Posted by Robert on September 27, 2010
Last week, we held an evening presentation in our office. The presenters are real estate investors who have been doing a great job producing impressive returns for our clients over the last eight years. I had a chance to chat with them before and after the presentation. They provide an interesting view from inside the real estate investment world. It seems that often, the word “investment” is applied to real estate projects in the loosest sense of the term. Our friends told us that these “deals” have shown up in Calgary more than anywhere else in Canada, that they are aware of. Maybe it’s all the oil money sloshing around. I know that none of our readers have more money than brains, but I’d still like to point out some of the red flags that should cause an investor to ask tough questions before parting with hard-earned cash.
The first point that our friends made is the difference between an offering memorandum and a prospectus. I had this experience when a client asked me to look at an “investment” that his family members recommended to him. He asked the promoter for the investment documents, and was provided with the marketing sheet. That didn’t help, so I prompted him to ask for the prospectus or offering memorandum. A prospectus is used when the investment is regulated by the national regulator (IIROC) and syndicated through securities dealers. In that case, the regulator and dealer each vet the investment to ensure it contains full and accurate disclosure (not necessarily that it’s suitable for a given investor). An offering memorandum, on the other hand, is not required to contain complete information. It cannot contain misrepresentations, however.
The offering memorandum that I read through for my client offered a lot of information. It disclosed the fact that the property in question was purchased for about $2 million and was being resold to investors for about $10 million. On top of this markup, a commission of 10% was being paid to anyone who promoted the investment. There was also a fee (around 2%, if I recall) paid annually for “asset management”. There was a $50,000 minimum and the prospective investor was asked to sign a form acknowledging that they understood the high risk nature of the investment and were able to withstand the loss of the entire amount. Standard CYA, I’m sure, but enough to give a person serious pause. I didn’t make a recommendation for or against the investment. I only asked my client to read through the offering memorandum cover-to-cover before investing. He decided against participating (and I’ve never heard how his family members fared).
Another issue that caught my attention, in the offering memorandum, was the blatant conflict of interest. The person who was promoting the investment had no real estate experience, although he had partnered with someone who did. Together, they bought the property, put together the investment (remember the markup?), formed a promotion company to sell it (remember the commission?) and formed a management company to manage the asset (remember the fee?). Further, they formed a subsidiary corporation to issue the debt, so they could say it was guaranteed. The guarantee of the subsidiary of the company that’s selling you the investment is worth less than the paper it’s printed on. All these conflicts of interest ensure that the promoters get paid multiple times before the investors see a cent of profit.
So, what is the potential for profit? I wasn’t entirely clear, but the marketing materials explained that the profits were shared. The promoters structured the deal so that there were bonds and shares. The bonds attracted interest, but no profit. The shares could receive dividends and profit, upon successful completion of the project. The promoters bought only shares, at a reduced price. If the value of the property grew from the price the promoters paid, beyond the price the investors paid, covered the commissions, the asset management fees and the interest on the debt, then there would be profits to share between investors and promoters. That’s a big “if”.
There are many things to watch out for when someone is pitching you an investment deal. Why doesn’t your advisor want you to know about it? Probably because it’s too good to be true. If you’re thinking of investing a large sum, make sure you read and understand the offering documents, or at least get a qualified second opinion. Which brings me to why I like working with our friends. They always make sure the investment is a good deal for investors. There is very little up front cost, investors get paid first and I’ve even seen them skip payments to themselves, so that there would be less chance of anything going wrong with the project. That kind of reputation is extremely valuable.
What do you look for when making an investment or participating in a project? What kind of people do you prefer to work with? How do you find them?
Posted by Canadian Dream on September 24, 2010
Welcome to my wander reading post which occurs every second week to summarize some of the interesting reading I found on the internet. I hope you find something useful or at the very least entertaining in these links.
So Robert, one of the writers on this blog, pointed out to me that we are slowly closing in on our 1000 post on this blog. We should hit that milestone in about a month from now, since that will occur right around this blog’s 4th birthday I will likely combine both events into a contest. I’m still working out the timing and prize(s), but stay tuned for that.
Preet wonders who is more believable: Buffet or Gekko?
In case you missed it, you will be getting a CPP cheque. It’s amazing how much money you can make with $130 billion invested.
Trent from the Simple Dollar gives a list of 13 books worth reading. Damn, now I have more books to get from the library.
Some advice on a rich-enough retirement. I don’t agree with all of it, but it does bring up a few good points like what is IDD?
The Financial Blogger asks which jobs would you choose if you were an millionaire? I would have to say writer/author and politician, which I’m actually doing both now to some degree. I would just do more of it.
Brip Blap wonders if he should take a pay cut? I did recently and I have no regrets. It’s all about what you want from your life.
JD Roth made me laugh out loud with the opening of this post. Then he goes onto an interesting point about shopping for things after you have purged your stuff.
Canadian Capitalist points out the every savings are often exaggerated. Which is partly from it’s hard to apply rough numbers of energy usage since people’s consumption patterns can vary by a lot. I personally like this calculator from our power provider which allows you to get a very good estimate of savings if you play with the settings a bit. If you are from another area just ignore the dollar value at the end and use the kWh total and your local power rate to find your savings.
Have a good weekend,
Tim
Posted by Canadian Dream on September 23, 2010
Is early retirement worth all the savings, planning and discipline to get there? There are days that I doubt that fact. For an early retirement blog you think that would be a sacrilegious statement and that I should be struck down by lightning, but the fact is that never happens.
The journey to early retirement is a very long one and it is all about self-discipline. The fact of the matter is you can stop trying to get there at any time. No one is making you save your money or pay down your mortgage. You can toss your plan out the window one-day in frustration and go buy a new car instead or take a cruise. Other than your spouse no one will likely even try to stop you (and depending if your spouse isn’t on board with the plan they may even help you pick the cruise package).
To choose early retirement over a ‘normal’ middle class existence is to set yourself apart from others. Humans unfortunately aren’t built to spend your lives apart from others. We are social animals and thus seek acceptance and belonging from others. We build communities not isolated existences for the most part. So by choosing early retirement you are accepting a certain amount of loneliness that will never go away as you will never be fully accepted by some people.
That is a fairly high price to pay for freedom. So I get why people want to give up at times. The world can be fairly brutal at times and in our self imposed isolation can be hard to justify. We can tell ourselves we don’t need stuff, but we still look at the latest movie, book, electronic or clothes ads and think that would be nice to have. We tell ourselves we don’t need that morning coffee and a muffin, but at times we really just want that muffin and the budget can go to hell. We tell ourselves we don’t need to eat out, but it is really nice to have a meal where you don’t have to cook or clean up.
So what is the solution? Give up, but just a little bit. To combat these feelings might I suggest some ‘un-savings.’ What is ‘un-savings’, it basically money you put aside for the express reason of buying stuff you don’t need, that morning muffin or a meal out when you had a crappy day. Go ahead and buy some social acceptance with our peers with a round of golf, shopping trip or what ever else everyone is doing this weekend. Make ‘un-savings’ a regular line item in your savings plan and push off your early retirement target by a year or two if need be.
Then if you really want go ahead and plan to buy that new car or cruise (just save up for it in advance and skip the credit card). There is nothing stopping you for living today a little bit more if you need. I’m taking a week long trip to Hawaii with my wife this winter and we are budgeting about $400/day for eating out, shopping and tourist attractions. To put that $400/day in context our normal spending on those things is that amount for a month.
Then recall you are not alone, there are lots of early retirement blogs out there for you to read other people’s stories and leave comments to discuss issues that come up. Early retirees are not a big group of people, but they still exist just about everywhere.
So is early retirement worth it? Most of the time I think so, but just like everyone else I do have my days of doubt. Maybe I just need to buy a muffin on the way to work this morning. What do you think?
