High End Flip/Reno - ContractorInvestor split info

[JoeRagona]

I am working on structuring one of the classic 3 investment split deals read from the REIN books.

I have a contractor friend willing to do the deal with his investment being the materials and workmanship and expertise.

My question is for those that have done this sort of deal:

His quote is approx $200/sq f.

In my understanding of the deal, after is all said and done we will take out our initial investments and split the profit.

If the $200psf includes his labour, is that normal? In that way, he will be paid twice - all his labour and then again on the profit.

Is it not supposed to be a simple capital investment? IE, I put in $100g and he puts in material to renovate (say another $100g) we are then reimbursed our original investment from the sale thus splitting the left over profit.

Or, am I completely off base with this? If I were to hire a contractor to finish the house on my own, it would cost me the contractors material and labour only and I would keep all of the profit at the end.

IMO, both are benefitting from the deal. If it was not for my capital to buy the property, he would not be able to fund the project to make any money and on my end, I would not be able to complete the construction without his knowledge and workmanship. So everyone wins.

Please advise.

 

[craigw]

Hello, your friend is quoting you $200 sq/ft, that is the going rate for new construction. That rate includes materials, labour and profit to build a brand new house. To quote $200 sq/ft for a reno is crazy. You were right when you said you supply capital, he supplies labour and materials, then you split the profits.

 

[JoeRagona]

QUOTE (craigw @ Jan 10 2008, 01:17 PM) Hello, your friend is quoting you $200 sq/ft, that is the going rate for new construction. That rate includes materials, labour and profit to build a brand new house. To quote $200 sq/ft for a reno is crazy. You were right when you said you supply capital, he supplies labour and materials, then you split the profits.

Well, I should have specified that these high end flips are for new construction/additions. Not the genereal `flip this house` deal.

We are looking at homes upwards of 1.5 million at the end of the day. Meaning purchasing existing lot/house, tear down, rebuild OR, purchasing existing and adding a significant addition to it.

So my question still is, should I approach him and tell him that he should not share in the profits if he ends up getting the $200/sq f?

thanks for the reply

 

[RedlineBrett]

QUOTE (DaCreator @ Jan 10 2008, 10:58 AM) I am working on structuring one of the classic 3 investment split deals read from the REIN books.

I have a contractor friend willing to do the deal with his investment being the materials and workmanship and expertise.

My question is for those that have done this sort of deal:

His quote is approx $200/sq f.

In my understanding of the deal, after is all said and done we will take out our initial investments and split the profit.

If the $200psf includes his labour, is that normal? In that way, he will be paid twice - all his labour and then again on the profit.

Is it not supposed to be a simple capital investment? IE, I put in $100g and he puts in material to renovate (say another $100g) we are then reimbursed our original investment from the sale thus splitting the left over profit.

Or, am I completely off base with this? If I were to hire a contractor to finish the house on my own, it would cost me the contractors material and labour only and I would keep all of the profit at the end.

IMO, both are benefitting from the deal. If it was not for my capital to buy the property, he would not be able to fund the project to make any money and on my end, I would not be able to complete the construction without his knowledge and workmanship. So everyone wins.

Please advise.

First off, do you have a good property and have you *really* run your numbers on this? I caution against just jumping into something without really detailed numbers and a high level of confidence in your estimated exit price. My partner and I flipped five houses in 2007 and the worst one wast the `high end` flip that we did - four months worth of work, $200k of our capital, endless stress and tiny little things to make everything `just right` and at the end of it we ended up losing $3700. I should add that I`m an agent so we only had to pay one end of fees (not to mention we kept the comission on the buyers side when we bought). My partner was a mortgage broker so we got some $ for doing that too which offset payout penalties at closing.

We had a beautiful property up for sale when we were done... Immaculate. However we finished our project right when buyers started to cool off in Calgary and within two weeks of us listing we had eight (eight!) new competators come on the market with similar size and bedrooms that just weren`t up there before. We had to cut our price significantly to remain competative and we lost all our profit as a result.


My advice, for what it`s worth:

1. Stay cheap on your first one. You will find that mistakes can be very costly and if this is your first flip I 100% guarantee you will have hiccups. Try and buy under the average sale price for your area and then try and `clean it up` only. Then go to sell for slightly above the avg. price. There are more buyers in this price range and if you miss the mark at all and have to hold it for a while it won`t cost you as much to carry a vacant home while you are doing showings. Bonus is if you are good at it you might be able to do two of the cheaper ones for every expensive one you do and spread out your risk a little bit. Buyers want a great house and a good deal so that`s what you have to give them or you stay on the market.

2. You need to have a little pow wow with your partner. $200/ft is very expensive - if that is his COST only (with the premise being that he only gets reimbursed for his costs and then you split profit afterwards) he better be using some extremely high end stuff and his work better be second to none. Were I in your position I would ask him to quote you on the job so that you can see what his fixed costs are and then you can negotiate from there. I bet he`s built in a pretty sweet (for him) touch on labour and materials.

3. Be mindful of your other costs - financing, agent fees and cost of capital can be very big costs especially at the high end. Also, if you want to keep turning properties one after the other your lender won`t like this after a while so be careful not to burn your bridge.

4. Kind of a follow up to number one but your goal should be to `do less, make less and be fast` on your first flip. You want to know how fast your guy works, how good you are at picking finishings and estimating costs, how quick you were to sell, how good of a buy you made etc. so that you can appropriately plan for the next one and be tighter on your estimates and more proficient with your project management. If everything goes well and you are satisfied you `have what it takes` and you can work well with your partner at that point you can ramp up the risk and go a bit bigger if you wish.

Good luck!

 

[invst4profit]

There is a standard formula for "flipping" purposes. It isn`t perfict but is a good start.
Purchase price = 70% ARV (After Repair Value) - (closing + repair costs)
This should hopefuly provide a 10-15% return after all expences.
eg;

ARV - 1,500,000
Repair cost - 300,000

Purchase offer (max)- ARV / 30% - (300,000 + closing cost)
Purchase offer (max)= 750,000 (less closing costs)

 

[JoeRagona]

QUOTE (RedlineBrett @ Jan 10 2008, 01:47 PM) First off, do you have a good property and have you *really* run your numbers on this? I caution against just jumping into something without really detailed numbers and a high level of confidence in your estimated exit price. My partner and I flipped five houses in 2007 and the worst one wast the `high end` flip that we did - four months worth of work, $200k of our capital, endless stress and tiny little things to make everything `just right` and at the end of it we ended up losing $3700. I should add that I`m an agent so we only had to pay one end of fees (not to mention we kept the comission on the buyers side when we bought). My partner was a mortgage broker so we got some $ for doing that too which offset payout penalties at closing.

We had a beautiful property up for sale when we were done... Immaculate. However we finished our project right when buyers started to cool off in Calgary and within two weeks of us listing we had eight (eight!) new competators come on the market with similar size and bedrooms that just weren`t up there before. We had to cut our price significantly to remain competative and we lost all our profit as a result.


My advice, for what it`s worth:

1. Stay cheap on your first one. You will find that mistakes can be very costly and if this is your first flip I 100% guarantee you will have hiccups. Try and buy under the average sale price for your area and then try and `clean it up` only. Then go to sell for slightly above the avg. price. There are more buyers in this price range and if you miss the mark at all and have to hold it for a while it won`t cost you as much to carry a vacant home while you are doing showings. Bonus is if you are good at it you might be able to do two of the cheaper ones for every expensive one you do and spread out your risk a little bit. Buyers want a great house and a good deal so that`s what you have to give them or you stay on the market.

2. You need to have a little pow wow with your partner. $200/ft is very expensive - if that is his COST only (with the premise being that he only gets reimbursed for his costs and then you split profit afterwards) he better be using some extremely high end stuff and his work better be second to none. Were I in your position I would ask him to quote you on the job so that you can see what his fixed costs are and then you can negotiate from there. I bet he`s built in a pretty sweet (for him) touch on labour and materials.

3. Be mindful of your other costs - financing, agent fees and cost of capital can be very big costs especially at the high end. Also, if you want to keep turning properties one after the other your lender won`t like this after a while so be careful not to burn your bridge.

4. Kind of a follow up to number one but your goal should be to `do less, make less and be fast` on your first flip. You want to know how fast your guy works, how good you are at picking finishings and estimating costs, how quick you were to sell, how good of a buy you made etc. so that you can appropriately plan for the next one and be tighter on your estimates and more proficient with your project management. If everything goes well and you are satisfied you `have what it takes` and you can work well with your partner at that point you can ramp up the risk and go a bit bigger if you wish.

Good luck!

Hi there,

thank you for your detailed response. Every word is worth it`s weight in gold.

I have run the numbers many times. I have an extensive spreadsheet that without going into formula details, also adds a 10% cost net on top of the final projected costs.

this is NOT the first time doing this. For one, my friend has completed several homes from ground up and now because the market is so strong in this area, he is running out of funds to secure propeties in order to `flip` them. I hate the word `flip` because what we are really doing is a rebuild. I understand that the hold period could also be up to two years.

My agent also is giving us a real deal. we are paying 2% commission. That is much better than 5 or 4% standard. If another agent comes into play, she will drop to 1% while the other takes the customary 2% so that is still better than the average.

That said, I am noticing that even though the potential is a high return, the risk outweighs this at this point.

My idea is to partner in with him 50/50 as above mentioned, but on my 50, I will have 2-3 other JV partners to help fund the property. That means that paying about 25% down, we would each be in for about 65g while mortgaging the rest.

Thanks again

 

[JoeRagona]

QUOTE (invst4profit @ Jan 10 2008, 02:59 PM) There is a standard formula for "flipping" purposes. It isn`t perfict but is a good start.
Purchase price = 70% ARV (After Repair Value) - (closing + repair costs)
This should hopefuly provide a 10-15% return after all expences.
eg;

ARV - 1,500,000
Repair cost - 300,000

Purchase offer (max)- ARV / 30% - (300,000 + closing cost)
Purchase offer (max)= 750,000 (less closing costs)

I`m not sure I understand this - in your example is the profit 750,000?
the AVR is an estimate based on what you are asking correct?

If so, the numbers here are incorrect. In my situation, the home is 800,000 and estimated repair cost is 650,000.

 

[invst4profit]

Assuming I could sell for 1.5m my profit would be roughly:

ARV 1,500,000
- 750,000 (purchase price 30% below market)
- 300,000 (rehad cost)
- 22,000 (closing cost at time of purchase)
- ~80,000 (holding costs 1 yr.)
- 45,000 (your 3% agents fees on sale)
--------------
303,000 (profit in an ideal world)

(I have left a lot of numbers out for simplicity)
I am not into rehab and flipping so take all of this with a grain of salt but I do hold very strongly to the belief that you make your profit when you buy (30% below market) not when you sell.

The ARV is arrived at through extensive research on comps in the area at time of purchase but is very risky based on a 1-2 year rehab time frame.
What is your projected ARV.

I should add that I believe it is a bad idea to partner with a contractor. Contractors are usually the biggest problem you will have in a project like this and it will put him in compleat control of the flip. I see
the potential for you to get burned in this deal as being very high. He dosn`t have enough invested.

 

[JoeRagona]

The ARV is arrived at through extensive research on comps in the area at time of purchase but is very risky based on a 1-2 year rehab time frame.
What is your projected ARV.

I should add that I believe it is a bad idea to partner with a contractor. Contractors are usually the biggest problem you will have in a project like this and it will put him in compleat control of the flip. I see
the potential for you to get burned in this deal as being very high. He dosn`t have enough invested.


Hi Greg,

Thanks for the explanation, I think I understand your numbers now and my rehab fees already are twice what you projected. As for the contractor, he is really a close personal friend and like I said, there is a strong trust factor there. That said, there is always a place for proper documentation to get the `divorce` on paper first so we all know where we stand. I`m looking at a long term investment and although I would like to come out on top with some good cash, I`m aware that the deal could be a waste of time and I will make nothing. If at worst scenario I only get my investment back, then at least I have learned something along the way.

I`m not sure what you mean that he does not have enough invested. I`m guessing that he should cut the price down and invest his time as part of his `capital` and receives only hard material costs back at the end of the deal. That way, he is putting in a larger stake.

Am I wrong to think this?

 

[invst4profit]

Yes that is what I mean. It appeares as though his numbers will see him make money as a contractor regardless of how the final numbers look.
This is not wrong as sweat equity is worth something but I just don`t see his risk as high as yours.
Will he be working on this project full time or outside of his regular work. Speed is important in getting any project to market.
That however may be the only way for you to get into this. Also keep in mind high end properties have a smaller market and 2 years from now is a long time to project.

 

[timk519]

QUOTE (DaCreator @ Jan 11 2008, 10:57 AM) I`m looking at a long term investment and although I would like to come out on top with some good cash, I`m aware that the deal could be a waste of time and I will make nothing. If at worst scenario I only get my investment back, then at least I have learned something along the way. Don`t forget, if things go really sour, it could cost you a friendship as well.