How The Wrong Management Company Nearly Killed My First Deal

A bad management company nearly killed my first deal. In fact, I am still digging out of the mess they made for me.

On my first deal, I hired a large, regional management company I had formed a relationship with over two years. They had more than 30,000 units under management and were eager to break into a new market, so they gave me good pricing.

When I formally interviewed them for the job, they sent a great salesman, and they also sent the person who would be the regional manager over my property, who barely said a word during the interview. That worried me a bit, but I decided to go ahead with them despite my misgivings.

The company had trouble hiring a property manager, because they were new in the market. The RM finally hired someone with a background in affordable housing, even though our property was market rate. She assured me that it would be fine. I deferred to her as the expert.

The first few months were good, but then occupancy started to decline – to 88% in a market with 95% occupancy! As I watched it decline week by week, they kept telling me, “Don’t worry, it’s fine. The trend is fine. You’ll see it improve next week.” But it never did.

When it got to 88%, I finally started kicking and screaming. I called the CEO and threatened to fire them. I was about to close a second deal and threatened to pull them out of everything.

That got action. We got a new asset manager over the RM, and the PM was fired.

Occupancy improved, but the profits did not. Bad debt continued to be way too high, even after we had cycled through the entire rent roll and there were no more bad tenants that we had inherited from the previous owner. But delinquency and bad debt continued to be high and we were not making money.

No one could figure out why this was happening. After all, we were careful about who we rented to, etc.

Meanwhile, the hits kept on coming. We could not make the required debt service coverage ratio (DSCR), even though we always paid the mortgage timely, so the bank took over our bank accounts, making it even harder to manage the property.

Finally, the asset manager dug into the criteria the credit-check vendor was setting for the property and discovered that it was set for affordable housing (income = 2x rent) rather than market rate (income = 3x rent). That explained the bad debt problem. Problem solved, right?!

No, problem not solved. Bad debt continue to be high and profits nowhere to be seen. The management company continued to ask us to send money to cover shortfalls in liquidity.

Finally, I had enough. I terminated the management company (but it still took six months for the bank to sign off). I hired a company that had previously managed the property, a smaller local management company with a top reputation.

They immediately discovered that when the vendor was asked to reset the tenant criteria at the first property, rather than reset it to conventional (3x rent), they set ALL our properties to affordable (2x rent), which explained why I had started seeing bad debt climb everywhere!

Thank goodness I got that manager out of there, before they destroyed all our properties!

The new manager also found that the old one had been sticking bills in a drawer, rather than submitting them through accounting. They probably did this because they could not solve the income problem, so our debt service coverage ratio was too low, and they were hiding expenses to cover this. No wonder I was getting calls from vendors for bills that should have been paid!

The new property manager is making the right changes and things are improving, but it’s like turning a battleship around. It takes time. We’re on the right track at this property, though.

So, what are the lessons here:

  1. Trust your gut. Something told me that the original Regional Manager was not up to the task, but I did not speak up or hire someone else because of the existing relationship I had with the original management company.
  2. Insist that every person in the chain of operation is an expert in EXACTLY your asset class. In this case, the property manager and regional manager were both from an affordable housing background. They did not know how to market a conventional property. They were used to having a waiting list they could call because affordable housing is too scarce.
  3. If someone tells you a problem is solved, and it is not, dig into it and continue to scream and yell until it’s solved.
  4. Especially when you are new, do not defer to people you think are the “experts” if what they are telling you doesn’t make sense. Obviously, you need to let people do their jobs, and you hire people to do the things that you cannot do, but if what they are telling you does not make sense, speak up!
  5. Fire quickly. While I believe that everyone gets one chance to fix their mess, there is a limit. When things did not improve quickly enough, I should have terminated them sooner. I waited a year longer than I should have to take decisive action. I won’t make that mistake again.

What are your thoughts? Does anyone have a bad manager story to share?

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