Mitigating Risk, a point of view discussion

[Will Barnard]

In a recent thread, one member asked the other member the following:

"I'm curious as to how you mitigate your risks? I totally understand using your own money has far less headaches than dealing with the banks or private lenders and gives you higher returns when things go right, but what about if things go wrong? I'm not saying you're wrong, clearly you have been very successful, but to me the risk mitigation factor alone necessitates having some kind of money partner."

Here is my take on this, the risk does not change for me if I use private lenders as no matter if it is my money or theirs, even in a loss situation, I am going to pay back that lender (or lenders) no matter what so taking on debt does nothing to mitigate my risk in that scenario. However, if I take on an equity partner that brings capital to the table, than surely they also share in the downside, thus, a portion of my risk is diversified between us.

Things can and do go wrong (ask me how I know that!) but for me, risk is mostly mitigated by proper due diligence and buying at the right price. If I lock a deal with a large enough spread to cover everything that can go wrong (in a rehab flip scenario, exit price drops, rehab estimate goes up, holding time is longer, etc), then I have mitigated most of my risk, regardless if I use my money or that of OPM (other people's money).

Please feel free to chime in.

[Brian Burke]

I think there are two categories of risk: That which you can foresee and mitigate, and that which you can't foresee and mitigate. The second category would include the types of catastrophic events in which it's unlikely that I'll be my investor's first phone call.  Since there's nothing I can do about that type of risk, I'll focus on what I CAN influence.

• Diversifying geographically and amongst asset classes
• Offering multiple investment opportunities with differing strategies
• Encouraging investors to invest in multiple offerings instead of putting their entire allocation into one (and to invest with other sponsors too)
• Understanding that risk increases when I stray further from my core competencies, which means I need to bring in expertise or take the risk myself with my own funds before accepting investor funds
• Recognize that properties have flaws, and don't ignore them to make the deal work...if the flaws make the deal un-doable, don't do the deal
• Watch economic indicators to seek clues to future market conditions and react before everyone else figures out what is going on
• Exercise discipline, don't get caught up in bidding wars that put your successful execution at risk
• Don't accept unsuitable investors--they must be utilizing risk capital.  A little ol' lady's life savings isn't worth it

Real estate investing is risky, and those who are new to the business and haven't been injured yet fail to appreciate the reality of that risk.  Does using OPM mitigate our risk as real estate investors by dividing the risk amongst more participants?  Yes, it does, but it also adds to our risk because of fiduciary responsibilities, regulatory compliance and liability.  In the end we are just trading one risk for another.  I don't take investor capital to mitigate risk, I take it to facilitate growth. And growth breeds risk...