“Quick decisions are unsafe decisions.” – Sophocles
Most of my coevals are retired. In the past several weeks, the e-chatting among them has increased. It’s clear that they, like so many unemployed Americans, are experiencing boredom, anxiety, and the need to be in a sympathetic social environment, even if it is a virtual one.
Since I’m not retired, my involvement in the businesses I own and work with has dramatically increased in the last six weeks. My partners and I have been putting in 12-hour days trying to do all the things you’ve got to do to in times like this.
This extra work has one certain benefit: I am not bored. Each day is a crush of phone calls, teleconferences, and email correspondence. Time is flying by. I am struggling to find time to write these essays and to exercise. It’s exhausting, but it’s also exhilarating. The work feels important. It is important.
With each passing day, I look at the numbers – the CDC numbers, the Dow, and the business sales reports – and I ask, “Will things ever get back to where they were?”
Cycle Theory: once the domain of nerds and technicians, and now a topic of concern for every sentient being
Since the outbreak of the coronavirus made front-page news at the end of January, the mainstream and social media have been reporting on its growth and making projections by using charts and diagrams.
We’ve learned a good deal about the rise and fall of pandemics from these graphic simulations. We’ve learned that they can spread fast and wide. But we have also learned that, eventually, they flatten out and decline. Most importantly, perhaps, we’ve learned that there are things that we can do, individually and in common, to retard the spread and thus flatten the curve. Doing so can greatly reduce the damage.
When the virus became front-page news, I found myself looking each morning at charts that tracked its uptrend. After the market crash, I started checking the Dow. As business shutdowns were mandated and unemployment shot up, I started looking at the daily sales reports of the businesses I own and work with.
In each case, I’m doing the same thing: I’m trying to figure out the trend.
What can we do now?
On Monday, we talked about how adaptive behaviors (washing hands, social distancing, etc.) can reduce both the infection rate and the death toll.
The same, to some extent, is true for business. There are things that can be done now to reduce the financial impact of the current crisis. One of the first things that comes to mind is reducing employment costs – i.e., firing people. In most businesses, labor is a significant cost – and in the US, a cost that can be cut quickly. From a numbers perspective, it’s the rational thing to do. But making good business decisions takes more than digital thinking. You’ve got to include your emotional intelligence, the deeper and wider intelligence that stores the lessons you have learned from a hundred thousand large and small experiences and shapes them into intuitions that can help you evaluate and sometimes reject the “definitive” numbers that make rational sense.
My business intuitions are mostly the result of my business experiences – but those experiences were partly shaped by movies I saw as a child. These movies made heroes of business owners that took care of their employees and customers at considerable personal cost.
So when faced with downward markets and declining sales, my instinct has always been to do whatever could be done to continue providing the same level of service to our customers and to keep our employees working. I’ve probably had a dozen discussions of this type in the past 40 years. I’m pretty sure I’ve been successful in getting my partners to side with me.
When the Corona Crisis became an undeniable business threat several weeks ago, I had those conversations again. I made my usual arguments, and we came to the same conclusion: Keep everyone employed and ride out the storm.
I believe that will work for a few of the companies… but not all of them.
Consider the rental real estate business
I’m writing this on Tuesday, March 31. Tomorrow, rents come due on most of the rental properties I own. It’s obvious to my partners and me that it’s unlikely we will be collecting all of those rents. Some of our residential tenants will have lost their jobs. Virtually all of our commercial tenants will be dealing with collapsing sales. I am inclined to be lenient toward all of them, and initially took that position. But after looking at the spreadsheets, I realized that there is a limit to how much rental income we can forgo.
It’s simple math, really. Depending on the property, we have net profit margins of about 20%. That means we can afford to go without 20% of our rental income before we start losing money. Anything more than that would mean that we could not fully pay our taxes and utility bills. Nor could we fully pay our employees’ salaries. Since we retain most of our earnings (i.e., we don’t spend the profits as we get them), we have enough cash banked so that we can spend down to keep paying those bills and salaries. But there’s a limit.
And that limit is when we run out of money.
Maybe you are thinking: “Well, you’re loaded Mark. Take the extra money out of your savings!” Again, I’m emotionally and even theoretically inclined to agree with that. But there are two problems.
- I have partners in almost all of these properties that aren’t in the same financial position as I am. They depend on the monthly distributions to pay their bills. What I’ve done in those cases is tell them that I won’t take my distributions for now. And that will help them. But only if the rental income doesn’t drop by 50% or more… which is perfectly possible.
- Rental real estate is a significant part of my investment base. (It represents about 25% of my net worth, but 10% of my income.) And because of the general business shutdown, I’m expecting that my other businesses, too, will be suffering. Those businesses have millions of customers and thousands of employees that I have to consider. I have to think about all the businesses I own and all of the people they employ.
So what are we going to do?
We’re going to do pretty much what everyone else in the rental real estate business is doing now.
First, we are going to do our best to keep revenues from dropping. That means having one-on-one conversations with our tenants, trying to identify those that are able to pay their rent, those that can pay, say, half of their rent, and those that can pay nothing at all.
We also have to prepare for the possibility of a rent moratorium. That would be zero income coming in. And that would mean no cash to pay the people that maintain those properties and no cash to pay the utilities, and so on.
What do we do as the rent roll shrinks? Do we stop paying for landscaping, let the grass grow, and put the landscapers out of work? And what about routine maintenance? Do we stop paying our maintenance guys that repair the AC units, windows and doors, plumbing, electric, etc? And what about utilities? Surely we have to keep the lights on and the water flowing?
We have to make some tough decisions. And we can’t wait till these businesses start losing money. We have to start making “adaptations” right now.
These are a few of the actions we are taking:
* We have temporarily put off all capital investments – i.e., new roofs, new AC units, painting, etc.
* For the several properties that have mortgages, we have asked (and received) permission to move to interest-only payments while this crisis lasts.
* We are speaking to all of our tenants individually, figuring out what they can do and making plans accordingly. We are asking them to help out by reducing their use of the common utilities.
* I am extending a line of credit to some of my partnerships to cover shortfalls that will keep the bills paid for several months.
* We will be reducing landscaping and other services, but not eliminating them altogether.
* If it becomes necessary, we will try to get reductions in our utility bills.
There is nothing on this list that is novel or clever. These are the low-hanging fruits of survival for rental real estate entrepreneurs. Every sector of every industry has one of its own.
If you are an entrepreneur or an executive, you might want to think about making your own list.
What you don’t want to do is proceed as if you believe our economy and your business will come “roaring back” in the summer or fall. The chances that that will happen are about the same as the chances that the virus will peak in the next few days or that we’ll have a vaccine for it in the next few weeks.
Make your survival list now, while you have the presence of mind to explore the options and plan the details. Prioritize it according to your business (and moral) intuitions- starting with easier decisions and moving to harder ones. Imagine yourself making those tougher decisions (because you may have to).
Doing all this now, when your business may be running smoothly, may seem unpleasant and premature. I promise you: You’ll think differently once you do it.
Hope for the best. Plan for the worst.