Air Date: 11.24.2020
Ground Up Development Real Estate Investing
Ground-up deals are attractive investments in many areas across the U.S. We speak with Shannon Robnett about ground up development real estate investing!
Idaho is going through a growth spurt, making ground-up deals attractive investments, but before you think that these deals are too risky, speak to Shannon Robnett! Better yet, listen to this interview because today on the show he joins us to talk about doing what he does best, construction syndication in his backyard of Southwest Idaho. Coming from a real estate family, Shannon has over 40 years of experience in the field, having learned about things like 1031 exchanges around the dinner table! Since then, Shannon has been personally involved in over $200 million in real estate transactions covering multifamily, office, professional, industrial storage, and everything in between. We kick things off with Shannon hearing a little bit about his childhood and how he started applying the lessons his parents taught him to his own career. He gives us the lowdown about some of his first deals and how he got into syndicating for new builds rather than renovations. The deal structure for limited partners who invest with Shannon is very different from what you might expect on a value-add long term hold, and Shannon does a great job of diving into the weeds and explaining what his investors can expect. He also spends some time breaking down a few of the common misconceptions about ground-up being a more risky investment than a value-add. For all this and some great recommendations for key texts, life habits, and more on the topic of syndicating for construction, be sure to tune in today!
Key Points From This Episode:
- Shannon’s lifelong real estate education having grown up with parents in the industry.
- The first deal Shannon did; a flip that taught him the value of being a middleman.
- How Shannon built a community and witnessed the power of leverage through syndication.
- Ground-up versus value-add, and the work Shannon does syndicating in the ground-up space.
- The investment structure of the short term construction syndications Shannon does.
- Risk profiles between value-add and ground-up and how the second is less risky.
- The types of investors Shannon looks for and how his deals help them achieve their goals.
- Why Shannon only does ground-up deals in his backyard, the southwest portion of Idaho.
- The suitability of the market in Idaho for ground-up deals, especially since COVID.
- Loan interest structures for construction; more on why ground-up is less risky than people think.
- How more experienced investors will always opt for deals with risk-adjusted returns.
- The business models of bigger players that Shannon looks to as examples.
- A deeper dive into how Shannon structures deals and tax for his investors.
- One question Shannon advises investors ask before becoming an LP of his.
- A book recommendation from Shannon, and the one thing he is most proud of.
- Why tenacity is the number one key to success in Shannon’s opinion.
Links Mentioned in Today’s Episode:
If you enjoy the guests and content please subscribe and leave a review. Your reviews matter and each one has a major impact on the success of the show!
Interested in Investing Alongside me in our next multifamily deal?
Contact me at email@example.com.
My operating partner, Birge and Held Asset Management has a twelve-year track record creating sustainable wealth for over 2000 investors through high-quality multifamily investments.
Thanks for listening!
—Full Transcript Below—
“As you know, a lot of markets, especially like Idaho like we’re going through a growth spurt right now where we have a 2% vacancy and I’ve had, we have not crested three and a half percent in four years. We’ve been – we need more, it doesn’t matter if you want to do a value ad, you can do that too if you can find it, but we need more so there’s demand there.”
Welcome to Ritter on Real Estate, the show about how to passively invest like a pro. On each episode, I interview real estate experts who give their top investing advice, strategies, and tools that break down the insights and the practical steps to avoid the pitfalls and make better investments. I want to help you passively invest like a pro. This is Ritter on Real Estate, and I’m your host, Kent Ritter.
Hello fellow investors, welcome to Ritter on Real estate, where we teach you how to invest like a pro. My guest today is Shannon Robnett, Shannon has been involved in real estate for over 40 years and he’s personally been involved in over 200 million in real estate transactions. Covering multi-family, office, professional, industrial storage and everything in between. We’re really lucky to have Shannon here today, a wealth of experience, and I’m sure he’s going to drop some good knowledge bombs on us.
[0:01:16.2] KR: Shannon, thank you for joining.
[0:01:17.2] SR: Kent, thank you so much for inviting me in your corner of the world.
[0:01:20.0] KR: Yeah, absolutely. 40 years of experience, I mean, you know, you don’t look like you’re that old, you don’t look like you’re in your 60s so when did you start?
[0:01:31.2] SR: Yeah, the truth is, I grew up in a real estate family, you know? My mom was a realtor, my dad was a general contractor, they did developments together. I learned about a 1031 at the dinner table, right? I mean, I watched my parents decide what to sell to buy something else to sell a building for a piece of land to do this, to do that.
And then I got o go clean those up, I got to go frame those, I got to go work in that week in and week out; I liked to refer to it as slave labor at the time but it was really an apprenticeship, it really brought me to a point that by the time I was 19 years old, I couldn’t do anything else as successfully as I could do what I was shown as a child.
I was 18 years old with 11 years of experience.
[0:02:13.8] KR: Wow, that’s – we could think all this, we grew up around that dinner table and most of us are coming in to it much later in life and discovering the value of real estate. That’s a fantastic head start.
[0:02:26.4] SR: You know, it really was and it was awesome to see how my dad is the son of a union mechanic, my mom came from a chicken ranching background, her great grandfather was in real estate before the great depression but you know, to see how just – Robert Kiyosaki’s book, Rich Dad Poor Dad, worked out that I had rich dad, you know? I had the one – I had poor dad actually, I had the one that was putting deals together constantly and watching that and when I read the book, it was kind of funny because I read the book when it first came out and I’m like, dude, that guy’s talking about my dad, you know?
But it took a book for me to really get what I had growing up, you know? I’m reading it going, yeah, I never got those nice tennis shoes, I never had a nice car, you know? Everything I had was not that because everything my dad and my mom had was in real estate, you know?
[0:03:22.5] KR: You got to learn the value.
[0:03:23.9] SR: Yeah, allowed them to retire early with cashflow.
[0:03:26.7] KR: Yeah, you learn the value of entrepreneurship, not only real estate but entrepreneur right from the beginning
[0:03:31.6] SR: Yeah, it wasn’t called the cashflow quadrant game in our house, it was just called, get your but to work.
[0:03:37.9] KR: Yeah, that’s awesome. You fell in love with real estate at an early age, you understand the value and then you know, as you started your own career, you know, what have you decided to focus on? I mean, what’s your niche?
[0:03:53.2] SR: You know, my very first deal was a deal that I did, I was working on a project for my dad and I got to know the neighbors and you know, she was in her late 60s, early 70s and she was starting to have some signs of dementia and her son was in his late 30s and it was time for him to get out of mom’s basement and they wanted to sell the property and on the job, I got to know my crane operator and he needed a yard with a couple of acres and so I put that property under contract with not my last 500 bucks, it was my only 500 bucks.
I put that property in a contract and I went and I got a contract signed by the crane operator and flipping wasn’t a thing then so I literally went to closing hoping he would show up because that’s how I was – I signed everything from both my buy and my sell and he showed up and validated it and that was my first transaction but what I saw out of that was that by solving people’s problems, I could create a whole niche, I could be more than just a builder, I could be a developer with no inventory.
I could be someone that clients would come to me and go, I really want to build a warehouse, what do I do? Instead of being the guy that is only building for profit, is only doing one side of the thing. I could be involved in it all and then as I began to see not only my client’s needs, I saw how I could do a building for myself and I could get more of this for myself and then I started talking with people and I started evolving some partnerships and I started involving some people that hey, we just built a building for you and that worked out really well and you liked the experience, what about coming in and being a partner with me on the building next door or something like that.
I just began to grow a portfolio and you know, I often make fun of us that are you know, 48 years old that we don’t have the terminology that millennials have, house hacking was never a term when I was growing up, it was just called being broke and pivoting was not, that wasn’t a term we used either, we just had to go figure out what happened when we ran into a roadblock.
But, this whole aspect, this whole thought process of syndication really of bringing in multiple partners to bring you to a place that you could take on bigger projects is again, another thing that we did but we never called it syndication and so as I have grown, I’ve been able to take my building experience, bring in some partners that have the financial backing, some things like that and I’ve really kind of created something different because I’m really construction driven, I’m really development driven instead of looking to be a value ad developer or a value ad syndicator.
[0:06:35.8] KR: Got you, very interesting. Tell us a little bit more about what you are doing now, you’re doing ground up development, right? You’ve built a model that sounds pretty unique to be able to do that. Dig into that a little bit more. I mean, tell us about what you’re doing today?
[0:06:52.5] SR: Well, you know, the first thing, Kent, as you know, you can do whatever you want with the world of real estate and that’s kind of a cool thing but one of the things that I’ve done is I’ve looked at the difference between ground up and value ad and I’ve looked at the fact that you know, value ad, you’re going out and you’re buying cashflow and that assumption is that you’re buying safety.
And yet, when you’re building ground up, you don’t have anything there, you’ve got to create everything, there is no cashflow and so you’re buying risk. Really, that’s not the case at all. Let’s take a look at one of the projects we’ve currently got going, it’s a 36 unit ground up multi-family project in Napa Idaho and we have an all in cost of that financing land, everything, a 5.3 million dollars, we got an appraisal from CVRE at 6.3 million dollars, s before we ever started, we knew what our potential upside was likely to be and we all know what appraisals look like in today’s current multi-family market and that they’re a great guideline but typically, they’ll trade for a little bit lower than that. Then I went and I talked to a construction lender and a construction lender told me that he would give me 70% loan to cost.
He was going to give me a 3.7 million dollar construction loan which means I had to come up with 1.8 million dollars of my own capital and so the syndication model went very simply like this, that I put in $250,000 and I raised another 1.55 million and we did the deal.
The reality is, we’re in a different cycle and you know, appreciating that cycle is also part of what makes us a little bit more unique because we’ve actually gone to find our investors who are looking for growth. If you’re looking at value ad model, Kent. You see your investors are usually of two profiles, if you could really just say that they’re of two profiles.
You have those that want growth and you have those that want cashflow and typically, you can divide those by age, right? There’s usually a cut off at about 50 years old, that they want growth under 50 because their pile is not big enough that 7% return gets them anything other than maybe a happy meal or two, right?
And then you’ve got those that are over 50 in their 60s, late 70s, that they don’t have time to go make this money again so whatever they have now, their lifestyle has been paired to fit. Well, the reality is, we have the opportunity to do that but what we look at as we focus on the investor that wants the growth, and we focus on involving them in something that has a 12 to 24 month lifecycle and in that 12 to 24 month, they’re becoming very profitable because what I do in that model is I say okay, we have a million dollars in profit here. I’m going to give the syndication, 35% of the up site.
We don’t have any waterfalls, there’s nothing fancy here, it’s just a very simple equation and that 35%, if it takes us one year to build and we sell for appraisal is in the mid-20s on their return, right? Well, the reality is it only takes nine months to build and we’ve had two ones listed at offers that are closer to seven million and 6.3.
The reality is, when you do the math, it’s quite lucrative, now go one step further and make sure that whatever you’re doing to do this because you’re not going to be able to claim the long term capital gains, you’re not going to be able to claim the depreciation so you need to make sure that you’re going in qualified on how you’re going to deal with your taxes at the end.
Now, let’s talk about an IRA, let’s use a self-directed IRA and let’s go in, let’s make this 25, 28, 32%. Let’s put it back in your IRA and let’s go to the next deal, right? Because nobody wants to involve that ugly uncle we got that likes to take a third or more of what we make for him, right?
[0:10:45.9] KR: Right, just unpacking that a little bit. I understand the development, the growth, typically it’s less than a year hold?
[0:10:55.0] SR: Well, typically, it’s you know, here’s the funny thing when I tell people that I can build 36 units of brand-new apartments in nine months, a lot of people question that but in Idaho, that’s just all the longer it takes, right? We started in July, we’ll have tenants begin to move in, in the middle of March, we will be completely full and stabilized by April and ready to transact on the project because we’re not intending to hold long term.
Now, we could, you could even sell it to someone else that’s looking to re-syndicate it to someone in the older age group that’s looking for cash flow, because what better cash flow could you get than something that’s turnkey. You don’t have any deferred maintenance that you didn’t find on your inspection, you don’t have any tree roots that have grown through your sewer lines, you’ve got all brand new appliances, all new heating and air systems, everything’s up to code, there’s nothing going to kid of sneak out and bite you. It really does from an expense point of view –
Put you in a phenomenal place to make sure that you’re hitting your objectives with your investors on what that is for a long term hold and then just picking up the value of beating your expenses.
[0:12:11.2] KR: Sure, I mean, it sounds like a compelling investment strategy, it’s something that we haven’t heard much on the show so I think it’s a great point of view. What are, I think the upside, I mean, we get that, the upside is real, sounds like great return profile. What are some of the risks associated in doing development and how do those compare with other types of deals or when you value ad deals where people are more familiar with?
[0:12:35.4] SR: I think you know, when you really want to talk about risk, I mean, let’s talk about somebody that closed on a 200 unit apartment complex in Orlando in October of 19. They spent all their value ad, maybe they got at 10% under market, you know? They spent all their value ad, they were fully invested in a thing come February. Now they’re staring down COVID, they’re in trouble, you know? Vacancies in Orlando are because of what’s happened in the tourist industry and everything like that, vacancies in Orlando are struggling, right?
I picked that market on purpose but there is risk there, right? People go, well, we’re going with value ad because there’s really not a lot of risk there but there really is. Because that time before you force the appreciation, you’re at 110, 115% of value at what the rents are today, you’ve got to have that appreciation come in from the increased rents.
If we shift that and we look at what’s going on with development, the risk isn’t getting the developer, the builder to actually perform, right? 25 years in the industry, we’ve got a track record of doing that, some do, some don’t, but the reality is, if you really look at it and you look at our risk profile, we have a 3.7 million dollar loan on a 6.3 million dollar asset.
That means that we can really go to 57 and a half percent to technically of projected rents in the appraisal and still pay the bills, right? We could take a much bigger hit on the development side in our lease up, than you could in your value ad, because most models won’t substantiate a 20% deviation in the rents, right?
Or, a vacancy that went from 5% to 13%, you know? There’s perception there that it’s not safe and the reality is it comes down to just like a value ad, it comes down to who you’re in business with. Are you in business with someone that has a track record and is performing, are you in business with someone that has a track record of building things on time, on budget, you know, those kinds of things or are you working with somebody that they’ve done a lot of syndications and now they’re taking on a ground up.
That would be almost as scary as if I did a value ad, right? Because it’s just not my bag, it’s not what I’ve done before, right? The reality is, if you really dig into it, I would argue that ground up is actually safer than what you would find potentially in a value ad.
[0:15:09.4] KR: Well, it depends on a lot of factors, right? What are you buying at, what’s your basis, how much do you have to put into it, what are people building new and – but I think that – I think with everything, right? I mean, there’s definitely a place for new development. I think what you’ve honed in on is your investor profile, right? If you’re looking for growth, overall growth, absolutely, new development, you know, it’s going to have more growth than a value ad.
But you’re not getting that cashflow over the time period so it depends on your investor profile and what you’re looking for.
[0:15:43.3] SR: That’s the reality, right? If you’re identifying your investor profile and you’ve got the people that are looking for growth and you’re doing consistently, you know, 12 or 18 month projects where you’re returning 22% a year for one project to the next to where your pile is now big enough, now you have a large enough cash basis that you’re able to involve yourself in cash flowing assets at that point that you’ve grown, right? That’s really the model that we really like to do, I mean, before we get involved with anybody, Kent, I’m sure you do the same thing.
You really vet what the investor wants, right? Understanding, because I’ve done deals, I think you have to, where we’ve actually exceeded what we projected and the person’s not happy, right? Because they didn’t fully understand what they were getting into. ‘I thought this was that and it wasn’t, you know, I didn’t like how this was represented,’ and the reality is it comes down to a lack of communication/education on the investor’s part, right? If you’re really looking at that and you’re really identifying that hey, you’ve got the right profile, what you’re looking for is what I’m providing, right? Because the reality is, getting my dad into a ground up development.
Even though that’s what he did all of his life is like shoving a cat in a bathtub, it’s just not going to happen, right? He’s looking at that going, I can’t take that risk, I don’t want to be involved in that because that’s not my risk profile anymore, that’s not my investment profile. But I’d be more than happy that once you’ve got it built son, once you’ve got it stabilized son, I will be happy to join your group then to get cashflow, right?
I think that that’s the thing that a lot of people miss is that understanding of who their investor really is.
[0:17:31.3] KR: Well, I think you made a good point, I mean, from the investor side too, right? It’s just as an investor, understanding what your goals are, you know, where you want to get to and finding the right vehicle to get there, right? Aligning your goals, your age, you know, your ability to take on risk or not, right? And then yeah, understanding what the right vehicle is, I think understanding as an investor, having understanding that you know, it’s – I think 90% of the deals that they come across my desk are value ad deals, right?
I mean, they’re just a lot more prevalent. I think just educating people if there’s more out there, and telling them a little bit about the development space, I think it is the value ad here.
[0:18:12.8] SR: Right, when you look at it, we’re taking sticks and stones, we’re building that, the value that we’re adding is the tenancy, that’s the gamble, right? Is the tenant going to pay a hundred bucks more for brand new, right? Are they going to pay for that new apartment smell, right? That’s the gamble of what you’re bringing in to the market and as you know, a lot of markets, especially like Idaho, we’re going through a growth spurt right now where we have a 2% vacancy and we have not crested three and a half percent in four years.
We need more. It doesn’t matter if you want to do a value ad, you can do that too if you can find that too but we need more, so there’s demand there. You know, some of the larger markets, I mean, San Francisco wouldn’t exactly be a value ad or wouldn’t be a ground up market right now with the vacancy they have.
[0:19:04.3] KR: Right, I mean, that leads to a great question is, which markets are you operating in and how are you selecting those markets, what are the things that you look at to say this is somewhere I want to build?
[0:19:15.8] SR: You know, Kent, this is my problem, I’m just a dumb contractor so I stay at home. I have over a thousand doors in my pipeline for the next 24 months to get built to get syndicated, I don’t have to go anywhere, I’m not smart enough to look at Idaho and then pivot, run down to Tampa Florida, look at that market, understand that market, understand that market, build something there, run over to Houston, build something there.
You know, I’m a bit of a control freak in how I do things. I want to ensure with the certainty that I can only provide in my own back yard, so I just stay where I’m at. But again, I’m in a very target rich environment, right?
[0:19:56.1] KR: Is it all over Idaho, is it specific cities you’re in?
[0:19:59.9] SR: Well, 75% of the population lives in a 15 mile or 30 mile radius of my house. I kind of hang out in what’s called the treasure valley but it’s that southwest portion of Idaho, we are going to be moving over into Idaho Falls and the Twin Falls area which is about two and a half, three hours away into some of those other growing markets.
But you know, the reality is, we have a lot of vacant ground, a lot of bare ground to build on and not a lot of apartments to rehab, it’s a very natural thing for us to pick that up and do it that way.
[0:20:33.2] KR: Got you. I think, even though it happened to be that it works out that you are already living there, it sounds like there’s a lot of things, a lot of factors in t he market that make Idaho a good place to build versus looking to do a value ad.
[0:20:46.2] SR: Yeah, if you do Google Idaho, we just came out in a study I saw just the other day of the top 20 performing markets in COVID for rent increases, we were in the top 10, and the bottom 20 had 13 markets in California, right? There’s a lot of people moving out of that from a standpoint of looking at COVID, I don’t want to live with nine million of my closest friends in a lock down, I’m moving to Idaho, right? I mean, you know, we’ve got open country and all the space and everything like that and people look at it that way, we’ve had a large influx already that just continues to grow but if you Google our market, we are often compared to what’s going on in Charlotte North Carolina or what’s going on in Dallas and some of the larger Texas markets. But we’re not that big.
[0:21:33.5] KR: Sure, yeah. I mean I’ve got to imagine just from proximity standpoint, you guys are benefiting from a lot of the out migration from the West Coast.
[0:21:40.6] SR: We are, yeah. We really are.
[0:21:42.7] KR: Very good. So I know with new development, we talked about some of the common misconceptions but I know that there are some myths out there that we may be able to dispel. So what are the common things that you hear or people perceive about new development that just aren’t accurate?
[0:22:01.7] SR: Well, you know the biggest one is the risk factors. If you are working with seasoned developers, if you are working with seasoned builders and you’re working with a guaranteed max contracts, you know everybody hears about cost overruns you know properly contracted, build will prevent the LP’s from ever experiencing that. Timing, everybody keeps asking me, “How are you doing with your projects with lumber prices” right?
But an experienced builder knows that when you give your quote, when you’re locked in and you are signing your contracts, you’re locking in all of those prices. So the fact that prices are moving that will affect your next project but it won’t affect this one. I think that a lot of people worry about you know, “Are we going to have to pay the bill?” the interest bill during construction and the reality is most construction loans come with 18 to 24 months of interest built into them that give you a runway in our case, we have nine months from our completion date to stabilize 36 units.
[0:23:02.7] KR: When you say there is interest built into them, explain what that means?
[0:23:06.5] SR: So typically with value add there is not as much and I know that that’s become a big question during COVID is how much interest reserve is built into a value add, right? There didn’t used to be a lot and so then as vacancies popped up and everybody was doing their value add part operators got into trouble. Well with construction, you begin to advance on your $3.7 million, you know 200,000, $300,000 a month for nine months until the projects built out.
And the banks is wanting interest on that, right? So they set up an interest reserve because they know that you’re not going to be paying interest while you’re constructing. They also look at the stabilization period and they give you a stabilization runway where you are paying the interest on the full $3.7 million. So we borrowed additional funds in that 3.7 that pays that interest so that we don’t have to and people don’t quite understand that.
They think that as soon as it is finished, the LP’s and I are going to start showing out monthly payments that doesn’t work with the rents and the reality is you’ve got a rent that’s coming in on a as you get them rented basis. So your rents are slowly trickling in that nobody is accounted for so you actually have an additional revenue stream there that you will have access to when you’re all done because the bank has the full amount of the loan reserved for a period that you have agreed upon.
And usually that’s called out by the appraiser, by people smarter than the builder as to how long that’s going to be. So there really isn’t a ton of risk on that otherwise.
[0:24:47.4] KR: So you are getting for that interest, that interest carry, you’re actually getting you are financing that so you are just getting additional debt to cover that. You are not raising additional equity to cover that portion.
[0:25:00.1] SR: Right and so in that 3.7 that we bought I believe that there was about a third of it was bank financed and part of it, two thirds of it was equity financed because the whole number, when we look at the 5.3 million, you know we had about $365,000 in interest carry on our funding for the period of time that gave us a full 18 months of carry.
[0:25:25.0] KR: Got you. Yeah and I think like you said that’s a good lesson learned from the development side. I think we’ve picked up as we do our deals, I mean we are adding six months to a year now of interest carry. I mean we started doing that through COVID, which wasn’t typically there before. So a good lesson picked up a lot of it is going to smooth some of the ups and downs as we are going through COVID.
[0:25:46.8] SR: And what it does is it affects your return ever so slightly. It doesn’t affect it that that much and the security that it gives everyone is astronomical. You know it is some of the best money you could ever spend especially when you are talking to your investors and they’re questioning how are you going to cover because people weren’t thinking about COVID but then again, we weren’t thinking about 9/11 before it happened either.
It takes catastrophes like this for people to look at it and go, “How do we better protect ourselves? How do we learn from this? How do we become better syndicators? How do we become more savvy investors? What kind of questions are we needing to answer?”
[0:26:26.0] KR: Right and I think what you are getting into I mean even with having that extra cash around and impacting your overall return, if it is slightly I mean but what you are speaking to is really what’s your talking about risk adjusted return, right? So what’s the risk and I think that is something people often don’t take into account, right? They just look at the return numbers but they’re not really understanding the probability of those returns and what are the things that could go wrong and what has been done to mitigate those things, right?
[0:26:53.5] SR: Correct.
[0:26:54.0] KR: So even though the returns might be a little bit low or it is well worth it to have that added security.
[0:26:59.5] SR: Well and you will always find that the investor that’s been around the block will pick the one with the better reserve all day long because they realize that the one or two percent that they might be giving up, there is no such thing as a sure thing but it is a much surer bet that that’s actually going to be a reality and it also speaks volumes to the experience of the syndicator. You know, to see that, “Hey, we’ve got that covered.” And we’ve even made sure that even with all of that, we’ve still got a good deal.
[0:27:29.9] KR: Yeah and I worry about that for other investors that are still expecting the same return profile they are getting maybe three or four years ago and seeing shiny deals that are still offering that but not really looking in and understanding the details and understanding the risk associated or the expectations that are put in place that puts a lot on paper to that higher return but again, what’s the likelihood in this market, you can still achieve the same returns you were three to five years ago.
I mean on the value add side I know that you’ve got to find that special hidden gem right now to do that. In development though, I mean this is a great question as we compare the two in development; how have returns changed over the last three to five years? I mean have you seen things tighten up or where are we?
[0:28:17.9] SR: You know the thing about development is that typically developers of multi-family are bigger players. They’re institutional players, they’re well-heeled investors. They’re not what may be a typical syndication group that’s got three to five years’ experience. These guys are – so the returns have always pushed for strong low to mid 20s has always been where we’re at and as the market heats up that continues to stay in place and in a lot of cases, it’s the new development that drives the pricing on-value add, right?
Because when a guy looks at a value add and go, “Well, they just built this new one down here and look at what they’re getting for that that’s what they paid to build it, mine must be worth X dollars” right? And you know you hear the argument all the time of well, you know in a COVID type of environment, class A is going to suffer but what I think it’s really shown is that people looked around and said, “I don’t want to live in a dump. I want to live in the best I could afford.”
And Class A has done very well during COVID from what I’ve seen and so, what I see a lot of people look at is they look at that and they go, “What’s this going to do?” and the reality is that new development kind of always stays where it’s at because it is fundamentally anchored by, number one, it’s anchored by appraisals and banking whereas value add, you can mix your own Kool-Aid. You know you could run your own spreadsheet, you could make it say a lot of whatever you want.
And the lending side is done on the actuals. It is not done on the proforma, right? So you are going on actuals and anything over and above that is your special sauce that you are selling. I can’t do that. You know sometimes I wish I could because there’s deals I really wanted to do but the numbers would not work for what I needed my returns to be and I was given the insight by CVRE or by any of these national appraisal firms that do multi-family.
So it really keeps us a little bit grounded and then we look at it and we are competing with, you know Walker & Dunlop does a lot of financing for Kennedy Wilson and some of these other guys that they know what their margin has to be and because of their size, we can just hover right underneath that.
[0:30:41.8] KR: Got you, okay.
[0:30:43.4] SR: It’s really tattling on myself. I don’t have to really invent anything, I just have to follow the big guys and follow what the appraiser says and just don’t make too many stupid mistakes.
[0:30:53.0] KR: Well, you know success leaves clues right? And you don’t have to reinvent the wheel to –
[0:30:57.7] SR: Be successful.
[0:30:58.7] KR: To be successful, yeah, exactly right. So just digging into the weeds a little bit with you, I am curious, you touched on how deals are structured a little bit. Could you go more into that and talk about, you know you said you are not doing waterfalls and things but how are the deals structured and how did the investors like when and how did they receive their returns?
[0:31:17.5] SR: Sure. So very simply, we do on our multi-family, we’ve come up with it – just the simplest way to do it is when we look at the overall structure, we’d look for the returns that’s going to make sense and then we literally sell out that portion of the shares, right? So instead of it being GP-LP situation where you know the GP can earn more or earn less, we go in with a fixed anticipation. We sold 35% of the project for 1.55 in capital raised.
So the reality is when we are sitting out at the closing table, I don’t even need anything more than a very simple calculator to know what each person is going to be getting in the return, right? Because we know that at the end of the day, we’ve got a guaranteed maximum contract. So the builder cannot charge any more than he’d proposed. We know what our strike price is, it’s an appraisal. Anything above and beyond that is going to be gravy for everybody.
And they know that at the end of the day, they are going to get back their initial investment and their portion of that 35% and so that makes it a very simple equation. We are doing some other stuff in some industrial where we’re doing some ground up industrial space where we’ve got a little bit of a hybrid because we’ve got some people that like the risk but they also like the tax benefits of long term cash flow. The tax incentives that are involved with the bonus depreciation.
And the cost segregation studies and so we’ve got some where we’re doing a deal where it is a 20,000 square foot warehouse. We are raising again, $1.1 million on a $3.3 million project. Once we are built and stabilized, we are going to have a value near four million. So we’ll refinance what the permanent debt structure out of a life insurance company and we’ll return about 75% of the investor’s initial cash in a 12 month period of time.
So now they’ve got the majority of their cash back. They are sitting on about an 18% cash on cash return for the next 10 years, right? Then they’ve got their bonus depreciation and their other stuff. So we just do – it is fairly simple what we do just because we are fairly quick on our turn.
[0:33:38.2] KR: You mentioned the bonus depreciation in that example but are you able to take advantage of like cost segregation and getting that bonus depreciation on a new development?
[0:33:47.5] SR: Unfortunately, we don’t hold it long enough to do that that is why we like to sit down with our investor beforehand and ask them where their source of capital is coming from because it’s always beneficial even if it is non-qualified IRA funds, it is always best to run it through something like that that will defer the taxes to a later date because it does come back to you as ordinary income.
[0:34:09.9] KR: Yeah that makes sense. So you want to invest in some sort of tax advantaged investment vehicle, right?
[0:34:16.9] SR: Correct because you know as well as I do if you are getting a 30% return and you are giving 30% of that return away before you reinvest at a second time, you are not going to go there as fast as if you come into a tax advantage situation where you put it through a non-qualified IRA and then invest it. It grows, it goes back to your IRA after 10 years, maybe you decide you are wanting to pay the balances and the fees and pay the taxes but your amount grew so much larger, you are going to wind up in a much better position at that time than having done it the other way.
[0:34:49.0] KR: Right. Yeah that hurts they have to pay ordinary income on this stuff so.
[0:34:53.4] SR: It’s very de-incentivizing that’s for sure.
[0:34:56.2] KR: Yeah, well great. Well Shannon, thanks for going into the weeds a little bit. I think it is important for investors to know how the deals actually work and how they’re structured. As we wrap things up here, I want to move into our keys to success and I’ve got four questions for you I want you to share with our listeners. First one is, think about it as an investor going into your deal, what’s the one question an investor should be asking if they only get one?
[0:35:24.1] SR: You know I think that the question that the investor really should be asking is, “Is this deal for me?” You know you and I kind of touched in on it but is my investor profile this investor profile? So that their experience is – I mean 80% of the experience of being an investor in a deal is how you are perceiving that deal to happen and so I found that if the investors looked at it and they understand it and they’ve obviously gone through the due diligence.
They’ve qualified the people but is this, even though they love the deal, is this a deal that they’re going to be happy with, with their investor profile and what they’re able to look at for risk scenarios?
[0:36:05.8] KR: Right, I think that is a great point and that goes to something that we hit on this show a lot, which is as an investor, you have to start with your own goals and keep your own goals in mind and you have to align your investments that way otherwise like you said, you know it could be a good investment but you will never be happy because it’s not giving you what you need at that point in time. That changes as you evolve, as you growth wealth.
[0:36:27.7] SR: Correct.
[0:36:28.3] KR: So what are you most proud of in your career?
[0:36:30.6] SR: I’m most proud of my reputation and I know that sounds a little bit egotistical but I am very proud of the fact that I can take you to anybody I’ve ever built for and get a cup of coffee. I can introduce you to anyone I’ve ever worked with and you’re going to hear good things about me not because that’s what I strive for is to hear good things about me but it is because we did our job well and it’s because we took care of the customer.
And it wasn’t all about, it wasn’t necessarily about the money. It was about the customer satisfaction and sometimes that’s been expensive but at the end of the day, you can’t buy a reputation like that and you certainly can’t fix a reputation that’s been damaged by that.
[0:37:13.8] KR: Yeah, it only takes one bad deal, right?
[0:37:16.1] SR: Yeah.
[0:37:16.6] KR: And what’s one book that everybody should be reading?
[0:37:19.3] SR: Everybody already goes to Kiyosaki’s book. We’re going to assume you read that one. The one book that I think everybody should be reading is Chris Voss’s book, Never Split the Difference. It’s really changed the perspective of how I even interact in basic conversation not that I need to negotiate with my kids or my wife you know from an FBI standpoint but it really opens you up to hearing what they’re saying and identifying what they’re wanting out of this conversation, so that you can make sure that as their objectives are met so are yours.
[0:37:50.5] KR: Yeah that’s a great book. I’ve read it twice and it’s definitely done wonders for me on, I would say hundreds of thousands of dollars in value through that book from specific negotiations that I’ve followed their tactics and they’ve worked. So definitely recommend that book as well. Awesome and last but not the least, what’s your number one key to success?
[0:38:14.8] SR: Tenacity. You know the reality is, if you don’t keep doing it, if you don’t keep grinding, if you don’t stay after it, you’re never going to get there. I mean there’s nobody out there that’s achieve huge success that put in mediocre effort. You know I haven’t found a story yet of anyone that has gotten to the pinnacle of success with a mild work ethic, with a, “Well, that didn’t work. Let’s try something else.” You know you don’t often hear of entrepreneurs that have tried a 100 different businesses.
You hear that they’ve tried a 100 different versions of the business they finally succeeded at but you don’t often hear that they quit this and they quit that and they work for this guy and they quit that and so just being tenacious and just staying after and staying driven toward your goal and staying single-mindedly focused on getting there, to me that’s I believe the only thing that creates that success.
[0:39:18.4] KR: Yeah, do you have a process or a routine that you go through to maintain that focus?
[0:39:24.7] SR: You know, I’ve been doing this for 25 years and I remember one time when I was a young man and I was very frustrated, my dad just told me he said, “You know if you are in the major leagues and you strike out two thirds of the time, you are still going to have a 0.333 batting average in you’re still going to make millions of dollars and if you just get up and you just swing again, you’ll be fine,” and there’s been so many times in my life when I have sat there.
And just known that I just have to get up and I have to go stand at the plate and I have to swing again and I got to put together another deal and I’ve got to put something else out there and I’ve got to do this and it’s worked and I just don’t know that it’s necessarily routine other than it’s just an undisputed truth in my life that I’ve always known. I mean I don’t know how you’re raised Kent but if my dad said it was usually and it proved to be true in my life all the time.
What my father said worked and so I’ve always just kind of leaned on what dad said and I have always known that dad said to do it, if I go do it, it’s going to work and it absolutely does not just because my dad said it.
[0:40:35.0] KR: Now, I mean tenacity and singular focus and just continue to go after, I love the baseball analogy. I think that really rings true, right? You know you are never going to go have a 100% success but if you keep going after it I mean you will reach it eventually.
[0:40:50.9] SR: Yeah, I mean for years Babe Ruth was known for being the homerun king but he also held the record for the most strikeouts.
[0:40:59.1] KR: Right. Yeah, absolutely. Awesome, well Shannon thank you so much for being here today and sharing a ton of value with our listeners. For folks that want to learn more about what you’re doing, how do they get a hold of you?
[0:41:13.8] SR: Yes. So you could find us on all the social platforms, you know shannonrobnett.com. My Vertical Equity is our investing platform so you could go there and find out about the deals we’ve got cooking but the easiest way is just shannonrobnett.com.
[0:41:27.6] KR: Awesome. Well, that’s easy enough. Shannon, thank you again for being on the show and looking forward to doing it again.
[0:41:34.3] SR: Kent thank you. I can’t thank you enough for allowing me to come on and share some knowledge. I hope your listeners got something out of it.
[0:41:39.8] KR: Definitely, I’m sure they did. I appreciate it again Shannon, have a good one.
[0:41:43.0] SR: All right, thank you too.
[END OF INTERVIEW]
[0:41:44.4] KR: Thanks for listening to another great episode of Ritter on Real Estate. Hit the subscribe button to make sure you don’t miss out on the content that will make you a better investor. Also, visit kenritter.com for articles, videos and tools curated just for passive investors. Until next time, this is Kent Ritter on Ritter on Real Estate. Now go out and invest like a pro.