How to Assess Cash Flow Risk

Hi, this is Robert Woodruff, President of the Charleston REIA and author of, “The Keys to Cash Flow.” Whether it’s the members of my club, or the students from my course, the biggest thing I see most investors do not have is a clear understanding of cash flow risk. As a matter of fact, I often meet investors who build large & small real estate portfolios and subsequently lose “everything” because they had no clue on how to assess the risk of each investment. Please pay close attention. In this blog, I will show you how to determine the cash flow risk of several investments.

But first, we all know that there are plenty of gurus with courses on how to buy property using a plethora of no money down strategies. Each of these courses should carry a disclaimer that reads, “Warning, if used too often, this strategy will bankrupt you!”  Although these courses have disclaimers to protect the guru, they do not come with disclaimers like this to protect you.

Let’s discuss the cash-flow risk associated with no-money-down deals on houses. Most of the time, these properties were bought by sub-prime borrowers. Which means their credit wasn’t the best. This also equates to them having a slightly higher payment than someone with good credit. Which means one thing, upon renting the property to a tenant-buyer; we will have a hard time making a decent cash flow off of this investment. We are taught by Gurus through no money down strategies that we are to collect as many of these houses as possible in order to build wealth and become rich. (Which is False.)  Make no mistake, this is a fools’ errand.  I’ll show you why.

Imagine acquiring just 10 properties no money down. Each has $30,000 in equity giving us a combined net-worth of $300,000 in real estate. Sounds nice right? Well, each property has an average mortgage payment of $800 per month including taxes and insurance. We can rent each property for $1,000 per month. This now means we have a combined total cash flow of $2,000 per month IF all of our properties are filled and our tenants are paying.

But, “WHAT IF” they stop paying?? What if half of your tenants stop paying at the same time? If half of your tenants stop paying, than you still get $1000 in cash flow from your 5 properties that are filled. Only now, you have to pay $4,000 per month for the ones that opened-up. Not to mention the cost of fixing each property, AND the cost of marketing each until they are filled. My question is, “Where do you plan on acquiring that money?” Surely it will not be from your 5 houses that are filled. The 5 you have filled only bring you $1,000 dollars per month. So where are you going to come up with the additional $4,000 PLUS what you’ll need to fix and refill your properties? I call this, “The Storm.” Warren Buffet calls it, “When the tide goes out.” Either way, it happens to ALL of us. As sure as day turns to night, you will get hit by the storm. It’s just a matter of time before it happens. No Investor is immune to this type of scenario. Although, there are things we can do to protect ourselves from losing everything we fight so hard to accumulate. Let’s evaluate another popular strategy, multi-family investments.

Multi-family investments are not very different from buying houses no money down. If you buy a multi-family property at 70% of value, you will still have the same cash flow scenario. When you add taxes and insurance to the payment for your 4-plex multifamily investment, you will have to make sure 3 of the 4 units are filled just to make your monthly payment. There is one helpful thing about this however. The big difference between multifamily housing & single-family residential housing is that it takes more than one family to move-out before you have to start making the payment. On the other hand, if your tenants stop paying, you stand to lose 3 times more than you make on a good month. As you can imagine, paying the full payment on a multi-family investment will most likely put you in a state of emergency.

My last example is something that is rarely looked upon by new investors as being good deals. Often, they are too worried about “other people’s perceptions’” of their socio-economic status.

In this example, I will show you how to assess the cash flow risk of mobile homes or low-risk investments. (AKA: RV’s, Trucks, Heavy Equip, Land, etc.) When someone purchases a mobile home investment, they usually do it with cash. There is absolutely no mortgage payment to speak of.  However, if the home is in a park, instead of having a mortgage payment, you have lot rent. Lot rent is usually half of what you can rent the mobile for. So on a good month, you make twice as much as what you would lose on a bad month.

See what I mean? The examples I gave you for cash flowing off houses & multi-family are clearly upside-down. That means you stand to pay 3 to 4 times as much on a bad month compared to a good one. Mobile homes on the other hand, are the complete opposite. You make nearly double or more off a mobile home investment on a good month versus a bad one. (For example: you make $3-400 on a good month, and only have to pay lot rent when your tenant stops paying. Lot rent may only be $150-200 dollars.)

If being a successful investor is important to you, you must first consider and assess the cash flow risk of your investments. “You must pay close attention to the numbers.” Not doing so means the difference between brilliant success and utter failure.

*Robert Woodruff is a multiple business owner, philanthropist, real estate investor, president of the Charleston REIA, and author of; “The Keys to Cash Flow.” Robert lives on a small island outside of Charleston SC with his lovely wife of 15 years and two boys. For more information on topics like these or to know more about Robert, Visit him at his site or join him on Facebook

One thought on “How to Assess Cash Flow Risk

  1. Given our economy’s current state, people like you should be the first one to gain sound financial insights first before jumping to any form of investment. Thumbs up!

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