Real estate is the most popular investment asset in the world. It has been for thousands of years. In the last 200 years, 90% of the world’s millionaires have invested in real estate. Bill Gates, one of the richest men of all time, also happens to be the largest private owner of farmland in the United States. There is no indication that real estate’s importance in the portfolio’s of the rich is declining. Real estate presents investors with an opportunity to grow their wealth by investing a permanently scarce commodity. As the world’s population grows, demand for land and its produce (for example, wood, paper, agricultural produce) rises. The supply of land is permanently fixed. What this means is that prices will, in the long run, rise. This is not to say that in the short-term prices will always rise, as the housing bubble showed, but it does mean that in the long run, the right real estate investment should reap profits. So in this article I’m going to explain how to start a real estate business.
For shareholders, a business exists to increase long-term shareholder value. The most important question for a shareholder or sole business owner, is, “Will this business earn me money?” and after that, “Will it earn me more than I could earn if I invested somewhere else?”. The second question is part of the valuation process and is outside the scope of this article. The first question is answered with an, “If”. If you manage your investment properly, selecting the right real estate investments and purchasing them at fair value of a discount to intrinsic value, then your business should be profitable. Over time, your investment will appreciate in value, which is to say your shareholder value will rise. The reasons for this appreciation in value are many. It could be that you bought a property at a discount to its intrinsic value, in which case the market will correct and revalue that asset at its correct valuation, giving you a profit. It may be that demand for this scarce commodity rises, pushing up prices. We have seen as much with house prices during the pandemic. Last June, median existing-house prices rose to $363,300, their highest level ever. This was on the back of record demand meeting not just scarce supply, but many unwilling sellers who either thought they could get higher prices down the road, or feared the logistics of selling the property or moving put them at risk of catching Covid-19. Some trigger factors, such as the pandemic, cannot be known in advance, you have to work with what is knowable to figure out why your investment will appreciate in value.
Starting a real estate business is not easy. You will have to register your business, conduct a lot of research to find the appropriate investment, ground your expectations in empirical evidence, develop a business plan, and maybe even raise funds from outside investors.
Set Empirically Grounded Goals
Many investors err in how they set their investment goals. For instance, one investor may hear that a friend made $50,000 on a property and their goal becomes to earn a $50,000 profit, ignoring the fact that there may be very specific circumstances that led to that profit. What you want to do is anchor in your expectations in what the overall market is doing. Consult sources such as Data.gov among others, to get an indication of mean and median prices in different regions and for different levels of development. This will help you answer questions such as what you can reasonably expect, using a conservative reading of the data, from investing in a specific parcel of land. Ultimately, part of your job as an investor is to forecast how your investment will evolve so you need to be as scientific as possible and exercise good judgment. In this way you will have an objective, empirical expectation for your investment possibilities.
As we suggested earlier, research plays a huge part in your investment success. Your business plan is the blueprint that develops as a result of your research. Your research will give you an understanding of the competitive landscape, the market, areas of opportunity and possible exit strategies. Some investors will buy-and-hold, others will look to develop and flip the property, others swear by wholesaling… There are different approaches to real estate investment. You can either adapt your approach to suit the asset, or you can look for assets that suit your approach. What you should not do is to use the wrong approach for an asset. Your research should also help tell you what investment approach will work best for the asset you are considering.
Focus on averages and median numbers rather than outliers. This will give you a base rate that you can then refine to suit a specific asset. For instance, if you want to figure out how much you can flip an existing home for, the median and mean prices will give you a base rate to ground your expectations. You can then adjust that number up or down according to the location and any deviations from what the typical existing-home has.
Raise Funds for Your Investment
Many people do not start off with sufficient capital to buy a real estate asset outright. There are solutions to this impediment. The first is to invest in real estate investment vehicles such as real estate investment trusts (REITs), in which you join a pool of people in investing in a group of real estate assets. For instance, shares in Chimera Investment Corp are going for around $14 at the time of writing. MFA Financial, Inc is trading at nearly $5 per share. Investing in a real estate investment vehicle still demands that you do the groundwork to understand their portfolio and business model in order to figure out if they are the right fit for you.
Lenders will typically demand to see a business plan and your financial statements and credit report before they will lend you any money. Like any good investor, they want to ensure that their money is going to a project with good odds of success. You can look into getting a mortgage, a government loan, or working with a business partner who may want equity or a joint venture, or you can even try crowdfunding. You should take care that you choose an option that works with your business plan and is in line with your empirically-grounded goals. As we have said many times on this website, it cannot be overstated how much of your success boils down to your research.