Our guest today is Michael Catalano, CEO of Real Estate Connections, a property management firm based in the Silicon Valley, CA. If you’ve ever wondered who to buy or sell a property management company, then this Podcast is for you.
Here is the transcript of the interview (You can play the full interview above, or download the episode into your iTunes or Android)
Hello and welcome to The Property Management Show. I am your host, Alex Osenenko. My day job is serving as the CEO of Fourandhalf, a marketing company working exclusively with fee-based property managers. I have spent the last seven years of my life helping property management companies become more successful by improving sales, marketing and operational efficiencies. In this show, we’ll deconstruct success down to its key components and invite subject matter experts to help you improve every facet of your business.
The topic today is how to buy or sell a property management company. That’s a vast subject, and our guest is certainly able to speak to the topic and clarify many of the different things that can confuse the issue. Not a lot of property management companies are bought and sold every year. There are only a few experts, and Mike Catalano is one of them. He is the CEO and president of a company called Real Estate Connections in the Bay area. He’s also an angel investor and a good friend.
Q: Let’s start with a question that I wonder myself: Why would someone buy a property management company? What are some of the reasons behind this?
Buying a property management company is the fastest way to grow your business. It’s always great to grow organically and advertise online, and you want to attract more business through word of mouth and referrals. Those are great strategies to maintain your business and allow it to grow at a decent pace, but the quickest way to grow a company is to buy one.
Q: So buying a company is essentially a way to expedite your own growth?
Absolutely. If Google can guarantee that you can get 200 new properties in a year with advertising and search, but you can also do that right away by purchasing a property management company for the same amount of money that you’d pay Google, you’re getting a good deal.
Q: If you want to grow your business by acquisitions, how would you find a property management company for sale?
They are hard to come by. Word of mouth in the industry helps. Years ago, I would not tell a lot of people know that I was interested in purchasing, because I worried it was pretty arrogant to express your interest in buying someone’s company; a business like this can be extremely personal. But then several years ago I mentioned it in a networking group, and I learned that people are open to it. Let your local and state chapters of NARPM know. Talk to banks that hold trust accounts for property management companies. There aren’t a lot of them, so obviously the bank you use is a good place to start. I came across a few business brokers that I work with, and I let them know that I was interested in buying a property management business. So it can be a word of mouth strategy.
Q: When was the first time you bought a company?
I helped a company that I worked for when I was in my early 20’s. That company purchased a handful of businesses and those were the first purchases I went through. I didn’t own the company, but I went through the process and as director of operations at that property management firm, I learned how to do it. Later on in my career, I started purchasing them within my own company. It’s changed a lot over the years. The evaluations have changed, the process of finding the companies has changes and the people who want to buy and sell have changed. This is an interesting subject because it comes up at every NARPM event now, and it’s interesting to a lot of people. There’s not a perfect science, but it comes down to what works for you as the owner of a property management company.
Q: Things are always changing dramatically in the property management field, but there are some fundamental frameworks we can apply to this. We need to put it together and provide people with a foundation when they’re looking at these things. One of the questions I recently heard in response to a blog was: how do you evaluate a property management company?
When you evaluate a company to purchase, you have to evaluate based on what it’s worth to you. A lot of times, the people selling it will set a price. So you have an idea of what they’re looking for. Then, you have to dive in deep to your finances. Figure out what makes sense for you. When I go to purchase a company, I can absorb a lot of their properties. So that allows me to pay more, knowing that I will make more. You won’t make money right off the bat because you’ll need the payment, and how you structure that is up to you.
There are a few areas where you can find generalities on how prices are set. Many people do multipliers. Take the property management monthly contract and do a monthly multiplier on that. If a company has 100 properties at $100 per month, then that’s $10,000 a month in management contracts. Then, multiply from eight to sixteen, depending on the seller, the buyer, and the area you’re in. All of these things become factors. You also have to consider any other revenue they may have. But that multiplier is a starting point.
You can also do yearly revenue as well, which is a smaller multiplier. You have to come up with a formula that makes sense to you. This is how I’ve seen people evaluate companies and break it down. You’re buying the contracts. That’s the most important thing to remember. There may be a maintenance department that can bring in revenue, and there could be a sales department. There might be leasing fees and other things, and if those are added into the price, you need to see at least three years of consistent income for those. You don’t want to see one $200,000 remodel of their maintenance that they don’t have often. Look at the property management contracts first and then move to other revenue that might increase the price. I like the monthly contract and finding out what they’re making per month. That gives me a starting number. The person selling probably already has their number set, and you can work backwards from there.
Q: What about the brand value? Think about your own company and the money you have invested in building your brand and your website and your marketing. So it’s almost automated and consistent. You can look at your own business, Real Estate Connections, and you can predict how many properties you’re going to get over the next year because you have that long history of new business acquisitions. How does that come into play when you price a company?
You have two different ways of looking at this; valuing the property management company you’re looking at and then evaluating the company. You have the numbers you’re working with, and then you have the evaluation of the company itself. You have to think about who the broker is, and whether you know that person. Are they easy to work with? You will either be buying the entire company or just the contracts. If that company is well-branded, with great relationships in the industry, that’s going to mean something. When the name alone is going to bring you value, then that’s something to look at. You can check the reputation online, take a look at how long they’ve been in business, where the properties they manage are located and what the condition of those properties are. This won’t be easy because if you’re buying 500 units, you’re not going to be able to go look at 500 properties. So you have to take a sample. Dive into their books too, which is part of your due diligence. The company’s branding is important if you are buying the whole company.
There have been times where I’ve purchased the company itself with the name and other times that I’ve purchased the contracts only because I’m not interested in the name. Or, that person wants to keep the company name for the future.
Q: We work with property management companies all over the country that have bought and sold companies. When new management comes in, we work towards continuity in that relationship. Can we say that smaller companies that might not have big brands are valued more on their portfolios and their management companies, while larger companies can have a different valuation based on those additional revenue streams and brand value? Is that the general thinking? Have you seen smaller companies with value in their brand get a higher price?
This market is so hot right now and everyone wants to buy a property management company, so the evaluations are similar. If you’re buying a larger company, they will have everything in place. Mom and Pop shops are smaller but there are some really good ones out there and they manage to stay in business by staying small. Larger companies have policies and procedures set, and the office dynamics are in place, so coming in and implementing things goes fast. They have great software in place and their accounting is efficient due to being larger. That can be easier to evaluate because all the numbers are right in front of you. Right now, with the way people have realized you can make money in property management; the evaluations have been pretty similar all around.
Q: The appeal of consistent recurring revenue makes property management a great opportunity and it’s appealing for a lot of people.
That’s why a lot of Realtors get into it. With low inventory, and nothing to buy and nothing to sell, Realtors are getting into property management themselves.
Q: Let’s talk about structuring transactions. How are sales typically structured?
Those vary as well. We are dealing with two different entities. Most of the time, the seller of the company has never been through the process of selling a company, so there are a lot of learning curves. In general, you want to have an agreed purchase price. Then I put together a letter of intent that includes the main points of the contract we’re hoping to complete. It’s forwarded to the company we’re buying, and you come to an agreement on the letter of intent. Once you agree, you put the contract into place. The contract has to have some structure, because you’re buying the contract. This is where it gets complicated. Every company is different in how they set up their property management contracts. Some have month to month contracts, some have leasing fees, some are long term contracts. You have to look at all those when you’re structuring your purchase contract.
The goal here is to keep as many properties under the management of the new company as possible. The more you keep as a buyer, the more you’re going to make. The seller will make more too. There has to be a clawback clause, meaning if any properties are lost over time; that loss comes off the top. That’s sometimes over a six to 12 month period. Remember that when you’re buying contracts, that individual owner didn’t choose you. They chose the other company and you’re buying them. You need to make sure you can do everything to keep them under your management and prove how you’re the right manager to keep in place.
There will also be a contingency phase so you can do your due diligence. I bring in an auditor to look at the company’s books and software. Really dive into their accounting. Set a deposit on the company and find a company that can escrow it. A title company is usually a good company to use. Then, set up a pay structure where you can pay over time. Some people finance these deals for years. I don’t like to do that, but even if you’re paying in cash, you want to structure it so you pay over time. You want to make sure the company you’re buying will help you through the process. It’s so important to work together as a team. The clients will see any kind of friction, and it can all fall apart. So make one payment in the beginning, then a larger payment in three months and then a larger payment in six months. Then, you can make the full payment after eight or nine months depending on how it’s ultimately structured.
Q: So even when you’re paying in cash, you want to make structured payments instead of one bulk sum?
Yes. I like to have that. Lately, you have multiple offers on these things and you may need to come up with the money in 30 or 60 days. You’re still going to close on the transaction. It’s just necessary to have that clawback so you have money in escrow, where you can take the money back for any properties you don’t keep. There may be times where sellers give you 30 days, and you just have to do that because of the competition. In a perfect world, you don’t have to overpay, but even when you do, it may be worth it. If a company wants a 30 to 45 day close and then be done, it may be the only way to do it.
Q: What about when things don’t go so well? Without naming names, can you share some things that can potentially go wrong? What should people watch out for?
If I tell specific stories, someone listening may know who we’re talking about. Just look for large one-off sales and inconsistencies in numbers over time. You don’t want to buy a company that had one good year of sales but then business dropped off. Getting the contract nailed down can also be difficult. Everyone has different ideas, and a lot of people want to involve their attorneys. That’s okay, but if you’re going to use an attorney, find one that has been involved in the purchase of a property management company before. It’s a different type of transaction. A lot of entities are involved and the companies have to work well together. You can’t let your contract get overly wordy and start tripping over itself.
When it comes down to everything, the most important thing is that the two companies work together. People selling their companies care about their clients. We have built these relationships over years. We want to make sure we take good care of them. If I’m selling, I want to make sure they are in good hands. I’d be in touch with the buyer all the way through to make sure my clients are happy.
Q: Let’s take a quick shift and talk about integrating the new company into your own company. Let’s say you bought a portfolio of properties, and you didn’t necessarily acquire a brand. What are some steps you take to integrate those properties into your business to make a smooth transition for your clients and your team?
The first thing you want to do as an owner of the company buying the contracts is to personally contact each and every client. I don’t care if there are a thousand of them. This is such an important touch, and they need to speak with the owners who are taking their properties over. This is a huge asset for them, and they want to be sure they are working with the right person. So, reach out to every single client. Give them a call, and introduce yourself. There will be letters and information that get sent out to them, but the personal touch is important. So call them and tell them who you are and how you handle things.
Don’t bring a lot of change. Don’t send out new contracts for the clients, and if you do want a new contract in place, don’t change anything. You don’t want to introduce new fees or anything that would scare them off. That’s important as well.
Set up a meet and greet at the office. If you’re purchasing a lot of clients, you’ll need to have multiple meet and greets. Let them come in to your office, while you provide refreshments or something, and let them ask you any questions they may have. Let them know you’re a real office and talk about how long you’ve been in the industry. This will help you transition smoothly, and you’ll be able to keep those contracts that you’re purchasing.
Q: With the actual integration of the process, after you have introduced yourself and things are going well, how do you make sure your existing processes match the clients’ expectations? Getting 200 new clients all of a sudden would put a strain on our team. So, how do you deal with that?
It’s very important to have these things set up before the process even starts. Make sure you have everything ready to go, and when you say “go,” you’re the management company for these clients. Sometimes, when you buy a company you bring over employees. You can’t keep everyone, unfortunately, but if you are keeping some of them, you have a familiar face for your clients. All of the administrative things like computers and desks are set up, and you bring them over and everyone is in place.
Once you’re ready to start, you just have to manage. If you’re absorbing, you have to figure out what you need. Real Estate Connections is a portfolio management company. So if I bought 100 units and brought over only one employee from the company who manages 50 units, then I’ll have 50 units to disperse to my own company. So each individual manager already knows what they’re getting. Basically, it can be a smooth transition and the important part is that if calls from tenants and owners come in on those new properties, you need to be super-attentive. You probably would be anyway, but it’s a good idea to coddle those new clients at the beginning to make sure they know you’re there for them.
Q: It sounds like being pre-emptive is necessary. Build the capacity and put the plan in place before anyone new comes in, and everything falls into place.
Yes, and it’s different every time. Sometimes, you’re buying a small company with only 30 units. Sometimes, you’re getting 300, so employees are coming over.
Q: Here’s a question I haven’t asked anyone yet, but I’m sure people would be interested in knowing the answer. Would you personally consider buying a company outside of your service area or outside of your state, even?
Yes. For us, we look for companies anywhere in California because that’s where we’re licensed. Outside of California, it gets a little different, but property management can be figured out in any state. You just have to make sure your licensing is in place and you can legally do this. I have not purchased a company outside of California, but I know companies that have and I have talked to people who have done it. This can work. You’ll be flying back and forth, and you have to be very involved in setting up shop for a while, but because of the property management software and technology in place, almost everything is done online. We are open to acquiring businesses anywhere in California and I will look outside of the state as long as it’s a perfect situation.
Q: One last question, which may help other business owners start building their value early. What can companies do now to come up with the highest valuation, best price and best exit strategy for the future?
The simple answer is to grow your business as large as possible. In general, you want to have all your policies and procedures in place. You want your office to be running so smoothly that you don’t have to do any day to day work and the systems are running well. Have your books in order and get a CPA to do an audit of your company. If you want to sell eventually, you want to make sure your business is being run correctly. You have your clients’ books and your company books where you’re doing your payroll and tracking your revenue and running your forecasts. Your balance sheets and cash flow statements need to be perfectly in line. Have a CPA audit and evaluate your company so you know your books are in place. That’s where the real details are necessary. The company buying you will look at that very carefully.
Q: So grow your business consistently and be able to prove that you are growing so you can price that into your sales price, and also grow the number of units you have. Your portfolio is your biggest asset. Also, have all your books organized and in order. As a business owner, it’s probably also a good idea to invest money in someone really good to help you set up your systems and put your accounting systems in place. Make sure everything is tracked and recorded. In the long run, this will help you get the highest price for your business.
This is important because with a lot of the new companies, the owners are doing much of the day to day stuff. They’re doing the management, the leasing and the marketing. There’s nothing wrong with that, but it can be hard to keep your company books in line when you’re that busy. That’s two or three jobs you’re doing when you’re smaller, and it takes time to get to the point when you can let go. But once you do get to that point, you’ll be able to grow your company more quickly, because that’s what you’ll be focused on. It’s very important that you are organized when you’re ready to sell. Everything should run like a machine.
One more thing we should talk about is – what’s the best way to approach selling your company? I have seen some interesting ways that people have done it. The most effective thing I’ve ever seen is an email blast a company did to the local chapter of NARPM. They had all their books together and a little bit of a financial snapshot before giving the details. They talked about the price and what they hoped to do and set a date to accept offers. That brought them 15 offers, which is really interesting. You can also use word of mouth. If I was going to sell my company, I would do a blast like that to NARPM and I would probably contact the brokers I know who can find a good fit.
Q: So it’s a good idea to contact competitors and give them an opportunity?
Yes. Early in my career, I kept everything close to the vest, and I didn’t want to tell anyone anything. But now that we’re established and working so closely with NARPM, we do have competitors who we talk to a few times a year and those relationships are positive. If I ever wanted to sell, I can think of three or four companies I would want to contact.
Q: If you’re not part of it, the National Association of Residential Property Managers, NARPM, is the best organization for networking and information. It’s hard to imagine how competitors come together to share ideas and benefit each other and their clients at the end of the day. Because of NARPM, everyone is able to talk about new strategies and techniques and technologies. Part of the reason property management is finally getting the technology it deserves is because of NARPM. Vendors like AppFolio, Buildium and even us – Fourandhalf – we can come in and actually have a closely knit associated group of people who are interested in our products. There’s a good demand for us to improve and innovate, and NARPM is part of that. The property management industry went from obscurity to a great business to be in.
That’s true. The collision of technology and property management has been beneficial. The property management industry was historically pretty stubborn when it came to technology, but that’s changing. Technology alone and marketing has a huge impact on companies. If I was going to buy a property management company and I saw that they were using AppFolio or Fourandhalf and all this technology was working; that would make the property management business a more sought-after company to purchase.
This has been a great discussion and we’ll leave it with this: If anyone has questions or needs advice, contact Mike Catalano at Real Estate Connections. It’s hard to talk about how to evaluate a company and what makes sense to each individual when there are so many variables. It’s definitely helpful to talk it through on a more personal level.
Thank you for joining us for this conversation.