When asked how important Real Estate is to a business owner, I use this example: When Raymond Kroc, the founder of McDonalds, was asked where the majority of his profits were made, he did not respond with Big Mac profits. He stated that Real Estate was how he came to be the most recognized, highest profiting fast food service in the world. However, in 1960 although there were more than 200 McDonald’s outlets across the country, he was barely turning a profit. Ultimately, it was his decision to use Real Estate as a financial lever that made McDonald’s a viable operation worldwide. He aggressively bought up tracts of land and acted as a landlord to eager franchisees. With this step, McDonald’s began to generate real income, and the company took off. McDonald’s continues to make land plays that at the end of the day are much more valuable than the restaurant that sits on it.
Most business owners will not tell you that they are in business to get a paycheck every month. If that were the case, they could simply find a salaried job with little risk and contribute to a 401K. Business owners by nature are risk takers and most likely want to build enough wealth to one day pass on a thriving business to a family member or sell and move on to a different phase of their life. The question of the day then becomes, “how do you turn profit into wealth?” To understand this principle, you must understand the meaning of wealth. A simple definition is, “property that has economic utility: a monetary value or an exchange value.” You must then ask yourself, “how do I value my business?” If the only value you can derive from your business is from accounts receivables and business equipment, you will take your net operating income, or “NOI," which is gross annual income minus annual expenses, and simply calculate the value from that number, as well as a percentage value of the equipment. On the other hand, if the business owns Real Estate, you will add this value to the total as opposed to the years of rent payments. The Real Estate will allow the future buyer of the business to get better financing opportunities, as most banks will be much more willing to lend to a business with solid collateral as opposed to receivables, which can change due to management changes and market instability.
Throughout my career, I have both learned and grown with business owners. I learned that on an average the majority of the value of their business was derived from Real Estate holdings. The accounts receivables kept the doors open, but the shopping center that they build on the side of their office space or the warehouse they bought for storage was where the true value was hidden.
On the other hand, as we enter times of uncertainty, many business owners tend to pull back on outside ventures and stay “lean and mean” to mitigate economic risk. To that I say, good! You must know your limitations just as well as you know your successes. As most business owners choose to finance, a simple way to know if you are able to afford the payments is to do a basic calculation to find out your “Debt Service Coverage.” An optimal debt service coverage is 1.50x. That means that for every dollar going out of the business, one dollar and fifty cents is coming in. To calculate this, you most take your annual “Net Operating Income,” (including existing debt) and divide that by the proposed annual debt payments. If you come in at 1.25x or higher and have a good credit score, you should not have many problems getting financing.
If you fall into the category of business owners that get caught up in the day-to-day and the desired future seems far from attainable, you must ask yourself, “do I put building wealth first in my daily activities or does it fall onto my wish list of things I never get around to?” Building financial wealth is the outcome of consistently making a profit, retaining it, using it to acquire profitable business opportunities, creating passive income and growing your net worth.
To find additional expertise to help acquire Real Estate, construct a building or just find an investment opportunity, these area few resources that will help:
Research and Investment Opportunities:
NAI/REOC – www.naireocpartners.com/research.htm
Trammell Crow – www.trammellcrow.com
Finding Properties For Sale:
Loop Net – www.loopnet.com
Development Services Department: – www.sanantonio.gov/dsd/index.asp
For more information contact: michelle.allen@capitalonebank.com, (210)491–7862.
