In my previous experiences the PM company arm is lucky to break even and the owners are usually "happy" to chip in since they are getting paid out well on the deals. 3% of revs doesn't leave much left over after paying out salaries in NYC. We take another 1-2% of revs in leasing fees.
The sponsor i'm at now is under the impression the PM company should be generating positive cash flow. Who's crazy here?
Edit: Should add that we only self manage our investments. We aren't a 3rd party PM co.
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Based on the most helpful WSO content, it's not uncommon for property management (PM) companies to have slim margins, especially in high-cost areas like NYC. The typical revenue from property management fees, which can be around 3% of revenues, often goes towards operational costs, including staff salaries. Here are a few points to consider:
Break-Even or Loss Leader: Many real estate owners view their PM company as a break-even operation that adds value to their core investment business. It's seen as a necessary function to maintain and enhance the value of their properties.
Additional Fees: Leasing fees, which can range from 1-2% of revenues, can provide an additional income stream for PM companies, but these are often cyclical and dependent on the real estate market's health.
Expectations of Profitability: The expectation that a PM company should generate significant positive cash flow might be ambitious, particularly in a market with high labor and operational costs. However, it's not impossible, and some PM companies do manage to turn a profit through efficient operations and scale.
Operational Efficiency: Profitability can sometimes be achieved by optimizing operations, leveraging technology for efficiency, and providing exceptional service that allows for premium pricing.
Scale and Services: The scale of operations and the range of services offered can also impact profitability. A larger portfolio of properties or offering value-added services can contribute to a healthier bottom line.
In the scenario you've described, it seems there's a difference in expectations between the current sponsor and the norm you've experienced. It's not necessarily a matter of who's crazy, but more about strategic objectives and operational efficiency. If the sponsor believes the PM company should be a profit center, it may require a review of the business model, cost structures, and potential for additional revenue streams.
Sources: Crazy to take MM offer if lead analyst in ER?, Dealing with PM (equities) who is trying to limit your progress, AM vs HF: The Business of Our Business, How is it possible to have a negative EV?, Any info on Viking?
Worked for a family office where management said PM shouldn't be a profit center. Not sure why anyone would go into business for no profit or a loss. Assuming service is similar, tenants are similarly happy, etc, etc - if you can't make money doing the PM, but another company is willing to do it for the same price, I'd let them deal with it. Why else would you want to deal with the headaches, employees, etc?
Thoughts on getting the in-house data from property management? Maybe not for a family office but groups like Bridge do it in-house. They have a lot of scale which gives them the ability to accurately underwrite in different regions since they have the real-time data at their finger tips.
If you're only managing your own properties in these markets, the only data you have is the same whether you own it solely or own and manage it. If someone else manages it, you're still leaning on them for market comps, etc. If you're managing third party and saying that's the excess data you have access to, then sure. But if you can manage those properties profitably (assuming you make profit when managing as 3rd party) then why can't you manage your own profitably at the same (market) terms? If you need to reduce the PM fees to make your deal pencil, well then it isn't a deal worth doing. In all reality, when you self-manage, there's a real cost. Now whether you realize that cost as a PM fee or juice your investment return by not charging it, it's the same. One scenario is just deluding themselves into thinking the investment is profitable when it's not. Let someone else take all that financial risk and just manage it for them since your profit is being derived by not charging a fee anyways (ie your profit is the PM fee, not the investment with risk)
I'm not sure it shouldn't be a profit center, but it usually isn't and probably you shouldn't expect it to be.
At the risk of sounding preachy, all of the things you assumed would be similar, are often not. This industry (well, many industries, but this is the one I know) can have a real issue with forgetting that at the end of the day, landlords are responsible for providing one of the most basic needs of humanity. These are people's living spaces, their homes, and when you reduce that to merely profit or loss, you end up with slumlords and resentment and the kinds of legislation which end up costing landlords very dearly (e.g. HSTPA in 2019).
Assuming you aren't a slumlord, having more contact points with your tenants is a huge win. Yeah, more employees and headaches are unpleasant, but the advantage is that you can be way more responsive to issues and complaints, and institute the kind of quality control you as an owner want. The conduct of your property management firm is an enormous reputational risk, because at the end of the day it's the owner who is holding the bag if things are going wrong (and rightly so). All of that is worth a lot. As an owner, I'd be happy to run my property management company at a slight loss if it meant delivering meaningfully better service to residents. Thinking about management from a dollars and cents perspective is absolutely penny wise, pound foolish. Especially in a municipality like NYC, which is already extremely tenant-friendly.
I feel like I see a lot of advice on this subforum which all boils down to "take your profits short term and don't worry about what happens 10 years from now." And that is just awful advice in the real estate world. Saving a nickel today isn't worth it if it means foregoing fifty bucks down the road. Putting money into maintaining an asset, even if it means not making a distribution, is the smart play. Lenders, regulators, elected officials, investors, and above all communities will remember that, and if you want to keep doing deals, you need buy-in from all those stakeholders for years and decades, and that's how long it takes to really make it in RE. This isn't VC or tech, where the idea is to lie to and defraud your investors and the public and then sell for a huge amount of money in the space for a couple years - you have to measure a career in RE in decades, not months.
That was the whole point of saying "assuming the service provided is similar". There are always exceptions. If the service is above average, then you will see that through increased rents and occupancy, lower operating costs, better maintained buildings, etc.
The thing is, you pay for that. Cheap property managers skimp on repairs, on staff, on everything. Which is why saying "all things being equal" in this context is kind of meaningless - the whole point is that there is almost never a situation in which you get better service for less money. And I would argue that you don't get equivalent value for every dollar spent, or not in profit and loss terms. An extra $50,000 a year spent on a better property management firm isn't giving you $50,000 of value in terms of lower opex/better maintained buildings, better collections, etc. It might buy you that much in goodwill, but that doesn't seem to be what you're thinking about.
So yes, if the service is above average, you'll get all the things you describe. But from a purely economic standpoint, it makes sense (as a property manager) to not provide above average service, because you'll make more, even as an owner, by ignoring some of that and pocketing the difference. The real variable that makes it worth it for an owner to subsidize their PM is reputational.
If you pay $50k more in PM fees for the "better PM" for less than $50k more in revenue from their better service, you're destroying value. You say it's earning you reputational points - that better show up somewhere eventually via higher average occupancies, lower turnover, higher rents, better maintained buildings leading to lower cap rates, etc. All of which I pointed out are byproducts of better PM and need to be factored in. If none of these items come to fruition, you're fooling yourself if you think it's wise to use the "better PM" in exchange for less cash flow and less/equal value of the asset.
This such an unbelievably shortsighted attitude that I feel compelled to call attention to it. This is the way Rise48 or Tides looks at the world - that if it isn't making you money, it isn't useful. That is such a terrible attitude. You're probably also the guy who thinks that additional regulation and oversight by public agencies is ridiculous an unwarranted, and yet it's your attitude which invites it.
These are people's homes. Clean and safe shelter is a basic need as well as a human right. That is the first priority in being a landlord - not profit, not gain, but making sure that the building your tenants come home to is sound. If that means spending more money to replace CO detectors or putting in new fire extinguishers even when you can't "afford" it, you do it. And if you aren't willing to take a loss to do that, you shouldn't be in this business, full stop. If you get the highest rents in the area and have 100% occupancy and theoretically nothing you're spending money on is going to make you "more" competitive, you still spend the money on those things and you still accept taking a loss on it. When it boils down to it, your attitude is that of a slumlord who hasn't hit a rough patch yet.
Frankly, people who operate like you advocate for are the people who bring unbelievably shitty legislation and opprobrium down on good landlords. HSTPA (the update to NYC's rent stabilization law, if you aren't familiar) is an incredibly shitty and shortsighted piece of legislation which is doing and will continue to do a lot of harm, but the groundswell of anger which led to it was real and justified, because landlords very similar to you were acting like total pieces of shit.
And by the way, your reputation is worth something, because being a good operator means having an easier time when you go into new communities, when you need a favor from the local government, when you need to pull permits. Perhaps you're not in an ownership position and thus aren't seeing this big of the picture, but the entire real estate business is about staying in the game, about being able to continue to buy assets or hold on to them, about seeing long term and not short. So it is absolutely the right thing to do to spend $50,000 for better service that will give you no return, because being the kind of landlord who stakeholders know will go the extra mile for your tenants means ensuring you have a continued life span in the industry, instead of a Raphael Toledano or a Troy Green (both developers who were barred from doing business in NY because they too decided to prioritize profit over safety).
Completely misconstrued what I was saying. I never advocated being a slumlord lmao. I do commercial and industrial deals but the same thought process would apply if I did multi-family. Of course I'm advocating of operating in a respectable manner and providing great facilities for all tenants - if you didn't, it would show up in the building falling apart, cash flow evaporating and value plummeting. How you can't grasp this is beyond me. You're advocating blowing money for the hell of it. I'm saying I want all those same things at the best price and for not a dollar more. You may be great at LIHTC development, but RIP to LPs if you ever have any.
I can grasp it, but you're insistent on putting a dollar amount on something that isn't always obvious. You can trim your R&M budget by 10% in 2024 and you won't see a material deterioration in your building stock - this stuff is cumulative. If I misconstrued your argument then that is my bad, but it doesn't really sound like I was that wide of the mark.
As a landlord, you need to have a longer term vision than "what will this do to my annual budget?" You're making the explicit point that deferring maintenance and underinvesting in tenant services will have an adverse effect on cash flow/value/etc. I get that, but that simply isn't how the real world works. There is a massive disconnect in terms of when that decision is made and when the detrimental impacts of those decisions are felt. Which is why so many landlords end up making those decisions! Either they think they'll pass the bag to the next guy, or they'll make up for it out of future cash flows (which never happens). So even by the very narrow definition your using, your logic doesn't really hold up, because these kinds of penny-wise, pound-foolish decisions are made on a regular basis by a huge percentage of landlords. So either tons and tons of people are incapable of doing basic math, or your premise is flawed because you don't understand how the decisions you make sitting at a desk are translated into the real world.
I'm saying that your reputation is what allows you to keep growing, keep making money, do the next deal, whatever you want to call it. Lets take another tack, since you seem to be an Excel jockey and don't understand qualitative issues surrounding day to day management, or the long term vision owners need to thrive. In accounting, there is a concept called "goodwill". I assume you've heard of it - I guess you could also call it "brand value." Blowing money, as you call it, can be extremely accretive to that. If I spend $15,000 to build a new children's playground at my building, I think that's money well spent, even if I cannot raise rents as a result. Because it's buying me goodwill, buying me a reputation as someone who goes above and beyond for my residents. And when I need to go to that community and ask for a rezoning, or ask for support in a project, that kind of activity is remembered. Which isn't to say that one should be spending every dime they have on such things, but this is one of the reasons why a business might sponsor the local softball league. Your obsession with making sure that every dollar you spend is coming back as quantifiably $1.01 or more is not the way in which successful developers/owners think.
And yeah... I wouldn't do business with an LP whose only interest is in extracting the very last penny they can from any given deal. LPs can be just as unethical and just as shortsighted as anyone else - more so, perhaps, since they don't actually have to be active in the communities in which they're invested in the same way that an owner/developer/sponsor does. I don't want their money, so neither they nor I need worry about my not delivering the returns they want.
You took this from in-house PM vs third-party PM to pontificating on the type of owner one should be. You can be a shithole owner and have a great PM that you never allow to actually do the capital improvements or repairs they recommend. Similarly, you can have an inexpensive PM while as an owner, prioritizing capital projects and directing your PM to do the necessary repairs, etc. As for not being able to place a value on things such as deferred maintenance, that's exactly your job as an owner or operator. Sure, others may not take into account proper repair and maintenance, capex, etc and end up overpaying for assets, but why in the world would I let that affect my decisions? I'm looking at the life of the asset or at least anticipated hold period. Not doing necessary repairs today means larger capital expenditures in the future. Shittier tenants in the future. Less demand for my product in the future. Less value on exit in the future. While you can't put an exact figure on it, you should be able to assess how running the property two different ways will look going forward. All of that goes to what kind of owner you are. As for third-party PM vs in-house, yes it does come down to cost vs value you're getting for that cost. If a third-party PM will provide adequately similar results at a price you can't do with a profit or at a loss, that's just wasting time, energy and money that could be better used.
It should definitely be generating positive cash flow. Generally when people say it the management company doesn't make money, they mean in relation to what's being made on the property.
I agree with this. Or, more than likely the investment company is passing through other corporate through the PM arm. If PM didn’t make money, you obviously wouldn’t have 3rd party property management. However, it’s definitely not a high margin business and requires significant attention.
if its in-house, it doesn't really make sense for the PM arm to generate a lot of profit, its better to have PM closer to break even and reduce PM fees to maximize the distributions/proceeds from the properties, since PM profit is taxed at a higher rate increasing PM fee is just shifting more money into where its taxed more. I guess there could be exceptions if the GP is barely putting any equity into the deals or the deals themselves aren't very profitable, so PM needs to be more of a profit center for the company.
There are some other times when having high property management fees make sense. For example, in the affordable world, you often run into deals that have caps on distributions, so extracting additional dollars above the line can make sense. You could even make a case that if you've got some shitty, unethical LPs who are strongarming you to do a lot of shit you don't want to, it might be justified. But for the most part I agree
My colleagues tell me PM’s make money only if they don’t take care of the place properly and shortchange repairs. It’s a brutal business.
You must be referring to small PM shops operating solely off management fees and not passing through leasing and maintenance salaries, otherwise PM business cashflow should have nothing to do with repairs at properties.
Fair point. In this instance, PM has multiple properties in a class C city. So no super on site, and weak if any lessening fees.
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