How Cody Davis scaled $3k-19,000,000 - The Real Estate Math I used

Hey YouTube, it's Cody. Happy Friday. Today we're talking about everybody's favorite subject, math, and specifically how I used math to scale from $3,000 to, at the end of this year, just shy of $20 million of real estate without using a bank loan and without having a rich dad. Now, would those things have helped? Maybe, but I didn't have them. So here's how you can use math to scale quicker than those around you. Now we're going to use some terms today. Loan to value, if you don't know, is looking at a leverage point, how much debt you have on an asset versus the price you're buying it for or the valuation that it actually has. So if you go buy $1 million worth of real estate, you put $100,000 down, you're putting 10% down, you got 90% debt, it's 90% loan to value. And when you want to scale quickly or quicker than others around you, You have to use more leverage because if everybody had $1 million, regardless of how much they could actually buy, they could pay $1 million cash for a piece of real estate. They could buy $10 million of real estate if they could put 10% down and $100 million of real estate if they put 1% down. The trick is how do you actually get that debt? Because most people can't. And so when I went out and started looking at real estate, banks weren't an option. And even if they were an option, I'd be looking at putting 20, 25% down. When I scaled, I typically didn't have to put any of my own money down because I've had my biggest deal ever to this date outside of the Robinhood was $10,000 out of pocket. Now the Robinhood is $1 million down, so it's a slightly different scale. But when I was just getting started, I had to look a little bit less at loan-to-value. And I had to look at something called DSCR, and I've talked about that on the channel a little bit. Debt Service Coverage Ratio. Now, your debt coverage is a function of a couple of things. You've got your debt cost, always on an annual basis, and you've got this thing called NOI. And your NOI, your net operating income, is the money you have to pay yourself and pay your debt. That's it. It is that simple. Some people overcomplicate it, and it doesn't need to be overcomplicated. The money you have to pay yourself and pay your debt. Now, if you don't have debt, you pay yourself more. And if you have a lot of debt, you pay your debt more. And hopefully you're not negative. And if you're negative, meaning the NOI, the net operating income, is less than your debt cost, you have what's called a negative debt coverage ratio. And we want a positive debt coverage ratio. Now, the way it works, if you're losing money, meaning that your net income is less than your debt, The way that that is calculated is it's anything less than 1. So if your debt costs $100,000 a year, your net income is $90,000. That's a 0.9 DSCR. If you are at 1, meaning it's a 1-to-1, you'd have $100,000 debt on an annual basis and $100,000 a year in net operating income. Now, why does this matter more than loan-to-value? If you bought a piece of real estate, zero money down, hypothetical here. Some people say it can't be done. I'm going to tell you that it can be done over and over and over again. But if you bought a piece of real estate that was $1 million worth of real estate, they sell it to you for $2 million. It's not a great deal if you have to sell. And that's the one key component. If you have to sell or get new debt, your loan-to-value matters a lot. If you can hold it forever, it's in a location that you can hold forever. You want to hold it forever. It cash flows well. You don't have to sell. Then the loan to value is a little bit less important. And I'm using this as a gross example here, but they sell it to you for $2 million, zero money down, and it cash flows. Let's say the net operating income is $400,000 a year. And these are just made-up numbers right now because that would be a weird ratio. But $400,000 and your debt costs $200,000. Well, your debt service coverage ratio on these made-up numbers is 2, meaning, yeah, are you overleveraged on a loan-to-value front? 100%. You're way overleveraged on a loan-to-value front because you're 200% loan-to-value. Bad place to be. But on a cash flow front, you're cash flowing your $400,000 less your $200,000. You have $200,000 a year in net operating income. Now, that NOI, you're not going to buy for $2 million. But the point of all this is that if you can just prioritize looking at your debt coverage on long-term fixed rate debt, we're looking at decades-long debt. We don't want 3-year, we don't want 5-year on this. If you can get super long-term debt that cash flows with margin, then your odds of doing better go up because your loan-to-value will kill you if you're just buying on short-term debt that you have to get new debt on. If you have high percentage loan to values, you're going to get in trouble if you want to go get new debt because banks don't like high loan to values typically. And if you just focus on, okay, I'm going to flip it, well, no one else is going to see the same vision. They're not going to buy just based off the terms you got because they don't have those terms. So you have to get super long-term debt and you just focus on the cash flow. You build up a cash flow base and then you can use the cash flow to pay off all the debt. That's how Christian and I scaled so quickly. Was it overpaying by double? Heck no. We are also good at math and we don't want to overpay by that much. But some people get stuck in the weeds where they're buying a $1.8 million property, $1.7 million property for $2 million. They're like, that's grossly overpaying. Like, well, if I hold it forever, that just determines how long it takes to pay it off. And today, as a function of that, we bought the 38-plex that was on the market for 13 years. Did we overpay? Yeah, we gave them $2 million. It was making $5,600. It was a negative cap rate. Wasn't great, but we just prioritized focusing on the debt coverage. And today our debt service coverage ratio is over 2, meaning that while our debt costs about $100,000 a year, a little over, our net operating income is over $200,000 a year. We focused just on the debt coverage ratio. We just focused on, okay, let's get our debt service coverage up. And as a byproduct of all of that, our loan-to-values came down. Today we owe $1,670,000, a little less than that actually, on a $3.41 million asset. That's on appraisal as is. And it's a little higher today because we've got the rents up even more. A lot of people are focused just on, okay, what's my loan-to-value? And if you just focus on what's my loan-to-value, you're going to have a very hard time scaling. If you focus on, okay, what's my cash flow, what's my debt service ratio, and how do I improve that? Now we're talking about actually scaling, because when you can improve your ratios, you get more cash flow, you can get new debt. It allows you to service new opportunities, which can allow you to scale. And once you scale to hit your number, most people don't want to stop at a duplex, triplex, fourplex. You scale till you hit your number where your debt service coverage is high enough You can use all the income, all the net cash flow, and hammer your debt. And then you're left with the NOI number, the money you have to pay your debt and pay yourself. Well, when your debt's paid off because you scaled big enough with leverage, you prioritized focusing just on long-term fixed-rate debt, great location, and great debt coverage ratios. When you build your NOI to the number that you want to live off of, not gross income, but NOI, actual net income, if you own it outright, then you take all the extra cash flow and you hammer the first mortgage. And this is where we debt snowball. Some people buy their first property and then they want to pay it off and then buy the second property and then pay it off. I love the debt-free idea, and Christian and I will definitely get there someday, but it's too slow when starting. And so if you're trying to prioritize, figure out, okay, do I go debt-free? Do I lever up? The quickest way to scale is to lever. The hard part is if you lever too far, you bring on too much debt, your odds of losing it go up a lot. And most people don't factor for risk. This is where Dave Ramsey is actually right. You shouldn't just lever for eternity. It's not the best business model. Build to the life that you want to live, however much that takes. If it's $5,000 a month, $10,000 a month, get there on the net operating income approach. Structure creative terms with your attorney so that you can go buy real estate. You got to be able to get the debt before you can get the deal. You find the deal, then you got to structure the debt. And if you need any money down, then you got to figure out the equity piece. But if you can just focus on long-term fixed rate debt and great locations, get great debt coverage ratios, and then build that NOI bubble that you really need to live, then take all the extra cash flow with your margin hammer the first mortgage, hammer the second mortgage, and once you get them all paid off, now you have the freedom to go do what you want and not worry about losing it again. So I hope this is helpful. We don't do a ton of math videos on this anymore, but if you want to see more videos like this, let me know in the comments. And if you just focus on one thing out of this, focus on increasing your debt coverage ratio. If you— every $100,000 of debt, if you can get $200,000 net income, $250,000, $300,000 net income, you're going to have enough cash flow to help weather some of the storms when things go wrong, because a lot of people are worried about the market crashing right now. Even if it does, if you've got long-term debt, back to that loan-to-value thing, if your loan-to-value goes up because the values go down, as long as you have great debt service coverage and you have long-term fixed-rate debt that's not moving around on you, you're more likely to do better. So hope this helps and happy Friday.