This is a cautionary tale about the danger of having just enough knowledge to be dangerous. I’m talking about investors who think they know it all, but don’t realise how much more there is to know.
The problem is, you don’t know what you don’t know.
We all have knowledge gaps. We know what some of those knowledge gaps are. That’s when you know what you don’t know (e.g. “I don’t know anything about this, and I don’t know anything about that.”). They’re what’s called the known unknowns.
But we all have knowledge gaps we’re unaware of. That’s the danger area, when you don’t know what you don’t know. They’re what’s called the unknown unknowns.
Surprisingly, we have found people in positions of authority (think airline pilots, ship captains, company directors, CEOs, etc) are more likely to go it alone thinking they know it all, only to come a cropper.
It might be more prevalent with people like them, but it’s not just them. In our experience nobody is immune from being afflicted with the ‘know-it-all’ ailment.
Introducing Brian & Janet
Brian was a captain nearing retirement. He and Janet were prudent people who kept their spending in check and had squirrelled way $1 million, which was sitting in the bank on term deposit.
We spent a lot of time with them teaching them about commercial property investing and mentoring them through the due diligence process on a number of potential acquisitions.
Then one day Brian announced he’d bought a building in South Auckland. He hadn’t just got it under contract, he’d gone unconditional. It was a done deal.
It was the first we knew of it.
- Industrial building in South Auckland
- Very good location
- Purchase price: $1,000,000
- Leased at $90,000 p.a.
- Yield: 9%
- 9-year lease term
- Market rent reviews every 2 years
Looks pretty good at first glance, right? Brian proudly told us how he’d negotiated the price down from $1.125 million so he didn’t have to borrow anything. It was all financed with cash.
We skimmed over the details and groaned.
It was immediately obvious the lease rate per square metre was waaay above market. Not only was there no upside, the lease wouldn’t increase for donkey’s years until the market eventually overtook it.
But Brian didn’t care because he was getting a 9% yield.
We asked more questions and got more frights. The tenant was the vendor. They were an owner-occupier and had leased it back to themselves on a long-term lease before selling the building.
It was obvious the owner had leased it back at an inflated rent in order to sell the building for more than its worth. A classic trick for the gullible.
But Brian didn’t care because, 9% yield AND 9-year lease.
But… it gets worse. There were also no personal guarantees.
To cut a long story short, the tenant wound up their business 2 months later and walked away.
Brian was left with an empty building and no chance of ever finding a tenant prepared to pay an above-market rate of $90k p.a.
When he eventually found a new tenant – at market rates – the building was revalued at $650,000.
He had vaporised $350,000 – a third of his entire net wealth that had been accumulated over a lifetime of hard work and frugal living.
All because he didn’t seek advice.
On 6 November 2018, Stuff interviewed Olly Newland. Here’s an excerpt from their article…
Property guru Olly Newland says “commercial property isn’t for everyone. You have to have big goolies to be in this game.”
There were risks but “you can mitigate these risks if you know how”.
“People investing in commercial property are doing a lot of due diligence and are very careful about it.”
His company advised many commercial property investors “and by golly we tie them down with ropes before they go mad”.
“You make one mistake in this game and it’s all over.”
Prophetic words indeed.
If you’d like to take advantage of the better yields in commercial property and need someone with big goolies on your side, you should enrol in our Commercial Property Masterclass…
Learn about commercial property investing from the pros…
Visit our commercial property courses page to learn the intricacies of investing in commercial property.