On today show this is the second in our series on business planning. Yesterday we spoke about our company’s mission and how we review and reaffirm the company mission every year when we undertake our annual planning cycle. From the company mission, we established the three-year and 10 year goals for the company.
This is the long range outlook for the company’s revenue, profitability, cash flow, assets under management and net worth. This is an essential part of the planning process.
As a real estate development company, we make money by doing taking projects through their life cycle. I’m often asked how we find our deals. The truth is, I have no idea how to hunt for deals. We don’t hunt for deals and we never have. All of our deals have come to us. It’s a matter of positioning ourselves appropriately in the market so that deals come to us. Part of that involves having the business structure that attracts opportunity.
When we plan for the long term, it’s about considering the various sources of income for the sustainability of the business.
Money is generated in three different ways. There is earned income, residual income, and then capital gains. In the context of real estate, earned income comes in the form of fees earned by the consulting division of the company, and development fees from our own in-house projects. These fees don’t exists to create wealth for us as partners, they exist to create consistency and sustainability for the business.
The second form of income is residual income. This is usually cash flow from operations and from rental properties whether they are residential or commercial. Residual income is fairly predictable once a project is stabilized and running on auto-pilot with permanent financing. Even then, the cash flow represents the knife edge of the profit margin. If the investors have a preferred return, the profit to the sponsors can be variable depending on how rents, vacancies and expenses unfold in the future.
The third form of income is capital gains and results from transactions. The timing of these transactions is difficult to predict. The financial results are usually great when these transactions occur and the company and investors both get to reap the benefits when these large paydays happen. But if you have employees who expect to be paid every month, then it is difficult to make payroll if a transaction gets delayed. These delays are often the result of changes by the buyer. Sometimes these transactions are delayed by administrative delays at the city. Whatever the reason, a sustainable business needs to have enough of the first two forms of revenue in order to maintain stability.
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Host: Victor Menasce