, in my opinion.
Number two is that we talked about whom you’re making a bet on before. The person I made a bet on was not just a good operator, but someone who out of their own goodwill decided because they felt bad for the investors to transfer them out of their own equity. That’s a question of whom do I make a bet on, what decision are they going to make in that circumstance? They had no legal liability, they couldn’t have forecast that the bridge was going to close and they tried to renegotiate. They already had lost of money on a partial recourse alone. And so that’s a question of whom did I make a bet on. And another really interesting lesson is that this is not mandatory for me, but what’s really interesting is that I’ve learned that wealthier sponsors have the option of taking care of problems in certain circumstances that not as wealthy sponsors can do.
So, for example, if something comes up unforeseen and there needs to be a cash call from investors, for some reason, it’s possible that a wealthier sponsor would choose to make a loan themselves and not bother the investors for the cash call. If you’re not wealthy, that’s not even an option. In this case, I have to have two combinations come into play. One is, I’m making a bet on a really good person and number two is them actually having the mentality of one and help investors at that tough time and they have the wealth to be able to do it. They have to have the wealth and the general personality combined. They could have the wealth but not necessarily have the personality then it wouldn’t have mattered. So really lucky as an investor, making a bet on the right person, very unlucky with the circumstances and a really good lesson in many different respects.
James: That’s a very interesting scenario there. I mean the thing is, is out of control of the sponsor, right? But is there any of the deals that based on your assessment, you thought everything was working at pencil dot correctly but somehow once the deal started you missed out something?
Jeremy: I have another story about what I would call manager dispute and then mismanagement after. But are you talking about something like that or you’re talking about like a performance?
James: Well, I’m talking about your confidence going into the deal, but you were proven wrong, a couple of years after the deal starts operating; something wrong in your assumption that you learned
Jeremy: My assumptions? I have so many deals I’ve invested in.
James: Something that sticks out, right? Where it performed very well or perform really bad.
Jeremy: Well, I can give you an easy ‘perform very well’. I mean, I’ve been in a few of those because you have to understand when I go into a deal, I expect it to be a 10-year deal and I’m just investing for the cash flow and looking from deductibility and reasonable returns. I’ll give you a couple of examples.
There was a deal I invested in 2005 in Canada where I’m from originally and it was a two-story office building medical office. Our plan was to actually buy it, rehab it a little bit; like elevators, common area and that type of thing, bring it up a little bit. So we bought it, I think, for 5.5 million at the time it was highly occupied, probably over 90%, I don’t remember the exact percentage. Well at that timing with the market continued to rise, we actually got an offer for 12 million 2 years later and we jumped on it. We actually hadn’t even bothered to upgrade the elevators and stuff quite yet and so that just like meant to be 10 years exited in two years. Didn’t expect it.
Another example is, I invested in several self-storage properties in this cycle, 2013 through 15 with a top 30 operator in the US, 10-year business plan meant to hold for cash flow. They were going to increase rents over time, increase the occupancy rate. Well, we bought them for really good deals, we bought them really well. They were all unusual circumstances, off-market. So we paid between seven and a half and eight and a half cap, mostly eight, eight and a half cap or low eight caps, which was actually probably a hundred basis points better than the market at the time. Cap rates have compressed since, we sold three of the four properties, off last year at roughly five and a half to six caps. That’s a huge compression from an eight to five and a half cap. We did not mean to do that, we just wanted to buy it and hold it. But we took advantage of the timing of the markets. Keep in mind, I was in 24 sales in the last two years. A lot of those sales were captured, just like these examples where we ended up in the cycle and weren’t necessarily going for the full 10 years but we’re actually much shorter term than expected based on trending caps and locking in kind of more keep pricing so to speak.
James: So is most of the deals that you are in, do the passive investors get the voting rights to decide together as a team on whether we want to sell or keep?
Jeremy: Yeah. Normally in most of the deals, there are voting rights. And I have to say as an individual investor with a very small percentage of the votes, there have been times where I’ve been able to lobby the actual sponsor to consider investing or maybe help them push them over the edge. I don’t have much influence in that, I’m a very small percentage of the vote. But the concept of considering to sell, et cetera, as an investor, I’m a little proactive; I’m conservative, so I prefer to lock in a price and then sell in 2017 or 18, wait and then reinvest when the prices adjust. That’s just my own mentality.
By the way, I’ve been in situations where sponsors haven’t agreed with that and I’m still in those properties now. I’d still love to sell today, but they’re not going to sell because the sponsor doesn’t necessarily agree with the timing and is what it is. But that’s part of being a passive investor.
James: So based on your experience, at what point should an asset be sold at one? And what are the performance indicators that you think that this is the right time to sell?
Jeremy: Yeah, that’s a tough question because it’s going to depend on the profile of the property and the purpose of the acquisition and the business plan, to begin with, so that’s going to vary. Like if you’re doing stabilize or doing value add, if you’re doing development, if you’re doing a five-year term, three-year term or 10-year term so it’s hard to answer that question. I don’t know if you want to make it a more specific question?
James: Well, let’s say you’re getting a 10% return cash and cash today but if you sell it, you’re going to get 200% return of your money. I mean, of course, you have to include taxes, right? Would you choose to go ahead with a 10% cash on cash or you want to sell it now and get me the 200% return?
Jeremy: Great question. And I know a lot of people have different opinions about this because some hate the developer they want the cash flow, right? I personally would rather lock in a really good price because normally when you see that type of increase on the return when I’m investing in, it’s because of some cyclical effect. Like I’m not investing in heavy value add deals so we’re not adding the value that means, [29:31inaudible] and that means if we’re selling it, that type of return, we’re locking in a game based on timing. And if that’s the case, I’d rather lock the game in and redeploy the capital myself. Because what I don’t like happening is if we miss the peak and then go through and watch it go down in value and the cash flow if we continue but there’s a risk in holding it. I’d rather lock it and then redeploy it at the right time. But that’s like just my own one person.
James: So you rather sit on cash and wait for the right time?
Jeremy: Yes, 100%. I find there are two different mentalities in all a lot of investors I talked to. Some, don’t mind sitting on cash or waiting for the right timing for peace of mind, which is exactly my approach. Some people are like hell bent on every penny working for them at all times, which I completely understand. And they’re the ones who maybe don’t want to sell whatever. And so just a different way of thinking and different philosophy.
James: Got It, got it. Got It. How much emphasis do you put on reducing taxes in your investment criteria?
Jeremy: Yeah. In most of the things I invest in, they’re going to have depreciation expense flow through and they’re going to be tax deferred and in either all or most of the cash flow. And plus I get to benefit from a favorable tax rate on recapture and capital gains. So, I do absolutely check in the opportunities I’m investing in. Will I get my pro rata share of the depreciation and expense flow through? Because frankly, that’s dictated by the sponsor. They can choose to give you that or they could choose to take all the depreciation or some of the depreciation; I’ve seen them all.
James: Really? I didn’t know that.
Jeremy: Oh yeah.[31:02 crosstalk] So I’ll tell you what, there are three different things I see sometimes. One is that you get your pro rata share, which is the most common. Another one is, let’s say there’s a 70/30 split sponsor and investors, then your sponsor may take 30% of the appreciation; I see that sometimes. And then I’ve seen where the sponsor takes all of the appreciation for themselves. You have to look in the fine print. That’s why you’ve got to read the legal documents because frankly, you wouldn’t know that without reading the legal docs.
James: That is an awesome tip. I don’t think so. I’ve never heard about it. What I’ve heard in the past is where sponsors take some of the depreciation of the IRS because IRS can use really the depreciation, right? I’ve seen that kind of thing. That sometimes I think it’s a fad thing, right? Even though I don’t do it, I just prorate everything to the investors. But I’ve never heard about 70/30 is paid and taking all the depreciation, that’s interesting. So, passive investors out there, go and look at your legal document and make sure you’re getting your share.
Jeremy: The operating agreement, which people hate to read is the root of the whole thing. So rules of the company, you have to read it. Let me tell you some other stuff I’ve seen in the operating agreement, you’ve probably never seen. This was what I found two or three years ago I was shocked that if there was a cash call, and you actually didn’t provide the capital within three business days, you will be diluted at a 50% of your shares. Now listen to this; it didn’t stipulate you would get your pro rata reduction so they could have asked you for a dollar legally. You may have not received it, weren’t in town, didn’t pay it. And you could lose half of your shares over a dollar cash call theoretically because you didn’t pay in three days. I mean you’ve got to read the legal documents.
James: That’s crazy. But it happens, right? I mean, you have seen a lot of offerings out there. So let’s go back to…
Jeremy: I just want to say, when that happens and when I see that, I walk away and I feel horrible because I know that investors are going to invest, like they’re going to get the deal closed and investors will have no idea what they’re dealing with because anyone who’s investing, I know at that point just have not read legal documents, which is scary.
James: Have you ever gotten into a case where there was fraud happening by the sponsor?
Jeremy: So I have one story where there were two funds that I’m invested in single family and I have very few of these stories, thank God. But there was one, actually, I think this is the only fraud or mismanagement I’ve really ever been in, to a very big extent. So there were two single-family buying whole funds for five years and I invested in, 2012 and 13 and I knew two of the three managers really well, made a bet on them. And the third guy, he was like a back office IT guy and he had a manager share but he wasn’t actively involved in the operations. Well, there was a dispute between two guys I knew well and the third partner got the two guys out. Next thing you know, the third partner was mismanaged and there was, I wouldn’t say that it was fraud but absolute mismanagement. And in fact, I stepped in personally. It was just something that I did with my investor group and I stepped in personally and actually negotiated to get all the properties back in exchange for us releasing him from potential liability. We took the properties, I found a new property manager and we sold the properties off within a year, after that they were well managed. So I was very involved in dealing with that. It was quite interesting, thankfully that’s been a very rare occurrence but I’ve definitely been through that once.
James: Yeah. It’s always tricky when passive investors want to take over sponsor role because I think all the loan documents and everything is written on the sponsor’s name, right?
Jeremy: Yeah, this was different. You know, you may make a very good point. Commercial real estate would have been much more challenging, this is a single family home.
James: Okay, got it.
Jeremy: Yeah. That actually needed a lot more feasible, to be honest.
James: Yeah. I’ve seen where in commercial there are limited partners, which is passive and this GPs, which is active and when active or not performing, the LPs try to take over the GPs role, but I don’t know how that’s gonna work because you know the bank, all the loan document is based on GPs name and the LPs are LP.
Jeremy: Yeah. No, it’s a good point. I want to say though, for those of you listening, I know we talked about the one foreclosure I was in and then this mismanagement, but I think there’s only one other opportunity I can even think of and probably one or 200 opportunities I invested in never had problems like this; it’s a very, very small percentage.
James: Got It, got it. Let’s go back to a different topic overall because you have been investing since 2002 and then 2007, 2008 and then now it’s 2018 is what almost 20 years, is that right?
Jeremy: It’s about 17.
James: 17 years. Okay. So the demographic has shifted in terms of the whole syndicated commercial real estate, right? So I think 10 years ago, maybe there was a lot of syndication happening, right? I think 1986 is where there was a lot of, just before the 1986 crash where the tax laws change, I think Reagan’s tax laws changed, a lot of deals were syndicated, but they were syndicated for the reasons of avoiding taxes [35:58inaudible]
After that, it became more like a make the money, I mean five or six B; I think five or six B maybe it has been there a very long time, but five or 6 C and crowdfunding came in and a lot of people in five or six B was established. But the past 10 to 15 years or maybe the past 10 years when the economies boom, a lot of clubs have popped out where the demographic of investors have changed. So it used to be, I’m not sure because I started in 2015 so I’m not really sure how was the demographics before that. So you can tell us how was it before that, what was the thought process in terms of syndicated commercial real estate investment and how the people have changed. Can you describe that whole process based on your experience?
Jeremy: Sure. Yeah, there’s definitely been a few things that I’ve noticed that have changed. I keep in mind, I’m one person’s opinion, so someone else may have something else to say about it. So between ’02 and ’07, what I found is that it was easier to find kind of $25,000 minimum investment amounts, in 5 or 6 B type structures. Once we had a downturn, a lot of people got scared. And then once there was an upturn again, there was a lot more money chasing a lot of deals. The minimum seems to come up to like more like 50,000 so that’s one thing I’ve noticed that it’s different from when I started.
And the other thing is, until the advent of crowdfunding, it was all private deals, right? And so I did a ton of in-person networking. Everything I had to find was always your networking. And so I did a ton of in-person meetings and I went to personally crowdfund my own meetings in 2007, as you mentioned in the bio. And so it was a lot more networking in person that had to be done compared to today potentially if somebody wants to successfully fund a lot of opportunities that’s changed.
2012 I think is when they pass the ability to do fire with succeeding, which is public marketing for accredited investors only. And what I have found is that since that has come up a lot more deals have four accredited investors only, whether it was 5 or 6 B or C, it’s become more commonplace. And another reason is that there seems to be more and more money entering the space of interest in investing in these. As more money has come in to invest in these types of opportunities, the operators have had the choice of taking money from accredited investors. Only whereas before and in the early 2000s, I think they were more open to accredited and not accredited because it was harder to actually raise the money in my opinion.
So I’ve seen that happen as well. The problem you see with public marketing has definitely changed things; where you can actually now publicly market to investors before it was all private. And so that’s changed things a little bit. And the crowdfunding sites have certainly changed things as well and that’s opened up a lot more availability of opportunity more easily, where you can kind of sit in your pajamas and download opportunities and find them very easily.
I had to go to meetings to find opportunities. There was a lot more work. So I would say the accessibility has increased. The minimum investments have probably increased, the requirements to be an accredited investor, which is also not 38:53 sites has it become more prevalent. So in some ways, it’s easier to invest now because you have access to more deals. It’s harder because investments are typically harder, I find but it’s also harder because you’ve got to be an accredited investor to have access to that larger volume of deals. Those are some of the things coming to mind.
James: So you are saying the 5 or 6C and then 5 or 6B and then the crowdfunding, right? With the jobs act that was popped out, right? Do you see the role of the sponsor changing? Because I think in those days, they have to have a lot of relationship basis. So you have to know the sponsor directly, right? So that’s what you’re saying, you have to go to a lot of networking. There was a lot of investments club which sells the preexisting relationship networking, as a basis for their business model. But now you don’t really need that. You have five or six C, you know, if you find someone who’s advertising for it, you can jump on it. But, still, I think there’s a role of the sponsor relationship with a passive investor that could have shifted; what do you think about that?
Jeremy: I agree with you. So what’s happened is that with the crowdfunding sites who are mostly intermediaries, you’re not necessarily investing with this sponsor directly. The whole concept of having an intermediary has become more prevalent. So the one thing I forgot to mention, I’ve seen in the last probably three years to 2016, has been the advent of a lot more investor groups who basically will aggregate investors and be a middleman. And so you’re investing in that LLC, which is then investing in an opportunity, but you’re not talking directly to the sponsor, you’re talking to the middleman group, who was actually the one that vetted the sponsor.
And so that’s become a lot more prevalent. It’s also made it easier for investors to find more opportunities because those groups tend to be marketing groups, right? That’s what they do. They try to find investors. And so if you’re an investor, it makes it just easier to find opportunities because now you’ve got crowdfunding sites and groups besides going directly to sponsors. And that’s been a trend very recently.
James: Correct. There are a lot of equity raises, which has been using their marketing skills and networking skills to raise money for an operator. And I think you have an operator who was really good, who just want to buy deals, they can use all this equity raises. But I think the gap between the passive investors to the backbone of the business with the operator is wider.
Jeremy: I agree. Yeah. If you’re going to go through a group or you’re going to go through a crowdfunding site, you’re not talking directly to the sponsor. And it’s interesting because if you go back to the beginning of this podcast, what did I tell you, in my opinion, is that the number one thing you want to make a bet on is a sponsor. So I’ve actually never invested in a crowdfunding deal and I’m actually an advisor for realty mogul, but I’ve never personally invested in a crowdfunding deal for two reasons. One is because I have the network built up to find sponsors directly. So the returns are going to be a little higher compared to going through intermediaries, but also I get to talk to the sponsor directly, which is an important piece of it for me as far as the vetting process.
James: Got It. One thing that was really interesting that I found when the beginning is like you personally meet the operator, right? Which is, I think that’s really, really good because you get that gut check, I guess.
Jeremy: Yeah. I want to be clear though that. Like if someone’s really busy in the corporate world, they can’t necessarily fly out to look at a property on a Wednesday and meet an operator yourself. The crowdfunding sites are definitely adding some value because they’re doing a lot of filtering themselves and so for the right target, like for me, I do this full time so I can actually go do that. But if you’re an investor and you can’t do full time, the trade-off of going through an intermediary is that they’re going to vet that person for you, but they’re going to bring you more opportunities and if you don’t have the bandwidth to go find them yourself or you don’t have the bandwidth to go meet people in person. So there’s definitely a good place for all of these intermediaries, et Cetera and to add value to the right people. Just for someone like me who does it full time, I have the opportunity to find everything directly. So I don’t think that the groups in the crowdfunding sites are necessarily bad because they’re making these opportunities more accessible. There are some people that’s a good fit for and some people it’s not.
James: Yeah. Some people just don’t have the time to go around and ask people, but they rely on the crowdfunding credibility, I guess and to vet the sponsor. Okay. Got it. Got it. So is there any other things that you want to share with the audience that you have never shared in any of the podcasts?
Jeremy: I have to say one thing that I always say, I’m sorry, but it’s, right now I think we’re at the end of a cycle and is very, very conservative. And if you’re relatively new, I think it’s a fantastic time to learn. I also think it’s a dangerous time to invest just from a timing perspective. So if you’re relatively new, you want to be extra cautious right now and make sure that you agree with the evaluations, the cap rates and everything else before you jump in. So that’s one thing I always like to pass along; trying to think if there’s anything else I could share or something I’ve never shared before.
James: Something that you think, ah, I should have mentioned that to the audience in all the other podcast but I never got the chance. This is the open floor for you to do.
Jeremy: Yeah, I would say, I talked about this a couple of times, but I think that one thing about being a passive investor that can be difficult and a lot of people don’t, well, two things; One is the main thing that people don’t think about, always run a background check. It’s saved me several times. I find most passive investors don’t run them and I think they’re critical.
James: How do you run them?
Jeremy: I run mine through a website called TLO. Like Tom Lowry.
James: A lot of people don’t have access to that.
Jeremy: Right. I know that’s hard. So TLO is on by TransUnion and like the police use it, to give you an idea. I actually know [44:19inaudible]
James: Yeah, I use TLO.
Jeremy: Yeah. So as you know, it’s very hard to get access to. You have to have a real office. They actually come and inspect you in person, to make sure you have a lock on the door of the room, that you’re keeping the files in and it’s very specific to run a background check on you. It’s very hard to get. Another one that’s actually similar, I don’t know if you’ve heard of is Accurex.
James: Oh, yeah, LexisNexis,
Jeremy: LexisNexis owns it. So those are the top two kinds of best known. If you were going to have access to those, another thing you could do it, which I used to do before I actually got access to TLO, if you could hire a private investigator who has access to these types of sites, who will actually run those reports for you and interpret them for you and you’ll pay more than if you just run it on TLO directly but it’s still very valuable. And I’m telling you, running background checks on all of the managers is very, very important.
James: All of them? All the GPs?
Jeremy: Yes, 100 percent.
James: So you need their first name and their last name and you can use your social and also can use their address. I know how TLO works, but you’re not going to ask social security from them, right?
Jeremy: Right. So here’s what I do because, as you may know, we only really need a name and if it’s an uncommon name, you can figure out if that’s the right person. So here’s what I do, I ask the sponsor, I say, can you give me your first and last name, your date of birth and your home address. I don’t ask for social because I think it’s kind of going over the line, but you can if you want to. But I ask for these three pieces and if they’re hesitant to give it, it’s a test, so if they’re hesitant to give it to me, I kind of will wonder why and I may walk away, right? And I don’t need their home address, I can ask for their business address, but I ask for the home address, I don’t need their date of birth if I match up the information.
So I do it as a partial test and I do a lot of things like this is a test, read between the lines so that’s what I do. Background checks, very important on each GP. The other thing I wanted to share is that I spend a lot of time thinking about the future. And so if you’re going to invest in a 10-year deal as a passive investor and you’re kind of locked in and then it’s liquid, it’s hard to sell, you’ve got to think 10 years on. I think a lot of investors are looking at the deal and saying, this looks great today. This is a great market today, but are they thinking five or 10 years ahead? And so when I invest for predictability, that’s especially important for me. So the question I have for you is, can you tell me how self-driving cars and robots and technology are going to affect office demand in a certain location? Can you tell me how it’s gonna affect retail demand in a certain location? Especially with Internet shopping happening online in five or 10 years; hard to predict, right?
Easier to predict, will apartments being demand in five or 10 years from now? Will mobile home parks be in demand five or 10 years from now? Will self-storage be in demand five or 10 years from now? Even that’s a little nebulous because you can argue that you won’t need them because people will be able to use drop-off service and they’ll go into the industrial storage facility. But the point I’m trying to make is that I don’t find people think really far down the line and you have to.
So I had been investing, I call 4-0 sessions since 2013 and it doesn’t mean I thought there was going to be a recession in 2014, it means that I want to get in something today, at that time that I thought was going to do well during the recession because I was looking at a 10 year horizon, I thought there was going to be a recession around 2018 which was wrong. But the point is is that I was thinking that far ahead to avoid the landmines. You’ve got to think far ahead if you’re going to be locked in for a long term and not just whether the deal looks good today. Very important.
James: Got it. Got it. I have dodged this question because this has been always on my mind, whenever broker bring me deals, I always question, why me? I mean, I always try to find out why they are bringing a deal to me because there are so many buyers out there, right? Just to qualify, me wasting time underwriting a deal. So the question for you is in this done age of cycle, I mean, why does a sponsor able to go through you’re difficult underwriting process of the whole deal, unless you’re bringing in a big chunk of money, right? And why do they want to go through all their questions and allow you to invest and opening up the flood gate and there’ll be so many investors who don’t want to ask questions, invest with them?
Jeremy: That’s a good question. First of all, there is no doubt that there are some sponsors who just won’t deal with me. Once they start to see that I start to ask questions, it’s not worth their time. A more experienced sponsor will have a harder time with it and I don’t blame them, to be totally honest with you. I have a little bit of leverage compared to a normal investor because I have my own investor group, but I also have access to like a network of other groups and sometimes they’ll know that and they’ll be willing to deal with me in exchange for all that. So I’m not a normal investor in the position I’m in and I can leverage things to get access to things and to actually get the time that some of the other people won’t be able to do.
That being said, you know, if you’re a passive investor and you can’t get the information you feel you need to get comfortable with the deal, walk away. There are too many deals out there and just move on to the next. You want to be 100% sure you’re comfortable because you’re getting locked in for a long term and you’re giving up control. It’s very important that you feel 100% comfortable going in and if you can’t get that comfort level, just walk away and move on to the next.
James: Awesome. Awesome. That’s one of the questions that I want to ask you and I think we had the end of the podcast and I think that’s it.
Thanks, Audience for attending and listening to Achieve Wealth Podcast. If you have not joined our Multifamily Investors Group on Facebook, go ahead and search for a Multifamily Investors Group on Facebook and join there and see you soon. Thanks, Jeremy for being here.
Jeremy: James, can I just say one more thing?
James: Oh sure. Go ahead.
Jeremy: Yeah, just if anybody wants to reach me, the easiest way to reach me is by email, which is Jroll@rollinvestments.com. I’m happy to network with anybody in that bid. Help people anyway that I can. I talk to new people all the time to help with my experience and I’m trying to find other opportunities. I love networking with other investors to trade notes. I’ll talk to anybody. If there’s any way I can help them, feel free to contact me.
James: Awesome. Jeremy, thanks for joining us today. I think that’s it. Thank you.
Jeremy: Thanks for having me on.