Partnering with a contractor?

Question

Good Evening BP. Experienced buy and hold landlord here wondering what others experience has been partnering with contractors?

I am considering offering my contractor a 25% equity stake on my next deal. I'd cover 75% of the materials cost, him covering the remaining 25%. He's licensed and operates a local repair business and we've done a lot of work before. Initial rehab would be between 'moderate' to 'heavy', but not 'severe' and the contractor would also be responsible for all tenant repairs and modest annual property improvements (within a two week turnaround).

My current properties are averaging about $1,000/mo in profit, after an $80-90k price tag. So the contractor would essentially be receiving $250/mo cash flow, plus cash out or eventual sale. Initial rehab estimates would be in the ball park of $10-20k without the partnership.

Am I offering too much, too little, or just right? My goals here are to eliminate unnecessary repairs by having a contractor who has an interest in doing the job right the first time. Also I'm a believe in having a quality team, and sharing in the profits. Finally, we all know cash is king and keeping upfront costs down seems only fair to return the favor on the back-end.

Hopefully I've provided enough information to get some feedback. Of course, we all have a different opinion on what a "moderate" rehab is. The agreement would be in writing, the operations would be recorded in a LLC with dual owners, and I'd form the LLC to be able to execute decisions with only 75% approval (if there's a disagreement to sell or hold, it becomes a non-issue). Also, keep in mind I am a buy and hold investor, so there is no quick flip and he would be in it for the long haul (10 years)!

What are your thoughts? Anyone have any positive experiences, or suggested profit share models? Anyone have negative experiences? (and if negative, please share how thorough the previous agreement was before going in together!)

James Hamling · Answer

Will,
I think the key in it is that you already have a lot of experience with the guy and his work, without that I'd say your nuts, and I do G.C. work so.
For the split, I'd say going pure business mind of it, what does it all cost and return without the partnership, what will it be with the partnership, then what is what each brings to it worth and make some agreement the matches the differential, that would be my max split.
Other than that I think the question is like every time I go to buy a new vehicle and the sales person says "what would you like to pay for this beauty????" and I have a brain so I say "one dollar".

Will S. · Answer

Thanks Craig. I agree with your opinion that the long term agreement could have potential for problems. However I've considered it from the angle of the contractor and it might not be that bad after all. Consider this - currently I am averaging about one and a half repairs a year at which cost me between $100 and $200 each. That's not bad for a contractor to earn a stable $250/mo cash flow, plus appreciation, even considering the inevitable surprise here and there. The quick math on that average is $225/year in repairs, cushioned to $1,000 for unexpected, vs his earning of $3,000 in projected annual cash flow - not accounting for vacancies and the like.

When looking at it that way it almost feels like I am being too generous, but then I conclude that 25% seems like a fair ratio for both parties.

Thoughts?

When looking at it that way it almost feels like I am being too generous, but then I conclude that 25% seems like a fair ratio for both parties.

Thoughts?

Craig E. · Answer

As a broker/General Contractor, I've deferred commission and rehab costs for flips that I believed in (no equity other than a lien). Your model is fine, except I (contractor) would push back on the provision requiring tenant repairs/ modest improvements until disposition. That could get pricey in the aggregate and be time intensive (for the contractor), unless the rehab includes new infrastructure and the contractor is simply warrantying his work. That said, he may be fine with it as is. What is the scope of the rehab? That is critical in determining whether the on going maintenance portion of the deal is reasonable.

Partnering with a contractor?

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