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October 18, 2022

Understanding Flight To Quality In Real Estate With Sam Morris [EP123]

Are you looking to obtain ideal financing for a new real estate investment? Sam Morris is a general partner in 7 multifamily communities with over 800 units. He was President of a bank and currently sits on the board of a commercial bank. As we all know, the debt situation has changed in the industry with rising interest rates. Sam knows what lenders are looking for. He knows what they need, how to present to lenders, and when to do a flight to quality, and this gives him and his team an advantage. Listen and learn!

Table of Contents:

Five-Step Process For Passively Investing In Real Estate
Five-Step Process For Passively Investing In Real Estate

A Bank President Turned Real Estate Investor

A Bank President Turned Real Estate Investor
Photographer: Viktor Forgacs | Source: Unsplash

Darin: Sam Morris comes from a banking background. In fact, he was president of a bank for many years and he currently sits on the board for a bank today. He and his team focus on tertiary markets and on deal size greater than mom and pops can take down. But that is under the radar for large institutional players. He believes the change in the lending environment will result in lower leverage, a flight to quality, and a focus on known relationships.

So a little bit on how I know Sam. This is the first time that we're talking. We were both speakers at the MFIN Conference in Charlotte that Dan Hanford put on. I've heard of Sam and I was just interested. I'm like, let's get to know this guy. So why not bring him on the podcast and have him share with everybody? With that, how many properties and how many units are you currently invested in?

Sam: First of all, my name's Sam Morris. I'm the CEO of Sunset Capital. We currently have seven multifamily complexes that encompass a little over 800 units that we have in our current portfolio. Prior to that, I was a co-GP with another partner. We did about 1900 units together and a full cycle, just a couple of those. That was a buy-and-hold strategy that we had. I still have about 1500 units with him.

Why Focus on the Southeast?

Sam: When we're a lead-GP, we typically do lead-GP deals here in Texas. When we co-GP, that's typically outside of Texas. It’s outside what we would call core knowledge areas that we do with other syndicators.

Darin: Two things I noticed when looking at your website a little bit more was, you focus on the southeast. Texas and Georgia looks like where your properties are. So one, why do you focus on those areas? Two, if I look at the cities that you're buying in, it's not the traditional Dallas, Houston, or Austin. I would love to get your take on why you're looking at some of the tertiary markets.

Sam: The secondary and tertiary markets have been where we've been able to find a niche from the perspective of we're a little bigger than the mom-and-pop when we're shopping. We're just under the radar for some of the bigger guys who typically want to be able to do that in those primary markets. And we're finding the value in those areas. But from a state perspective, we like to be in Texas and really that's a knowledge thing.

We have great knowledge of really the major primary markets in those secondary markets around those areas. Then like I said before when we get outside of the state of Texas, we really need to rely on some more boots-on-the-ground knowledge with our partners. Helping us to make sure that we're getting into the right deals and that we're reading the metrics correctly. That the trends that we're seeing are adequate with, as we said, the boots-on-the-ground knowledge.

Smaller Deals for a Flight to Quality

Darin: When you said that you're not, you gave off the impression that you were doing smaller deals, but when I look at it's like you're doing 20 to 60 million deals. They're not small deals, they're just in smaller markets.

Sam: Yes, it's subjective. We prefer that 20 to $60 million range, and really that's a sweet spot for us. You're bigger than the mom and pops who are just trying to get in there and find that one deal that they need. Then you're small enough to where the larger institutions, the hundred million dollar type deals that they're looking for. So you play in that arena where there's less of us, there's less competition associated with that. Quite frankly, it's made it easier for financing things of that nature. We're able to work in that niche for those areas and make good money for our investors.

Darin: It doesn't change, when you're first getting going. I remember when I was first getting going, there were a lot of syndicators going after hundred-plus units. That 60 unit to a hundred unit was a niche, was an area where not as many people focus. Now you have the experience. You're able to leapfrog and get away from a lot of the smaller guys having to compete with them, but still stay under the radar screen from the big institutional players.

Another thing I noticed from looking at your website was when you look at the referrals, and obviously, you're going to put on some of your better investor referrals on your website. But one thing that ran true and consistent was that you were a trusted advisor and everybody says that in this space.

Building Investors Trust

Darin: You got to know, like and trust who you're doing business with. But talk about that because it was one after the other, after that, I read between the lines and it was like the investors have a lot of trust in you. What are you doing to build that trust?

Sam: I wish I could say it was something that you could just do right now. You can earn that trust and you'd have that immediate with that investor. Unfortunately, trust is something that's built over time. It really is. I hate to say that and be consistent with that. Most of those people that were doing that are people that have invested with me for a very long time across multiple assets.

They've had the consistency of whatever it is that they need to get them comfortable with it. Whether it be, bottom line, just consistently, I want to know, I'm getting my monthly check too. Are you consistently telling me what's going on with the property, are you communicating and being transparent with me? Whether it's good or bad or in between, are you just informing me of what's going on with our investment?

Then a lot of guys too, part of the reason I'm able to build that is I'm an LP in every deal we do. Every deal we do, I put my money right up next to the investors and I'm saying, if we win, we're all going to win. If something doesn't go right, I'm losing too just with you. Just know though that I have my money, my kids' money, and my future on the line with you guys in this deal.

A Shiny Penny Syndrome Versus a Flight to Quality

Sam: So I'm going to make sure that I live, breathe, eat, and sleep this deal so that you guys know that somebody's watching after what your hard-earned dollars are because mine are right next to you. That's putting your money where your mouth is. But if you do that over a long enough period of time, they begin to see that Sam's not going anywhere. This is something that he's all in on.

I try not to have that shiny penny syndrome and chase just whatever the next best thing is. I'm pretty consistent to the core of this is what we do, we do this very well. We're going to continue to do this on an ongoing basis.

Darin: You mentioned transparency. I'm an LP and also GP, and I talk to a lot of people. People want transparency, and a lot of syndicators say that they're transparent. What does that mean to you? It's easy when the deal's going great. It's a matter of when there are hiccups.

Sam: I can give you a great example too because we have a deal right now that's a full gut remodel deal. We bought this deal at the beginning of 21 and if you knew anything about what would happen from a supply chain issue, labor issues. We did all of our modelings on that deal at the very end of 20. I can tell you at the end of 20, you could still go and buy washers, dryers, windows, doorknobs, and all the appliances and actually get those. Lumber was $500, versus $1,600, versus $900.

A Liquidation Event

Sam: So we went into a situation where we thought, we're going in, we're going to flip out of this deal in two years. That's actually how we originally sold it. What we said was, in two years we're going to look for a liquidation event. Whether we flip out, or we refi and hold, that's what we're going to look at. Coming up towards the end of this year, we're going to be done with that project, but we're $2 million over on our cost. We missed our budget on that deal. Frankly, we did not anticipate the supply chain issues that we've had. We didn't anticipate lumber and all the materials going up and down all over the place, and the labor shortage.

I'm telling you the failures we had here, but in the transparency, things are like, here's why I'm okay with this. Here are some of the things that we just didn't anticipate. We're going to have overages, here's how we're going to cover them. By the way, there are some tailwinds to this too. When we were doing this, this is where we thought rents were going to be, and we're leasing right now. Our rents are $180 higher than what we anticipated back at the end of 20 when we did the underwriting.

Even though we're over, we actually think we've made up a lot of that value just because of the way the market's been going. Not all is lost, but we think we're going to do pretty well still in the deal because of X, Y, and Z. But along the entire process, if we're just telling them, here's what's going on.

Being Transparent During a Flight to Quality

Being Transparent During a Flight to Quality
Photographer: K8 | Source: Unsplash

Sam: Here's why we think it's either good or bad or here's what we're going to do to adjust for it. They were being communicated with so there were no surprises. So being transparent is, I'm not going to surprise you because we haven't done something for six months in a row and let you know about it. That's hard too because some of that is not always pretty, like in the case of that deal, it's not always pretty. But I got to be able to give you the good, bad and ugly. More importantly, too, tell you what I'm going to do to make it better if it's not good.

Darin: Well, that's the piece that I was going to say that I like about what you said. Here's what's going on that we didn't anticipate. It's different than prior to when we purchase it, but here's what we're doing. As an LP, I think that there could be transparency. But if there's no pivot, there are no action items, there's no leadership from the sponsorship group, then I feel like I can't control anything as an LP. But you want to know that you have good people running the ship.

So I love that you say here are the challenges, but here's what we're doing. Some of those things that you do might not pan out and then you pivot again, but just saying, we're in trouble. Then that's all you say. You're transparent, but it doesn't make the LP feel too strong.

Sam: How does that help? As the CEO of our company too, I tell our team the same thing.

Empowering Your People

Sam: I'll tell our team members it's okay if there's a problem.

It's okay for you to come and tell me there's a problem. But you guys are all seasoned enough, you're smart enough, help me find the solutions. If you come to me with a problem, that's fine, but come to me with some potential solutions. Then let's talk it out and figure out what's the best way to go. As a leader, that's empowering to your team. That's empowering to your people, telling them, it's fine if we have an issue, but what are some of those potential solutions?

Even this morning, I was talking to one of our regional property managers at a property that we have. He promised me by September 30th he was going to be at a certain level. I said when you told me that a couple of weeks ago, I gave you the eyebrow raise and just said, all right, but I was going to let him run. Because if he could do as great as he said he was going to be able to do, I want him to be able to have that freedom to go work within that framework to be able to get there.

Today, he's backtracking and going, yes, we didn't have the leads that we thought we were going to have. So we didn't close as much as we thought we were going to do. To overcome that though, he said, I have a presentation I want to give you later on in the day. It’s what I want to be able to do to rectify this situation before the end of October. That's a perfect answer.

The Culture of Open Communication in Terms of Flight to Quality

Sam: That's like, I got it. You didn't get to where you thought you were going to be, but you're going to come to me with some solutions to get to that point that works. So it's the same thing. If you have that expectation for your teams, you should have that expectation for yourself and that should translate over to the investors.

Darin: Just communicating to your team that it's okay if there's a problem. I'm sure the culture in a lot of institutions, a lot of companies is you don't want to tell your boss that you've got a problem. But that problem could get so much worse if you just keep trying to cover it up. I think that giving your staff permission to voice that is awesome.

Sam: It's empowering them. We work with very intelligent people. If you can use common sense, you're probably going to be 95% of the way there. If you know that you're not going to be at risk by just addressing something, whether it's your fault or not, but utilizing the team. All the resources that we have available to be able to attack whatever that is, we worked from there.

Darin: You come from a banker background. Help us understand what was your role prior to coming. There are a lot of people that come from different walks of life and career paths in the multifamily world. Share how you got here and how you leveraged that experience in your current role.

Sam: I was actually a president of a bank. I was in the corporate banking world for 18 years and in the community banking world. So I really just loved it and I still love it.

From the Perspective of a Banker

Sam: I'm on the board of a community bank here in Houston so I'm still actively involved in banking. Obviously, it's not a day job, but the benefit of being able to sit there, I sit on the loan committee of a bank. I could still see the deals, how they're structured, what things are selling for, and who's doing what. Keep local knowledge of what's going on in the town and see how things are trading. But I was a lender too. I lent well over a billion dollars on these types of assets. So I know who the players are, where leverage is, what things look like, and how they should look.

From a competitive advantage standpoint, in particular, the world we're going into right now, it's quite beneficial to be able to sit there and go, I know how to speak the language over there. I know exactly what lenders are looking for. How they're looking to see it and what they need to be able to create that opportunity for our company over at Sunset. It's really interesting from that standpoint too. We talk to lenders every week.

Actually, we talk to our lenders quite often. We're very proactive about that. It could be as simple as, we finished two or three things here on the rehab that really makes the property pop. We have a bank loan on this deal. I'm going to call our banker and say, next time you're in town or you're around, we'd love to be able to tour you. Show you the things that we're doing to make you feel comfortable with the deal that you have on the loan because you're our biggest partner in this deal.

How to Win a Yes for Your Deals

Sam: In doing that too, it endears them to you. I can pick up the phone when we have another deal and go, what's going on in the loan committee right now? What are you guys feeling about this particular asset and these particular deals? And what kind of leverage are you guys looking at? What pricing would you look for? They'll tell me right off the bat of what they need and how they need to see it.

When we're doing presentations associated with it, when we're seeking financing for things, I know to put it in the exact form that they need. How they need to see it to where we get yes’s from a lot of different institutions because of that. Because it's in a form that they need to see, how they need to see it at what can be approved based upon what they've told us.

We'll work out a deal with a lot of those different people and it can be different packages for them, not from a numbers perspective, but just how we structure it to enable us to have options when we're looking to finalize our financing on those deals. Being an ex-banker, I analyzed hundreds if not thousands of these types of deals long before we ever started buying them. I've seen a lot of deals and the repetition of all of that.

What I tell people too is, in particular for our team, I read numbers the way you read words. You talk about transparency. We normally are going to be able to pick things out pretty fast where there could be discrepancies or what's going on. That's asset management too.

Transparency During a Flight to Quality

Sam: That could be the onsite teams providing us with information and telling us one thing. If the numbers tell us something different, that's where you get called to the carpet. Or commercially, we find something in the numbers that the onsite teams maybe don't know yet, or haven't seen yet, and we're bringing it to their attention. But yes, it's a very analytical way of looking at it and we're very fundamentally driven that way.

Darin: I have to imagine that it's a huge advantage to be able to have a lot of those conversations internally with your team. That once we send this to the lender, this is what they're going to ask. So let's address that now. By the time you actually present it, it's pretty buttoned down. I would love for you to share what lenders are looking for now. We're in a rising interest rate environment. They still want to lend, and they still want to make their spread, but what are they looking for? What do they need?

Sam: There's a flight to quality and there's going to be what I would call truly relationship-driven. If a lender has already lent to you, they’re more apt to get another loan from that particular lender. This is more talking about the bank side or even the debt fund side. They're going to go back to the core base of people they've already lent to. I almost hate to say that for the newbies that are trying to get into the industry right now. It's going to be even harder for them to be able to do that. And there are ways to combat that too. But you're seeing leverage drop drastically.

Underwriting Standards

Underwriting Standards
Photographer: Call Me Fred | Source: Unsplash

Sam: I would say because we've changed our underwriting standards. If you're not consistently evolving your underwriting standards, and particularly in this market, you're underwriting the way you were four months ago, you're doing it wrong. This is blatant as I can put it, because interest rates have gone up obviously, and even some of the spreads too because there's some wild west. They just don't know where everything's going to be and what's going to happen with the Fed.

You look at what's happening with treasuries and things like that. The indexes that a lot of the institution's price off of. They're having to actually increase the spread to adjust for that risk associated with it too. Another way that they do that is they'll lower their leverage. If I was going out there say five months ago and wanted to find something that was a 75% loan to value at, let's just say sofr plus two, maybe you could find that. I would tell you that may be harder to find in the markets today.

You'll start to see the LTVs drop maybe in that 60, 65% range. You're starting to see the spreads maybe increasing a little bit associated with that. It's ever-evolving, but from a basic standpoint, lenders are going to sit there and there's a flight to quality. They want higher quality assets and higher quality operators so that either people that they know or operators that are fairly seasoned. They're going to start pushing debt coverage ratios, they're going to be looking for cash flow and to get those returns in faster.

A Flight to Quality on Financing and Property Management

Sam: When you talk about the Fannie Freddie or agency-type deals, it's the same kind of thing. I would tell you, the leverage is even less in that world too. You're starting to see the 10 year today I think was ticked over 380. Pricing has actually gone up quite a bit on agency-style deals as well. Financing today is actually a pretty difficult aspect.

When I get asked to talk really for the last several months, it's been, talk about interest rates or about that lending side. At the conference, I was fortunate to get to talk about asset management and how we handle things that way. But I would tell you overwhelmingly right now. Most people asked me, “What do I do for financing right now?”

I talked to a couple of syndicators this weekend. We had an expo and one guy came up to me, runs me down, and just says, “I need just five minutes of your time. Help me out. What do I do with this particular deal? His rate cap was expiring, which is different from the cap rate.”

For the listeners out there, the rate cap is, my rate won't go above this over this time period. It was expiring and he had a loan that was right at about 3% and it was going to reprice on him in about four months to right around six and a half. It's a big difference. He was trying to figure out what to do with his property. I said, well you can either buy another rate cap, which I was trying to show him how much it was going to cost.

A Challenge in the Financing World

Sam: It was about a million and a half dollars for him to buy the rate cap because those have just gotten expensive too. Tremendously expensive in the last several months, or you could look to potentially sell. I showed him with his NOI what I thought the value of it was. He just did the white in the face, I don't even know if I'll get out for par then. I just said I'm sorry. With what you have, this is where you're at right now.

A newer syndicator who had just gotten away from him a little bit and he had anticipation that he was going to be able to flip out of the deal by now. It had been listed for the last three or four months. He hasn't gotten the bite that he wants at the value that he wants. It's going to be interesting to see how, and particularly these next about six months go because, in that financing world, it's going to be a bit of a challenge.

Darin: You haven't mentioned it yet, but in the last few years a lot of syndicators did deals with bridge loans, three years, 311. Either fixed for three years or floating for three years with a cap and then two one-year extensions. I remember hearing people be like, it's really a five-year, automatically you're going to extend. I'm like maybe. But I saw during 2008, and 2010 world, because I have got another business that trades loan portfolios between banks. Some of those bridge lenders, find something in the contract that says, no, I'm not going to extend.

Taking the Hard Hit

Sam: The language in loans for that matter is always heavily skewed to the lender. There will be outs throughout that process in particular when there is an expiration. The scenario I just painted for you from this weekend, that's what this gentleman was in.

Darin: He was in a bridge loan.

Sam: So he's coming up to that hard hit and he's having to figure out what he is going to have to do. Obviously, the pricing for his loan is very different today than it was three years ago. The way he did his modeling is, if I had to guess, that was for perpetuity three years ago. That probably wasn't the wisest move at that time, but that's just how a lot of younger guys think. They haven't been around maybe as long to see interest rates obviously from what you had just been talking about. They knew we were still at somewhat historically low rates even today.

We're really still not that far off from where we were in 17 or 18. That was just really a handful of years ago. It's not even that long. We just went into a very historic decrease where capital was so cheap that everybody can make money. It is why we had so many wildcatters get into the business in the last few years.

Darin: From being the banker background, now you've got a lot of experience on the syndication side too. An inverted yield curve is one of the telltale signs that there's a recession coming. Assume that that's correct, or actually, give me your advice as to whether you think that that is correct, the recession's coming.

How to Navigate the Flight to Quality

Darin: How do you navigate it? I talked to some syndicators who are like, I'm just on hold for the next year. I'm going to wait for this thing out. I've got others that are maybe naive and just go on full speed ahead. Others are like, trends can last a lot longer than I think. I don't know if it's three months or six months or two years. We're probably going to have to reset, but I'm going to continue to buy good quality deals. I probably fall on that last camp, but where do you fall?

Sam: First, a recession, the actual technical term for a recession is two negative GDP quarters. So, that is the actual definition of a recession. If that is the actual definition that people go by, then on June 30th we're in a recession. The inverted yield curve is what you're talking about. If you look at the two-year treasury right now, which is over four and a quarter, meaning two-year money, I can get risk-free returns at four and a quarter today.

The 10 years being what we called about 380 just earlier, you have a premium to go short term versus long term. That's why you have the inverted yield curve. Historically, depending on the gap of that and how long we're in the gap of that, has told you, this is how long you plan on being in a recession. We can go down serious rabbit holes with this, but as far as investing and the types of deals are concerned, I saw a great poll this weekend. It was a live poll. 12 months from now, the values of real estate are going to be higher, the same, or lower.

How Multifamily Real Estate Addresses a Core Need

Sam: It was about 40, 20, 40. So it'd be about what you would think, but the granular data of that was, they actually said, okay, if you voted, tell me who you are. Are you a real estate investor or in real estate services? That was what was really interesting. The guys who were in real estate services all thought everything was going to be higher 12 months from now because that's what their business is. They actually need that to happen.

Investors were overwhelmingly thinking it was going to be negative, meaning values were going to decrease. That was really the more valuable data of that particular poll in my opinion. But where I'm at too, the markets cycle all the time. I live in Houston, Texas, and love the area, but very familiar with what happens with oil. It's a cycled market. You see it go up and down. The big difference between real estate and multifamily in particular is you address one of the core needs of people.

So food, water, shelter, clothing, let's just say those are things that you need. You have to have that. It's not a want where I want an iPhone or computer or whatever. Multifamily real estate, one of the reasons I like it is it addresses an actual core need. Housing is one of the things that we're already seeing as a supply-demand issue. That equilibrium hasn't occurred yet. Despite what's going on with interest rates and things of that nature, you haven't seen that equilibrium for housing be addressed yet.

A Normal Cycle Versus a Flight to Quality

A Normal Cycle Versus a Flight to Quality
Photographer: engin akyurt | Source: Unsplash

Sam: Until that has been addressed, you really aren't going to have what I would call a normal cycle with real estate. I'm cautiously optimistic is probably the best way to say that. We underwrite a lot of deals only to get even further down the line with probably less than 1% of them. So we'll dig through a ton of deals, we'll look at 200 to do one. But that's just our conservative nature in mind from being an ex-banker. I also keep the ear to the ground of going here's what's logical, feasible, and it can actually be completed.

If it doesn't hit all those boxes, we kick it out. I may stand up to the plate, and let a lot of balls come through, but when I swing, we hit. We may let good deals go by, but we're going to stick to our core as far as values are concerned, I think cap rates have to increase, they have to. When your cost of capital is going up the way it is, you're going to see cap rates rise. The flip side to that is, “Are rental rates going to increase at a level where it doesn't impact value as much?” What we're seeing is rental rates have been increasing.

Obviously, that's going to be submarket specific too with where you're at and that supply-demand equilibrium that I talked about. Overall, I think there were reports that just came out this week. We finally have seen a slowdown of either that increase or even in some cases maybe even slightly lower. You may start seeing that on a national level where we're slowing down on that.

The Bigger Ones That Hit Inflation

Sam: When the CPI came out a couple of weeks ago, housing was one of the big issues with how large the inflation number was. Housing was one of the bigger ones that hurt inflation as much as it did because of the growth. If you're an owner of real estate, that's actually really good because it means the values are going to be going up because my rental rates are going up. How long this cycle lasts, I don't have that crystal ball.

Then I would tell you, let's go all in, or let's pump the brakes. But I would tell you there are going to be deals, deals will still get done. There's still an immense amount of capital. One of the things that I think you might see if I'm crystal balling some things, particularly from the larger institutions. You'll start seeing deals close for cash in the next six months.

There'll be high-quality assets and those institutions are going to sit there and go, let me see what an unlevered IRR is. If it's in that eight, 9% range, we feel we're getting a good solid asset, boom, we're done. They'll close it for cash and wait for the financial markets to get back in line before they start using leverage again.

Darin: So then, the business plan on that deal, hold a great asset, clip the 8% coupon and then wait for financing to come back. Then lever it up and then you've got a massive return?

Sam: There are so many institutions that have so much cash that has to be deployed into these types of assets because that's their fund structure. That's something that you'll end up seeing here in the next six months.

Meeting Investor Expectations Through a Flight to Quality

Darin: Let's talk about the larger institutions that built up funds. In order to build those funds, they had to set some kind of investor expectations. Are they setting expectations significantly lower? Or are they just looking at it like, we're going to clip the 8% coupon for maybe a year or two? Then we're going to get the levered return and then the average is going to meet our investor expectations.

Sam: That's more than likely correct. What they're looking up now is, we may have a ton of cash right now, and guess what? We're losing eight, 9% a year by keeping it in cash.

Darin: Based on inflation.

Sam: Based on inflation, we're going to have to do something here soon. If the financial markets or the capital markets aren't operating with us, let's go ahead and close it. When things come back around, we'll go ahead and pull leverage. So that we can go take down more assets later with that cash to get the returns that our investors are expecting. That's part of that slowdown that we're talking about.

I think it's going to hit widespread that way, but for us, I was talking to our CFO last week about this, we're going to be opportunistic in nature. 2023, we don't know how many deals we're going to do, it'll probably be less than normal. I told him, if we end up doing one deal, I'm fine with that. But it's going to be something where it is the right deal for us to get into. I'd rather do one deal that's the right than try to do three or four that are not the right deal.

The Right Deals For Our Investors

Sam: We typically do less deals, but they're the right deals for our investors. It's going to be something like what we just have been talking about. Somebody's got a note that's expiring and they're bleeding cash instead of losing the deal. They'll sell it at a significant discount to somebody who will be really able to come in. It's also one of the reasons we talk to as many lenders as we do. When we tell them if something happens and you guys end up taking an asset back and you have something that's non-performing let me know. If it's something that fits our mold, we'll turn a non-performing asset into a performing asset for you to where you guys can start making money.

Darin: That's a great resource because a lot of syndicators don't have that connection to the banks. The banks, different from some bridge lenders, actually want to take over the asset so that they can ride the appreciation going forward. But banks don't really want to own that. They don't want the maintenance of it. That's not their business model. If they can find a trusted source that can come in and take over that, that's a huge win for the bank. They don't want to show it on their non-performing reports. That's a huge win. A lot of syndicators don't have that connection. That's definitely an advantage for you.

Sam: Even now we had one a couple of weeks ago. A lender comes to us and says, I have two assets. We've taken them back, so we've already actually already foreclosed on them. Will you just take them at me for note value and meaning don't bring any equity to the table?

No Money Kind of Deal

Sam: Just here you go, I'll give you the loans at where we are for par. In your mind you're like, I can go in there and get this deal right now with no money kind of deal. But our analysis came through. I was like, guys if I can flip out of these things in three years, everything that I'll have made will just effectively be to pay you back because I think where the exit is really just covered the loans.

It wasn't going to be worth it for us, even with the little bit of money that we would probably have to put into the deal. They were really obviously underwater. What we had asked for was a pretty significant discount for the note to be able to make it work and worth our time. That particular lender wasn't interested in that. They're trying to figure out a way to not lose money right now.

Darin: I remember when COVID first happened, I had a few brokers come to me with the same deal. They're like, you're the only one I'm showing this to. I'm like, yeah right. But it was the same thing. I looked at it like this, if I can take over this deal, wipe out their equity and just take over the loan, does it make sense? It still didn't make sense from a cash flow perspective. I can see that happening.

Sam: There are younger guys sitting there like, I can own this by not giving you anything. Yes, I'll do it. That's where having the analytical background that we have that I would just sit there and, you're causing issues for yourself.

Why You’re Losing Money

Darin: The listeners are a combination of passive investors, people that are interested in getting involved and becoming passive investors, and then syndicators that are looking to scale. So let's focus on the first-time passive investor. They've decided, I really don't want to put all my money in the stock market. The stock market started to tank, but I keep reading all this stuff about higher interest rates. The real estate market is it, possibly a top. What should I do? Should I just wait? So what do you say to that passive investor?

Sam: You're losing money. If you don't get in the game, you're sitting on cash, you're losing money. The hundred thousand dollars that you were looking to put in there is worth 92 in a year.

Darin: A lot of people think if I have a hundred thousand in the bank, next year I still have my hundred thousand. I didn't lose compared to if I were in the stock market, I've lost 40% or whatever. If I invest in this deal, I could lose.

Sam: But you'll for sure lose that hundred thousand. It may say a hundred thousand next year, but it only buys $92,000 worth of products at that point.

Darin: That’s the thing with inflation, people don't fully grasp it. It's the reduction of purchasing power. That hundred thousand is only going to buy you $92,000 worth of goods. You need to do something to try to beat inflation.

Sam: You just said it, to beat inflation. Let's say I want to put it safely and I'll put it in 4% money or something.

How to Grow Your Wealth

How to Grow Your Wealth
Photographer: Toa Heftiba | Source: Unsplash

Sam: If you can find that right now, which you can to your treasuries, but you're still losing 5%, even though you're making 4%, you're losing 5% because of the way inflation's going. The objective is to actually grow your wealth. For those investors looking to get in, I would tell you to have to do it. Whatever that is, you have to do it. But I would tell you, there are a couple of key things. One, we always say you back the jockey, not the horse.

You can have a great deal with great management, but a poor lead and it becomes a poor deal. What you really need is to have a great person who's running this thing. They can actually turn a mediocre deal into a great deal. Having somebody who you trust, who has the expertise, who has some seasonality to them, and something that you're comfortable owning for a long time. A lot of guys, I've seen them, we're going to own this for 18 months, we're flipping out.

That may be what happens, and that may be a great business plan and model. That's how the modeling works. But we're going into an environment where people may have to hold for longer periods of time and it's going to adjust the IRRs on the projects when you do that.

If you know how to analyze the numbers, which the education of all this stuff meant, it's worth it to spend a few dollars to educate yourself. Listen to podcasts, do webinars, and find a club that can help teach you some of these things so that you know what you're putting your money into.

10 Years of Your Life in a Deal

Sam: For most people, it takes them a while to make a hundred thousand dollars. If you're able to save $10,000 a year, that's 10 years of your life that you're about to put into a deal. So you spent 10 years getting that. You might want to spend some time knowing what you're putting that money into, or however much time it takes you. If you're going to spend your time to go earn that, it might be valuable to spend a little bit of time to know what you're putting it into and know who you're investing with.

For those people that are new coming into the industry, that's what I would say. Know who you're investing with. Make sure the deal is thoroughly explained to you and you know what you're getting into and the risk associated with it. Then you're going to have to take the risk. Nobody bats a thousand in this industry. I love the Instagram guys and all the things on social media and they're guaranteed to do whatever.

If somebody says guarantee to run, run like crazy. If they're all in instafamous and everything of that nature, that's great. I have no problems with those guys that do that. But get to know who the person is and who their teams are, the deals that they've done. Ask for the results of what they've done. If they're unwilling to share, you probably move on to the next guy, or it's okay to protect that hundred grand that you're talking about. Make sure that it's going to grow with somebody that you trust.

What’s Great About the Flight to Quality

Darin: That's part of what's great about this business too. Some people are going to have a connection with Sam Morris, some people are going to have a connection with Darin. Somebody's going to have a connection with somebody completely different and that is fantastic. You get to do business with people that you can actually pick up the phone, call their cell phone and email and they actually respond. This is completely different than investing in huge conglomerate stock where you don't have access to anything other than your ticker symbol going up and down.

Sam: I can't call Jamie Diamond and say, I want to talk about JPMorgan Chase stock. He'll sit there and go, who are you? Even if you think you have the knowledge, why am I going to listen to you?

Darin: As an investor, you can call Sam or whoever you want to do business with and ask questions. One of the things you just said was, in today's environment, you may have to hold the deal longer. You're a bank president, I come from the loan trading platform standpoint, and I saw where some deals got hurt in the last downturn. But in the last few years, I've been asked to partner on a lot of deals. I'm like, what's the loan structure like?

I really like five years or greater term because I don't want to have a term of three years and then all of a sudden the economy tanks. You're forced to sell or refinance at a terrible time when valuations are low. If you're going to look to hold longer, you're a finance guy, what's your take on the term for loans?

Why Ten Year Treasury-Type Stuff Is Good

Sam: I actually still think 10 year treasury-type stuff is good right now, and you're trading off a future risk. We did a deal in May, so four months ago, and I ended up opting to fix the rate. One because I knew rate caps were getting expensive. Two, because I didn't want to have the interest rate risk associated with it. I fixed the rate at the time at 4.85%. You would not believe how many people came to me.

Darin: Was it a 10-year term?

Sam: Yes. You wouldn't believe how many people told me what a mistake I was making because if I floated the rate I could be a 125 basis points cheaper. I'm hurting the cash flow, things of that nature. I said I'm actually making sure the cash flow can hit for a long period of time. So I know what it's going to end up being over this period of time, and I know where my costs are. I'm actually fixing a cost associated with it versus having a variable and I'm taking out that variable for the future. Now I look back. We're four months later and I sit there and go, I'll do every deal I can at a fixed rate right now in this environment.

Darin: Maybe four years ago, 10 years, seven years, everybody was doing agency. Then people got burned, syndicators got burned, and a lot of LPs don't even realize it. But the property values went crazy and were fantastic. But because the loan went below, there was yield maintenance. They might be able to sell it for a $3 million profit, but they were going to have a million and a half that was going to go to paying penalty.

The Floating Rate

Darin: The syndicator felt that they were in jail, that they were stuck and they couldn't do anything. Then they started to go with a floating rate and all of a sudden floating rate is going way higher and the caps are getting significantly more expensive.

Sam: Yes, 17 and 18, it was all the longer-term stuff. By about 19, the floating rate stuff just came right into play because it was so cheap to own the asset. The cost of capital was so much cheaper. Towards the beginning of this year, if you were listening and seeing what was happening, they were telling you to start to fix these things longer term. For us that could see it, that's where we were at. Those that didn't, they're going to pay for it with additional cash flow, having to be directed to debt service because of it.

Darin: You said fixing your cost. Some listeners may not fully understand that, especially in an inflationary environment. If you can fix your cost and then rents with wage inflation continue to go up, that's just going to increase your profitability as that continues to happen. Your costs are fixed, but your top-line revenue is going up and up. Nobody has a crystal ball. Those same people probably aren't calling you up now saying, thank you for doing that, but they’re silently saying at home, I'm glad he did it.

Sam: You were talking about you having three different types of listeners. So you have investors, you have people that are syndicators, and those that you said were looking to invest.

The Flight to Quality From an Ultimate Goal Perspective

Darin: People that are just looking to get in, and people that are passive. People that are looking to meet other syndicators, and then syndicators that are looking to learn things to scale and to grow.

Sam: Those are great categories from this perspective. We're in a very interesting time where a lot of people had the ability to learn syndication as well as go through another market cycle. Whenever we go through these cycles, whether they're negative or positive, there's always something to learn. You go back to 08, and 09, this has some similarities to it.

It's not the same kind of reasoning obviously, but there are some numbers and metrics that match up for the guys who went through some of that. From an investor standpoint, I'm an LP in a lot of deals too. I'm an LP in probably at least 8,000 units, different syndicators all over the country really. I love the passive aspect of it. Really from an ultimate goal perspective, all of us would love to just be passive all the time.

Darin: That's an interesting point in itself. Sometimes a first-time person that's going to give their 50,000, or their hundred thousand, or invest in that, may feel like the sponsor is trying to get something from them. But most sponsors that I know are LPs in a bunch of other deals also. I've seen it where you put a hundred grand in, and all of a sudden three years later you get your hundred grand plus another hundred. And you didn't do anything other than wire the money.

Sam: Why wouldn't I want to do that? I'm all about those types of deals. Sure. Sign me up.

Smart Syndicators Opt for Flight to Quality

Smart Syndicators Opt for Flight to Quality
Photographer: Ali Pli | Source: Unsplash

Sam: That's one thing that I think a lot of investors don't know about. A lot of the syndicators, at least some of the smarter ones, are doing deals with other syndicators that they know, like and trust. I get used a lot, I feel, particularly from an LP perspective where they'll call me. “Can I get free advice from you or something of that nature?” Or, “I have something to tell you about our deal over here that I need some advice on.”

It's something that I will continually do because I love being in the market and in that alternative investing market. To me, it's a much safer spot than what I've seen, in particular with the stock market itself. For those that are in the stock market, last I heard the S&P was down something 25% already this year or something of that nature. It's a much more consistent lower volatility business to be in.

You give me boring double-digit returns, I'll take them all day long. I'll do that all day long and laugh all the way to the bank with tax advantages. That's the other thing. As full-time real estate professionals, not to go too far of it, we don't pay taxes. Legally, we don't pay taxes because we're utilizing the depreciation aspects of the business model.

Darin: You've done a ton. Where do you go from here? What's the next big stretch goal for you?

Sam: We are decidedly a small company and we're going to stay that way. A lot of people say, why don't you scale up, be thousands and go all this stuff? And I said that is great.

A Different Lifestyle

Sam: For the people that want to do that, that's fantastic. I would rather just stay in my box here. Make a lot of money on things that I can control and that I know I have great control over and just turn those few deals a year that way. It's a little bit different from a model I know. Some people would say, you can shoot up and do tens of thousands of units, hundreds of millions of dollars. I said I have a lifestyle that I really like.

I've been married for 19 years, and have four children. I go to all the football games and volleyball games and basketball games. That's what I've chosen to do for my life, for my own lifestyle. There's also a metric. You can grow, and just from being a banker and from having to do this business for a while, you can go here and run it really great, making good money. If you want to go past here, you actually can't go here.

You got to go here to get to that next level. The scale associated with that, the number of employees associated with that, you were then truly managing just a massive business that you're having to do. It's a different type of model than just saying, I'm going to have a few thousand units. I'm going to take care of my investors just like crazy and just focus on them being investor centric, making them all kinds of money. If we will sell a deal, everybody makes good money, we'll find another great one that we can put to work. And so we have that box.

A Contrarian Point of View

Sam: We're not there yet, but we have that kind of a box of where we think we're going to be. That will really be where we want to be from a lifestyle perspective and from a true growth perspective, and that doesn't mean we stop learning. We don't ever stop looking for deals.

Darin: Clearly you learn. But you're probably the first person that said that to me when I asked that question.

Sam: Because it's not a common thing.

Darin: One of the things I like that you said is, this is the lifestyle. This is the life that I and my family want to live. I know some people that have killed it in business, whether it's in the syndication world or in another business. They're like, I'm killing it financially, but I just don't have any time for myself. It's just eating me up. So being conscious about what you want and what lifestyle you want to lead, I think is smart.

Sam: It's a contrarian point of view. I understand that.

Darin: At first, I was going to hit you up and say, if you get bigger, you could help more people.

Sam: Sure. That's different though. You can help everybody, you can help people, and I freely do that too. I do enough speaking and things like you do and I'm more than happy. But I also have an abundance mentality. There are a ton of deals out there. There are a ton of people who can be doing this. I just know that I want to do the right deals that make a lot of money for my investor group.

Keep Growing with Flight to Quality

Sam: I'll continue to grow our investor group because we're going to continue to need capital. The way this works is a deal that we bought 10, 15 years ago at $15,000 a door, that's a hundred thousand dollars a door today. To do that same deal, it's obviously a lot more money and so you're going to have to have more capital to do it. So you have to keep growing.

But there are going to be people that are in different stages of life. Actually, I just had a text from an investor not too long ago, and this gentleman's in his seventies and I'm his retirement, meaning the monthly checks that I send him, that's what he lives off of. That's a heavy weight to somebody like me to sit there and go, the performance of how we're doing things right now is how this person lives. I want to know that I'm doing everything I can on every one of the deals to make sure that we're hitting those.

This is real people with real money, they rely on this and they're relying on me. It's not just the employees that I have, but it's our investors, and it's our investors' futures. I have guys that tell me, this deal is how I'm going to send my kid to college. That's a heavy weight. And so I take it very seriously. I want to make sure I give this the respect and honor that it needs for this deal and make sure I'm taking care of our investors that way.

Darin: At the same time, if you weren't there, that person may not have had that opportunity.

A Way to Give Back

Darin: So I look at syndication as a possible way to give back, a way to serve other people. Use your experience, your connections, and your knowledge, and help grow the wealth not just for your family but for other people as well. Too many people focus on just how many properties, and how many units. They truly are focused on trying to get the investors the returns, but they may miss how does it impact my life?

Sam: One of the things I was actually telling my wife earlier because I'm working out of the house today, I said I love working out of the house because I can come over and just kiss you anytime I want. There's no HR situation with that.

Darin: Like the Heisman. Stay back.

Sam: You see what I'm saying. I have a different type of lifestyle than most because of that. But I'm still able to do the things like a podcast with you. I feel this is sharing and giving back. Give, I hope, some nuggets of wisdom for your listeners to take whatever this is. Maybe they can learn whatever aspect they need from it so that they can go do their thing. I'm part of a lot of organizations and things of that nature. I know that I just know myself really well, I'm not a spring chicken, I'm not old. You and I aren't old.

But at the same time too, I know just the things that I value aren't how many doors we have or things. The things I value are how much money I've returned to my investors, and how much time I'm able to spend with my children and my wife.

The Way to a Great Life

The Way to a Great Life
Photographer: kaleb tapp | Source: Unsplash

Sam: Those are the things that when I look back on life, that's going to be what I have value. You said it yourself, did I help people? There are several ways to do that. I'm glad that syndication is part of your ministry that way. I have the benefit of getting to be a part of a bunch of them. My eyes have opened to go, in life, how far I need to take these certain things. The type of food I eat isn't changing if I make another 10, 15, $20 million, whatever it is.

I'm still going to eat the same. We're still going to go do the same things. But the time I have to be able to offer to others and to family, that can change if I'm having to go out there and start chasing an extra thousand units or 10,000 units. That will change. I know there's a point where you can sit there and go, you know what? I'm good and I'm good right here.

This is actually something that's much greater than, that grass may not be greener over here. But at the same time, I'm always reminded of a quote of what gets in the way of a great life is a good life. I'm always striving to be better, but I can be better right where I'm at and I can be better. And how you define that.

It doesn't necessarily mean I got to go out and I really got to stretch to go do five more deals next year or 10 more deals, whatever that goal may be. It's not bad to have those goals. That's actually a great thing. I always say I want to do the right deal.

Outside Sunset Capital

Sam: How does this impact what we have, with what we're going on? Does this make sense for the time that we're in and for the investors for what they want to get? So yes, it is contrarian. I know that because everybody wants to grow. Everybody wants to be bigger and better all the way. I sit there and go, I'm good right here. The reason I'm good right here is that the lifestyle that I want to have is so many other things other than just Sunset Capital. I want to be big in my church, to be big with my kids, and to be big with a lot of other ministries that I'm a part of too.

Darin: What do you like to do outside of work for fun?

Sam: I did tell you I got four kids.

Darin: So it's family stuff. Family sports?

Sam: Absolutely. My sons and I went dove hunting last weekend. I love hunting and fishing. We're down in Houston in Texas, it's a playground for hunters and fishers. My daughters are in volleyball, and my sons are in football right now. We have basketball season coming up. Houston's a foodie town. I love taking my wife out to restaurants, but we have a lot of family down here. There's never a dull moment, I'll put it that way. We use up our minutes, we live them out.

Darin: If people want to get to know you, what's the best way for them to reach out and learn more?

Sam: Go to our website, www.sunset-capital.com. There are a couple of ways to reach out, you can sign up to be on our investor portal. If you do that, you get our monthly newsletter.

A Little Storage Portfolio

Sam: September's newsletters coming out, it always comes out at the end of the month. We'll double a blurb on there on interest rates and actually where we are in the market, what's going on with the Fed. We talk about things that we've been doing for the month. You'll see that we've been at expos and we're touring properties and things like that.

Sometimes we put pictures in, but it's overall, Here's what we've been doing, and here's something that's happening in the market that you guys may need to know about. So we hope to offer value, that's all free too. They get to be able to see our deals for when we're doing it. We're hoping to push out a little deal next month. We have a little storage portfolio that we've got under contract right now, it's eight property portfolio.

Darin: Before we hit record, he said eight property storage. We just got this little storage portfolio.

Sam: From a dollar perspective, that one actually is, because we're stealing it, in my opinion. We're getting a great deal on it. It's a little over 1400 units and hoping to add another asset class so that people have the ability to look. But it's similar type returns with our multifamily stuff. You'll be able to see all those things and we're excited. There are always things going on. We have a lot of marketing things going on next month and so the tail end of the year is really big and crazy and busy. There's a never dull moment.

Darin: I really appreciate you coming on. I love getting to know you. Being a bank president and then coming into this world, this guy, he knows stuff. He's seen the other side. The lender is typically anywhere from 60, it used to be up to 80, but nowhere near that today, percent of the deal. But to know that side of the business as well is a huge advantage. Check him out and his website, sunset-capital.com. Listeners, until next week, signing off.

How to Reach Sam Morris

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Darin Batchelder


Wealth creation through real estate provided me with a new passion to get the word out and let others know that they have an alternative to investing in the stock market.

If I can inspire and educate just one person to take action that results in life changing wealth creation then the work to launch and grow this podcast is well worth the effort.

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