EP6: How to Prevent Deals From Going South w/ Paul Rinks

Thing that I look at to very quickly identify whether there's an accounting problem or not is what does the balance sheet say, how much cash is in the bank. If, if I look at the month of November and I see that there's $10,000 of cash in the bank and I go pull up the bank statement and the bank statement says we have $8,000. I know it doesn't reconcile because whatever that bank balance says as of the end of that month, it should say the exact same thing. So if it doesn't say the exact same thing, I know there's an accounting problem. It could be here, it could be here, it could be here, it could be anywhere. So that, that's immediately the biggest red flag to me that I know something is wrong. And so if you just pay attention to kind of these few items, excuse me, that's going to help prevent deals from going south months before they go south. Right. You know, if you want, you know, everyone gets into a bad deal every now and then, but what really burns people is if they get into a bad deal and it sits there for 10 months, for a year. Right. So it's really important to get in front of those kind of things and make sure that you can step in and prevent and all that happens just by, pay attention to the financials and really just knowing what you're looking at. I mean it's, to me, it's, it's, it's pretty simple when you kind of distill it down to those few things.

Okay, yeah, so there's a few things in there. Now I would say the balance sheet, how you just drew it out doesn't work for every private money lending deal. Right. Because some of them are interest only payments which you still can show on the balance sheet. You're just not going to see a note pay down. Right? In that case.

Yeah. Correct. You're not going to see the note pay down. Yeah. If you have interest only payments, what, you know, so going back to really more of a financial conversation, you should be looking at, you know, there should be interest expense on the P and L for 500 bucks a month or whatever that payment is. Right. So your balance on the balance sheet, you know that note balance isn't going to go down, but paying attention to the cash number and receivables and payables, like that's all still relevant no matter what because that's kind of telling you the overall health of what's going on. Like let's say your debt Service payment is $1,000 every month and, or going back to that scenario, $500 interest only payment every month. And you only have, you know, the balance sheet says you have $200 in the, in the checking account. That's a problem. You know, where's the money going to come from? You can, you can almost forecast, hey, in your head, how many months does this operator have left to where I'm going to get a call saying, I can't pay you this month?

Yeah. So going into that, I mean, a lot of these projects that we're lending on as private money lending deals usually require a decent amount of either rehab or, you know, make ready to get them up to where they should be producing rental income, if that is the overall, like goal of this project you're lending on. So you may not see all that income coming up, up front, but that's where underwriting the deal, you know, before lending on it and having your pro forma of some sort to know what's going, you know, what you're expecting, that's where this comes into play. Right. Kind of keeping, it's kind of like a tool to keep your borrower on track to where they're supposed to be, right?

Yeah. So I mean, if you're looking at a small rehab project where, you know you're coming in, doing some demo, it's two or three weeks, you should be able to kind of manage those conversations pretty easily without having to look at financials. But if you're looking at a three or four month project and it's, you know, a large rehab, you know, at that point in time, I wouldn't be asking for quarterly financials. I would want to see them every month and they need to be closed and reconciled every month. So if you have, let's say $10,000 up here between liabilities and owner's equity, you're going to have $10,000 here. So that's why they call it the balance sheet, because it always has to balance. Now if we really dive into the first top half of assets, there's going to be some things on there like cash or it may be called something else. It's probably called like your checking account. Right. That's literally saying how much cash is in this deal and that probably in this scenario. So if we're looking at assets, it's going to say $10,000 and what you want to be looking at over a period of time, when you're looking at this for, let's say October and then it's at $10,000 and then you fast Forward and get November. Obviously that number, you know, might change month to month. But if you're looking at these financials, whether it be quarterly or monthly, you're going to see these numbers change over time. Right. And which direction is this going? Is it going up or is it going down? If it's, if your underwriting tells you that you're going to be grossing 500 bucks a month, well, you should see it grossing 500 bucks a month. Right. The balance should be increasing. If cash is going down, that's probably a good indication that you should be asking, hey, what's going on? And then the rest of the balance sheet is going to tell you really what's going on. And I'm not trying to turn people into a full blown accountant today, but just looking at cash position on the balance sheet is a good step one. If you don't know, you know, what you're looking for, it's a very simple thing. Just look at, hey, how much cash is in the bank account and you should be looking at it over a period of time, you know, October, November, December, etc. The other things that it will tell you, accounts receivable. So accounts receivable is how much you're owed, right. So this could be owed from the tenant or it could be owed from the property management company. If this number is going down, chances are that your accounts receivable could be going up. Right. And then if we kind of look at, below the line, when we start to look at liabilities, we could be looking at an accounts payable that would be some of our liabilities or what's also in our liabilities is our debt. Right? Whatever debt we have, pretty much everyone's going to have debt. If you're doing real estate, you know, at scale, especially if you are a private money lender, you're going to have debt, right. If you're looking at the balance sheet of the asset, it's going to have a note, whatever it's called to you. What does that note balance show? Is it, is it going down? I mean, it should be going down. That one you should really, really know as a pml, because money should be coming into your bank account and you should know that that balance is coming down. Right. So if you see, I'm just making numbers up, right? It's, it's probably going to be really more like, you know, 45k. If you see 45k and you look at October, November, December, and that's still sitting at 45k, that's a pretty good Indication that you have a bookkeeping problem. Right. Like, you know, you've been getting payments every month at a thousand dollars or whatever. You know, your return is every month and you're not seeing that go down on the balance sheet. They're probably behind and not putting all their accounting and closing the month appropriately. Right. Another thing that I look at the number one month and the numbers should be, if you're a good operator, the numbers should be. Exactly. Generally speaking, to what you've been communicating to me the whole time. Right. If we've spent $20,000 in rehab this month, I should see movement on the balance sheet that reflects that $20,000 of rehab that was put into the property.

Okay. Yeah. And that's like breaking down line items as far as, you know what that rehab's going into. Right. You might not have income yet, but you're going to see cash leaving the account that you, the lender probably lent on. Right?

Yeah.

And we just want to know where that's going.

Correct?

Okay.

Yeah, yeah. So breaking down, I want to know, I should see expenses, you know, whether that be H Vac or really whatever. I should have some, some sort of categories broken out on the P and L and I should that correspond back to cash. And you know, if you trust the operator, just seeing that, that's good enough. If you don't trust the operator, you probably want to see a line item detail on the bank account as well. And I seeing where the money's going out because someone could easily, you know, say, hey, I spent $20,000 on H Vac and you, you look at the bank account and the wire went to themselves. Right. I would be a problem.

Yeah.

So really looking at line item details in that type of like fix and flip scenario, large rehab, like, I would be looking, you know, the surface level check is the financials. And then behind that, I would also be looking at the bank statements every month looking at the line items. Okay. Where's the cash leaving? Where is it going? Who is it going to? You know, if it's going to, you know, Joe's Contractor llc. You know, that probably makes sense in alignment with. Okay. I know he's working with Joe. It should not be going to myself to my own entity.

Right, I got you. So what are some of the things that you can do to get ahead of these maybe preventative items that you can, you know, I would say catch the borrower or get the borrower on track before even lending money. So that these are the things that we're expecting. So a Lot of the calls or a lot of the problems that people have are because they didn't have the right conversations in their underwriting process to get to the point where they don't even really know what to expect of being on the balance sheet. Right. Is that what you're seeing, some of the biggest issues in our communities?

Yeah, I think it's a lack of understanding and really diving into something before you're probably ready. And it's completely okay to jump into something where you don't have the expertise yet. But you need to make sure you have someone that you actually know and trust that does have that expertise and that plays a critical role. And it's probably not going to be someone that is a person you've met just like a month or two ago. Like, you need to have some demonstrated history if you're going to rely on another individual to provide a skill set to help fill in the gaps for your knowledge until you're able to learn. So a lot of times PMLs want to be passive investors, and that's completely okay. But I think you really have to have some sort of foundational financial literacy to protect your own money and know where that money's going. You know, you can't just solely rely on other people for that. In my opinion, at some point, you need to level up and understand what's going on so that way you can prevent yourself from getting burned on bad deals. I mean, I know so many people that have got burned and it really came down to underwriting.

I'm stuck in a deal now, too, and it was because I got lax on my underwriting. So. But yeah, I mean, there's, there's points out there where you can have so many deals go right with the same borrower too, and then do what I did and get a little acts on your underwriting and that's when you usually get bit. So.

Yeah, yeah.

But a few things looking at like your, I mean, this is all going to tie back into the balance sheet. But a couple things that I was thinking about that. I don't know how you feel about this, but, you know, preventing some of these things up front as far as what your expectations are in underwriting, and this is where, you know, watching the balance sheet, you have a little bit more control, I would say. We've been doing kind of a hybrid between a hard money lender and a private money lender lately. So we're setting up draw payments.

So.

We have to release those draws. I'm actually the one that has to go out and make sure the work's done to release the draw. So with that being the case, we're not giving every, all that, you know, the contractor, all that money up front. We can kind of watch them a little closer too and make sure the work gets done before releasing more money out to them in their control.

Yeah, and so in that scenario you're probably paying them, you know, 50% upfront or maybe less depending on your relationships. And then are you paying the contractor once the work is completed and then you're getting reimbursed from the hard money lender in, in that draw? Is that how it works?

No, I'm saying we're as a private money lender on the lending side. We're essentially a hybrid between a private money lender and a hard money lender because we're setting things up on draw payments. Yeah, this is where the balance sheet is going to look a little bit different in these types of deals because we're not getting an interest only payment. There's, you know, there's give and take to every type of lending and we're asking for a little higher interest rate but we're not getting a monthly payment. So it's a six month loan. It covered the purchase price and it gave them majority of their money to get to that first draw payment. But they're going to have to bring about six to eight grand to the table. It's a hundred thousand dollar right around that area, total loan. But we're only giving them 65% of that upfront. That's the purchase price and some of the rehab money. But they still have to bring some more money of their own in. So how would that look on a balance sheet? Because now we're bringing, you know, it is going into their LLC's bank account. That's. So we are giving them control of that. We have monthly checks. So every month we have to come up and they have to show what they've done. Even if it wasn't to the point where we have a, a draw scheduled just to let us know where they are with the project. What have they done, what have that, where have that money went. So that should all show on the balance sheet, right? Like a line items for H vac or roof or garage.

Yeah, yeah. I mean big line items like that. Now that should all be capitalized and put on the balance sheet. But you know, sometimes people are going to expense it. You really kind of got to look at both together. Not everyone is going to be an accountant. Not everyone is going to have an accountant. Not everyone's going to do accounting correctly. Like going back to your interest only payment or interest only where you mentioned that, where you're not, you know, maybe per se, you're not really getting a monthly payment, it's really going to be at the end. And well, a real accountant would be booking that monthly. They would be accruing for that interest payment and that debt service that their obligation is, it may not be paid out, but they should still be recording that interest expense every month. And again, that may not happen. But regardless, in any kind of scenario, you should be able to tell what's going on with the project by looking at both profit and loss and balance sheet. And if you can't tell, it's because they haven't done the bookkeeping or they're not keeping up with the records. And again, it goes back to tying out the bank balance to what you're being shown on the financials. I mean, that's like the biggest thing that immediately tells me, even if it's a penny off, I know that it's a penny off somewhere. Right. Like there was a mistake in the accounting. And then once you see a mistake, you know, maybe I'm probably not in that example going to be too upset if it's a penny, you know, there's probably some reasonable explanation. But if, if it's off by 15, $20,000, like we got a big problem, right? Like that needs to be resolved, then that leads to a deeper conversation of hey, I looked at the bank balance at the end of the month, I noticed it was $20,000 off. Hey, can you help me understand where it's at? You know, maybe there was a mistake on, on the accounting, on accident. Like can we, can we identify that and then just hear what they have to say?

Yeah. Now so far, and I'm still, I would say fairly new to the whole private money deal deals I have, I haven't done, you know, I've done a little over a dozen at this point, but I have not ran into a whole lot of flippers that have a perfect balance sheet. You know, I don't have control of their bank balance. But those monthly checks are what's really important in seeing where that's money's going. So I don't know what you've done with anything, but how do you have that conversation with a, a flipper or somebody running a project that's, you know, supposed to be a six month or less project? Because we want them to be on that project and working on this Job. Right. Not everyone. Most of them don't have accountants. Most of their balance sheets aren't the greatest. So how do you have that conversation to try to keep them on track but at this. And understand what's going on with that money that you lent out before getting, you know, before even coming to the job? Because this is a lot of. Or before even lending, I should say, because this does come down to expectations, right?

Yes, it does. If I'm sitting on the PML side, I'm probably not going to be the most favorite person in the room when I'm having those kind of conversations. It's just, it's a non negotiable for me. You know, it's like I'm not going to do this unless I'm getting updated financials. Like again, if it's a long term, you know, LTR deal and the property stabilized, like me personally, I don't really care. I mean I, I will wait for quarterly results. Like it does not matter. I probably want control of the bank account and what I guess when I say control, more visibility. If it's a stabilized property, just having that, you know, that's good enough for me.

Okay.

But in that kind of rehab type of scenario, I want to see every month like I want to, I want things to be closed out. Like you just have to do it. And if luckily for me, I have that skill set. So if they're not willing to do it, I'm going to take over and do it myself and I'm going to be really in the weeds in their business and understanding the rehab of what's going on. But I think it's critical to have that. And in my opinion everyone should ask that as well because that's going to be the. That that essentially is going to guide your conversation every month. It should be around the financials. Hey, how's the financials looking? You know, once you get them. Hey, let's talk through this. What are you seeing? Like you should be able to talk through that every month. And the people that are just completely in the dark, I mean you're just open up, you know, numerous opportunities in ways that you could get screwed out of that deal.

Yeah. That just lets you as the lender, I mean, you're giving up more and more control the less and less you ask from them. Right. You can get all the security measures in the world. But if that deal does go south, you're the person that's going to have to probably take that property back and finish the, you know, finish the deal or, you know, take a loss.

Yeah, yeah. And if you underwrote the property, like, and it's bad, and you hear this, and they're like, oh, I needed to be looking at financials. Like, if the deal's bad, the deal's bad. Your deal's going south regardless. But the key is getting in front of it and knowing that your deal's going south in month one or month two and not month eight or 10 or 12. Right. That's like, really the important part of, you know, what we're talking about today is getting in front of it and buying yourself more time by just understanding the numbers and even asking for the numbers.

Right? Yeah, yeah. So there are things that I honestly could do better in my own business with this. I'm not getting a PML from them every month, but I'm seeing where their money's going. So I'm seeing receipts of all the major items that would require me to really, you know, plug that all in myself. But I should be asking them for their bank statements from their LLC at the end of each month, even if they're not running a, you know, if they don't have QuickBooks or something set up.

Yeah, yeah. No, I mean, it's all relative to the deal, and it's all relative to the size of risk to the individual. Right. If I lent out $20,000 and it was the only $20,000 I have, you better be asking for everything we've talked about and then some. Right. If I lent out $20,000 and my net worth is $200 million, I don't think I'm that worried about the $20,000. I'm not saying you shouldn't take those precautions, but it's really relative to your risk profile, how much you have in the deal, what are you willing to do? Right. If you're worth $200 million, you're not worried about the $20,000, you probably have a hundred other better things to do than dive into this project that you lent, you know, pennies on the dollar relative to, you know, your net worth. And you're trying to help the operator do bookkeeping. It's not worth your time at that point. Right?

Yeah.

So it's all relative to the deal and your risk tolerance, I guess.

Yeah. And even with that, like, your risk tolerance and the person you're working with, I would still say, just because, you know, this is me from personal experience, if you start getting lax and you're like, oh, I've worked with this guy 10 times. Everything's ran smooth. I'll just, you know, cut him some slack. That's usually where it ends up biting you in the butt.

Yeah, that's where I think, you know, just looking at updated financials regularly, maybe you're not diving into those weed type of conversations of line item by line item by line item because it's someone you trust. It should just be a surface level check. Okay. Yeah, looks good enough. I mean, but if it starts going south and the guy's done well for you, he's probably got another project going on and he's probably drained the cash. Right. So he's taking the cash out of the LLC and he put it on another project. You would be able to see that on the balance sheet. You would know and you would know when it happened too. You would know the exact month. So you wouldn't be surprised six months down the road where he's giving you updates and he's like, yeah, everything's going well, we're on track. And then next thing you know, you're out of money and he's doing a capital call or he's saying he can't pay you back.

Yeah. So even outside of the balance sheet, the really important thing is to make sure your deal structured so there's enough equity in it or you're not releasing all the money up front. So that worst case scenario, you know, somebody starts draining an account or they're not doing what they should do on the rehab or they just, you know, they were off on their numbers, which means our numbers are off too because we didn't do proper underwriting. You have the ability or the equity in that deal too. If you had to take it back, you could still save it, hopefully make some money as well, right?

Correct. Yeah, absolutely. I think it's, it's critical to look at all this stuff if you're going to be lending regularly.

Yeah. So this is the, you know, this was the non pretty or not fun part of the business that I think everybody could do a lot better at, including myself. So. And I, I mean most private money lenders from what I've seen, aren't seeing where their money's going. I mean, I, I'm seeing receipts. I could do better on the balance sheet side seeing actually where, you know, seeing their bank statements. But yeah, I do ask for their big line items and what's coming out and seeing that that money's going where they said it's going. But you know, there's holes in what I'm doing. I think you have more of that mindset from just watching your content, of really digging into the weeds of the numbers. So I wish.

Yeah, if someone's getting behind on a project with me, they're probably not going to enjoy the conversation.

Yeah.

Because, I mean, there's just. There's no BSing me. There's just not like, I just. I just know financial statements like the back of my hand. So you're not going to be able to hide things from me.

Yeah.

And I'm going to be. Like you said, I'm going to be digging into the bank statements and asking those tough questions.

Yeah. I've seen some content you've done with some QuickBooks stuff and trying to kind of show some people around QuickBooks and how you're running your, you know, things that you're doing in your businesses. So.

Yeah, yeah, no, I'm. I'm actually. I'm excited to dive into more of that stuff. Yeah, I got a sub 2. I have a sub 2 deal that took down recently and kind of one of those things where. And I get into it myself too, where you're, you know, you're taking action and you're doing things faster. You can keep up on bookkeeping. So I've been operating or I've been getting this property operated. We actually got it stabilized before closing. And so now that we just got it closed, technically now, you know, I'm. I'm an owner of the property, but I've really started operating it beforehand. So we hadn't even gotten any, like, up until, you know, closing. We didn't get the LLC set up. And now we don't really got to get QuickBooks account set up, all that stuff. So we're essentially two months behind, several months behind on bookkeeping already. Right. Because we haven't really started until now. And so I'm gonna be film that journey and that content of like, here's a mess and we're gonna clean it up. Because this is probably what you're looking, what most people are looking at. It's like, I have a mess. And they're probably waiting till the end of the year. And they were like, I don't even know where to start. Yeah, I'm gonna start with the mess. And I even have. I mean, it was kind of messy because, like, when you get into deals, like we had. We didn't even have the bank account set up or the LLC set up, which is pretty common when you get into deals. And so funds were in another entity and we're paying for expenses for this other Entity. And I'm going to kind of walk through like, okay, this is probably reality for a lot of people. You're making stuff happen. You're incurring expenses, whether it be inspection reports or turning on utilities or appraisals or whatever. Right to operate the property. Property before you even have a bank account set up. So where is all that accounting going? And I'll kind of walk through how you make the appropriate, like cash adjustments on the balance sheet and, and do all that stuff to kind of clean things up. So I'm excited to dive into that. I'm not excited to do the work, but I'm excited to kind of walk people through how to do it.

And this is looking at it from the operator side, right?

Correct. Yeah. So this would be the, the LLC that holds the asset and all the expenses and ins and outs, whether that be, you know, the down payment, playing, paying for closing costs, you know, the pml, recording the notes, recording all the expenses, receiving the rent, all that stuff that's all been going on the past couple months. And we hadn't even set up the QuickBooks account yet. So I'm going to kind of walk through all that. And then luckily, me and the partner, you know, that we have, we talk like multiple times a week. So it's kind of one of those things where it's like, it's all relative to the deal. And, you know, our goal is to get this all done before the end of the year. So that way, you know, January 1st comes, we got our clean reporting every single month.

Yeah. So looking at that, that's a really good point that you just made. Like you said, you brought partner into it. So even though your books aren't clean right now, you're having those discussions with the partner. So even if you're lending to a borrower and maybe it was a quick transaction, it's just staying on top of what's really going on and having a plan to catch those books up, right?

Yeah, yeah. I mean, everyone's not perfect. You know, we have multiple conversations. He's got control of the bank account, he's got access to it. You know, we talk about, hey, this is what we're doing is what we're spending money on, that kind of stuff. And then, so when all, when all that gets cleaned up for the end of the year, when we get that rolling, because we just closed on this like Wednesday of last week. So, I mean, this just happened. So once we get all that squared away, you know, everything he sees should be exactly what I've communicated since day one. Right. That's what should be happening.

I gotcha. Yeah. So where are you with your business? Are you still acquiring? Are you lending? Like, what's your focus point right now?

Yeah, so that's a great question. We just acquired a company probably about a week and a half ago. It's been our third acquisition in the past year and a half. This will add $6 million of revenue to our trucking company and really, really cool transaction to work on. A lot of fun. They actually had a lot of excess equipment sitting around not producing any revenue. So we went through, identified all the equipment that wasn't producing revenue, and we sold off all the equipment that wasn't generating anything or if it was generating something, it was a loser. So we cut all the losers. We kept all the winners and it was actually losing several million dollars a year and we turned it around and it's now profitable on day one. It's already, already making money through all the things that we did because we, we essentially got an agreement to take over and operate the business before we even closed. So that allowed us to identify all the opportunities and just start cut, cut, cut, cut. And then, you know, completely changed the dynamics of the business and makeup. And that's, that's kept me quite busy. But as far as on the real estate side, really raising capital for larger multifamily projects is kind of the next step. You know, I've, I'm actually underwriting morbi method 5 property deal right now that will probably be putting under contract soon. So if good deals come up, definitely going to do that in like the small multifamily space. But next year's focus is definitely going to be more on like larger multifamily projects.

Awesome. Yeah. And I think we, we connected from you. I just brought up the Morphe method when I was going through a hell of a deal on, you know, running a Morbi Method. So.

Yeah, that's. I love those transactions. It's, you know, one of my favorite types of transactions out there.

Yeah, well, well, Mundo, if you know anybody watching my podcast want to find you. Where can they find you?

You can find me on YouTube. So actually I used to show up pretty well, but now I, I think there is like, you know, I have a common Hispanic name. I think there's some like, political figure with the last and same last name. So like, it's just like I'm not even showing up anymore. But if you just type in my full name with no spaces, it will show up. And you can subscribe to my channel. Follow me there. Same thing with Instagram, you know, same name. You know, just type in my name. You know, it'll show up there as well.

Awesome. Yeah. And I'll throw those in the description of the video.

Awesome, awesome. Well, I appreciate you having me. Oh, and I don't know if you've looked into this at all. Real quick. Fractional. Have you heard of fractional? Pace mentioned that the other day. No. It's a new. It's essentially like the social media of real estate. And it's really cool because you can create your own, like, community and it can be private and you can have people join your community. So they're just looking at, you know, your content in your community. And the really, the cool thing about that, the technology behind it is you can pull together capital. It's kind of almost like a crowdsourcing or crowdfunding where you could have multiple people JV on a deal. And let's say they want to put $5,000 in. Well, managing that kind of transaction, you know, $5,000 from 10 people, that would be a nightmare. As far as investor relations, they handle all of that. So from the techno from their tech stack, and they get around SEC rules by having every single person in that project have responsibilities, voting responsibilities. And so it's really interesting project. I'm actually doing a podcast with the founder later tonight and I'm excited to use it. And then Pace highlighted that the other day, and so now people are joining that. So it's, it's pretty cool. So I'm going to be posting a lot of my content in there. You know, some of my deals, I can't really share too much information publicly, but I can in there because it's more of a private community. So I really dive into that on Fractional. So you can find me there too.

Yeah, I'll definitely have to look into that. That's because, yeah, a lot of the times that we're putting together these deals and you have a joint venture agreement that really doesn't hold much water in some cases. But you're putting too many people together in a deal that should probably be a syndication, realistically.

Yeah. And this is great because, you know, it's kind of a platform where everyone can see the updates. You know, if you're, if you're giving investor updates, you're not having 10 different individual conversations. You are having one update posted in a central place. All the partners can see that. And I mean, I think it's, it's pretty brilliant. I really enjoy using it so far.

Okay. Yeah, I'll definitely have to dig into that. Thanks.

All right, well, thanks for having me on the show. It's always a pleasure, and I'm sure we'll be in touch soon.

Awesome. Thanks, Mundo.

See you, man.

Thanks for watching.

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