by George Hedley
The construction business is a hard way to build a fortune. Only a few construction business owners ever make enough money in their lifetime to acquire enough financial assets to become wealthy or retire in a comfortable way. But those who make it a priority to invest in real estate as a part of their business plan, end up at least ten times wealthier than the average construction business owner.
Every day most construction business owners drive buy lots of opportunities to get rich. But, they don't take the time to stop and checkout vacant pieces of property, or inquire about an empty industrial building, or look for property to build their own office and yard on. They're too busy working to make any real money. They spend their time scheduling workers, ordering materials, bidding jobs, and building projects for customers who are enhancing their real estate properties. Most contractors work too hard (and too cheap) helping real estate developers and owners create huge portfolios and make tons of money.
Business or real estate wealth?
A friend of mine attended an annual business luncheon where the wealthiest business owners in his community gathered. The after-lunch speaker asked the attendees a series of revealing questions. He asked them to write down their current net worth based on what they had earned by working in their businesses over their lifetimes. Then he asked them to write down how much money they would have today, if they had never sold any of the real estate they owned over the years. In almost every instance, the results were unanimous. These wealthy business owners would have a larger net worth if they had never sold any of their real estate versus the amount they had made building their companies.
I am asked to speak at 50 or more conventions and meetings every year. After I speak, people always come up to ask questions, give me referrals, and tell stories my message triggered. They tell me they own a construction company or some other type of business. Then they tell me their secret to success: they earn the most money owning real estate. Some own their company building or yard plus the shopping center next door, or a series of homes they rent out, or several warehouse buildings, or they have a partnership interest in a customer's self storage project. They used their companies to get started, create a positive cash-flow, and make a profit. And then they made it a priority to spend half of their time investing in wealth building real estate assets.
Developer vs. contractor?
As a general contractor, I can't tell you how many clients I have built for who have an oceanfront home plus one or two vacation houses in fantastic places. Every year they always want to have a job meeting two weeks before Christmas to review projects we were building for them. Then they fly off to Aspen or Hawaii for their three week holiday. And when they return in January they expected us to have solved all their construction problems and kept on schedule during the holidays. It doesn't seem fair does it?
As I looked at our situation, I started questioning my business plan as a contractor. We did more work than our customer, had more employees, took lots of risk, received a one time contractor's fee for all of our expertise and hard work, and didn't make very much money for our efforts. I reflected on the hundreds of buildings we had built for clients who were now living off ongoing and perpetual monthly rental income these projects produced.
As an example, the first project I built as a contractor was for a women who bought 3 acres for $150,000. We designed and built a 50,000 square foot industrial park for her on the property. Our construction contract was $1,500,000 and we made a contractor's fee of $85,000 for overhead and profit. Of the $85,000 fee, $60,000 went for our overhead leaving us a net profit of only $25,000. After tax, we ended up with a grand total of $15,000! Upon completion, she fully leased up the project which initially generated a $5,000 per month positive cash-flow. Now, 30 years later, her project generates a positive cash-flow of over $40,000 per MONTH and she doesn't even live in the same state!
What business are you in?
Think about your priorities and the purpose for your company. The real purpose is to give the business owner what the owner wants. Your business purpose isn't to build buildings, install pipe, move dirt, hang drywall, or paint walls. You are in business to make a profit, build equity, seek wealth building opportunities, and enjoy the benefits of business ownership.
It took me 20 years as a commercial general contractor to finally wake up and make a decision about my future. Year after year we worked hard to make the industry average 1.5 to 3.5% pre-tax net profit. I endured lots of stress and took extreme risks building projects for customers who made millions owning and developing real estate. I started to realize that while our company did most of the work, our customers made most of the money. Why? Because I was in the contracting business. And my customers were in the wealth building business.
To get what I wanted, I had to continue doing business as a general contractor plus seek opportunities to create some wealth. When I ask construction business owners what they do, they respond they're in the construction business. Is the real purpose for your business to build for others, or is it to build wealth for yourself? To build wealth you have to make wealth building a top priority. Do you put building wealth first in your daily activities or does it fall onto your wish list of things you never get around to?
Building financial wealth is the outcome of consistently making a profit, retaining it, using it to acquire profitable business opportunities, create passive income, and grow your net worth. Often people always ask me how I have enough time to run my construction company plus time to write articles, author books, and speak at conventions and company meetings. My answer is simple: "Duh! I'm the owner!" In the dictionary, the definition of "owner" doesn't include the words like worker, estimator, project manager, superintendent, or hands-on control freak!
Change your business plan!
Fortunately in 1994 I made a decision to change the way we do business. We are now in the opportunity business. We seek opportunities to make a profit AND build financial wealth. Our construction business creates opportunities to cover our overhead and make a profit. It also puts us in the middle of the real estate market which presents opportunities for us to own and develop projects. Our wealth building business plan is to seek real estate projects or property where we can add our construction expertise and create value-added real estate investments. For example, if we find an old under-utilized industrial building to buy and upgrade, it gives us the opportunity to generate construction income during the remodel. Upon completion we lease the building to tenants. This creates long-term positive cash-flow while increasing our financial wealth.
Seek value-added property!
We purchased a 24,000 square foot well located warehouse building for $1,250,000. It needed lots of refurbishment and a new tenant. Between myself and some friends, we invested $250,000 of cash equity and got a $1,300,000 loan from the bank to buy the property. We spent $300,000 upgrading the building and then leased it to an excellent company at a higher lease rate. Today we enjoy great monthly net cash-flow, and have been offered over $2,500,000 from potential buyers who want to purchase our building. It's not for sale as it will continue to grow in value and generate increasingly higher monthly cash-flow for us owners.
Joint venture with customers!
Another type of win-win we seek is joint venture projects with our construction customers. We offer to take both construction and financial risk. This allows us to share in the eventual profits of development projects. For example, one of our customers asked us to build a project as the general contractor. I asked him if he had all the equity needed to complete the development transaction. He said he was investing $400,000 himself but still needed another $400,000 to put the deal together. I offered to provide the additional $400,000 equity needed for 50% of the project ownership and profits. This arrangement provided us with a $4,000,000 construction job plus 50% of the overall project development profit. I funded our $400,000 equity capital partly from our construction fee, plus $100,000 of my money, and the balance from a few friends who were looking for somewhere to invest their money. As a contractor, our contractor fee for overhead and profit was $220,000. But as a developer, we made another $400,000 from our investment. An easy way to triple your return on energy!
What's your real estate goal?
Getting involved in real estate takes a decision to make wealth building your priority. As contractors you see opportunities. Once we decided to make real estate a part of our business plan, we set a simple goal to buy, joint venture, or develop at least 20,000 square feet of commercial property every year. From that, we would generate construction profits, create passive positive cash-flow from the properties, and build our financial net worth. If we continued to acquire or develop 20,000 square feet of properties every year for 20 years, we would own 400,000 square feet of buildings. These buildings would generate, on average at least $.15 per square foot monthly of positive cash-flow = $60,000 / monthly net income. And, owning 400,000 square feet of leased commercial property should equate to at least $20 per square foot in net asset value = $8,000,000 net worth. Not bad for only adding one small project to our portfolio every year.
I often get asked for my number one business tip to be successful. Many contractors fall in love with their equipment, tools, and machines. But most never get ahead by owning lots of toys. My answer is to buy your first real estate investment before your next truck. What's your real estate investment goal?
Start small but start!
I started investing in real estate in a small way by buying a residential duplex for $40,000, upgrading it, and then raising the rent. This created additional property value and a positive cash-flow. Another real estate investment I did while building my business was to buy my own building for my company. Getting started with small real estate projects reduces the fear of the unknown. You learn how to work with real estate brokers, find property, make an offer, go to escrow, get a loan, review documents, close escrow, lease out space, hire property managers, negotiate, and do what successful real estate investors do everyday.
Every real estate investment has a team of professionals who contribute to the overall success of the project. As a contractor, I know how to hire an architect, go to the City, and build the project. But I didn't know much about real estate contracts, making an offer, finding a construction loan, or putting a project budget and pro-forma together which would calculate whether the project made financial sense. Not knowing how to do some of the parts of the project held me back from moving forward on my plan to start a real estate investment portfolio. What hold you back from moving forward?
The Real Estate Project Team
- Equity investors
- Real estate broker
- Mortgage broker
- Real estate attorney
- Architect & engineers
- General contractor
- Escrow company
- Title company
What part of the team do you need the most help with? You are probably building projects for customers who have lenders, brokers, attorneys, title companies, and escrow officers on their team. Get their names and go meet them. Ask questions and learn. These resources are the best place to start building your team. Ask for referrals to professionals who specialize in the project types you want to pursue.
Where to start?
In order to get started finding a good real estate investment or development project, you've got to find the right property for you. The most important person on the project team is the developer. The developer has a business goal to find a certain type of property to purchase, in a general location, within finite financial parameters. What kind of investment property do you want to start with?
- Property type
- Property condition
- General location
- Upside potential
- Amount of equity available to invest
- Borrowing capacity
- Financing available
- Minimum financial return desired
Cash is king!
You can't buy real estate without some cash. Make sure you have equity investors lined up and ready to write checks. The most important part of any real estate project team is having the money needed. Generally you'll need between 20% to 35% cash equity in every property you purchase. Most lenders will finance between 65% and 80% of the appraised value (not the purchase price). The appraised value is based on what the property is worth after you purchase it, improve it, and lease it out at market rent. If you buy a property with the intention of remodeling it, the appraised value will be based on what the upgraded property will generate in rent upon completion. In the example below, the appraised value is based on the new rents the project will generate after completion and lease-up.
Current annual gross income $ 50,000 before expenses
Current annual net income $ 40,000 after expenses before mortgage
Capitalization rate 10% based on market conditions
Current property value $400,000
Purchase price $400,000
Remodeling costs $ 75,000
Financing & closing costs $ 25,000
Total completed project costs $500,000
New gross annual rental income $ 66,000 before expenses
New net annual rental income $ 55,000 after expenses before
Capitalization rate 10%
New property value after upgrade $550,000 appraised value
Loan @ 75% of stabilized value $412,500
Equity cash investment required $137,500
Annual mortgage @ 8.5% for 25 yrs. $ 39,858
Net annual positive cash-flow $ 15,142
Annual return on equity investment 11 %
A good way to get started is to find equity investment partners who trust you and will co-invest cash into your projects. Split the ownership with them based on who provides what percentage of the total equity investment required. The developer should get a working or promotional interest in the project from 10% to 50% based on the complexity, risk, and project potential. And the investors should get the balance for providing the needed capital. A typical ownership split works like this:
Equity Investment Ownership
Developer $ 0 25%
Investors $137,500 75%
In the example above, the developer gets 25% ownership and profit sharing for finding, creating and doing the work of managing the project. The investors get 75% ownership for providing all the equity capital required. The developer should always invest and provide some of the cash equity and share in the investor portion of ownership as well. As an incentive to induce investors to invest in your project, all the equity investment must be paid back before any profit sharing starts. Also offer the investors a preferred return of 8 to 10% on their investment before any profit sharing is distributed.
Now start looking for a good deal!
After identifying what type of investment property you want to acquire, the next step is to find it. Seek out the best real estate broker in the market who specializes in the kind of property you want to buy. Don't ask a residential broker to find industrial property. You wouldn't hire a hospital contractor to remodel your house. Hire an expert who can assist you throughout the transaction from acquisition, feasibility, escrow, and financing through leasing or sales.
The best way to find a good real estate broker is to drive the areas where the property types you are looking for exist. Look at the real estate signs and the brokers who are offering property for sale or lease. Call their offices and ask for the sales manager. Explain what you are looking for and ask who would be the best broker in their office to assist in your search. Next, interview at least three brokers. All of them will tell you they specialize in every type of project, so be slow to choose the right one for your team. Select the professional who is an expert in the building type you desire and can offer the most complete services. For example, if you don't know where to find a loan, make sure they have a relationship with several bankers. If you are weak on calculating a financial feasibility for your investment, select an experienced broker who can do that for you. If you don't know the comparable rents in the area, make sure your broker can provide that for you as well.
Find a lending lender!
Having a great banking relationship will make you lots of money. Make it a priority to find a banker who will work with you on your real estate projects. Banks are in the business of making real estate loans. They have specialists who are experts in most types of properties and projects. Your challenge is to go out and find the one who understands your financial goals and will help your reach your dream. Make those phone calls and go see several bankers until you find the right one who you can trust to provide the financing you need.
Reach your financial goals!
The development process is challenging but financially rewarding. It takes determination and a commitment to reach the finish line and meet your financial goals. The actual process requires steady forward momentum towards a finished project or leased-up investment property. The good new is that is doesn't take lots of people or time to make your goals become real. You can hire most of the team members required to do the tasks required. Review the development process below and determine what things you can do yourself and where you need a professional to work for you.
The Development Process
Feasibility, budget & pro-forma
Offer & purchase agreement, escrow & due diligence
Site planning & preliminary design
- Design development
- Planning department
- Building department
- Public works & engineering
- Utility companies
Architecture & engineering
- Structural engineer
- Landscape architect
- Sign program & design
- Soils & environmental engineer
- Civil engineer
- Mechanical & electrical engineer
Investors & equity partners
Construction lender & financing
Construction bidding & award
Leasing or sales
Finding, purchasing, developing, creating, managing, and owning real estate investment property is the most fun you can have at the office. You can do it part time while managing your regular construction business. The more real estate you own, the more you want to own as you see your cash-flow and financial statement grow every year. Take a look at your time management. How can you get a better return on your time? Try getting in the real estate business and you will see what a real return on your time can be!
Best selling author and professional speaker George Hedley helps entrepreneurs and contractors build businesses that work. He is the author of the "The Business Success Blueprint Series" available in 8-workbook & audio CD sets. Contact him to present to your organization on his proven system to build profits, people, customers and wealth. Construction company owners are invited to attend his 2-day 'Profit-Builder Circle' boot camps. E-mail George at firstname.lastname@example.org to receive a free copy of his book "Everything Contractors Know About Making A Profit" or signup for his free monthly e-newsletter. For more information call 800-851-8553 or visit his website and bookstore at www.hardhatpresentations.com.
3300 Irvine Avenue #135
Newport Beach, CA 92660
Phone (949) 852-2005
Fax (949) 852-3002
Email: email@example.com website: www.hardhatpresentations.com
George Hedley owns a $75 million construction and development company and
Hardhat Presentations. He speaks to companies on building profitable businesses,
leadership, and loyal customers. He holds 3-day in-depth "Profit-Builder
Circles" open to construction company owners in an interactive roundtable
format every 3 months. His "Profit-Builder System" includes proven
tools to always make a profit, build equity, create wealth, win profitable
jobs, motivate your people, and enjoy the benefits of owning a profitable company.