When We Say “No” to a Great Deal (Even If It Fits Our Buy Box) | Ep. 1007

Episode Summary

Commercial real estate acquisitions are not simply about finding a deal, underwriting it, and closing. Kevin Bupp uses this crossover conversation with his business partner and Sunrise Capital Investors CEO Brian Spear to examine what acquisition discipline actually looks like when new information challenges the original investment thesis. Kevin frames the discussion around transparency, conservative underwriting, protecting the downside, and having the discipline to act on what due diligence reveals. 

The conversation explores Sunrise’s three primary value-creation levers: recapturing loss to lease, correcting operational inefficiencies, and using infill to turn vacant manufactured housing sites into revenue-producing assets. Brian and Kevin then examine two real acquisition decisions: a Houston parking property where environmental contamination threatened to add up to seven figures of remediation costs, and a large Midwest manufactured housing portfolio where boots-on-the-ground diligence caused projected CapEx to increase roughly three to three-and-a-half times. 

For commercial real estate investors and operators, the core lesson is to separate what can be controlled from what requires the market to cooperate. Sunk costs, emotional attachment, and a technically fixable problem should not override risk-adjusted returns, opportunity cost, or disciplined capital allocation. The discussion also explains why operators should continually re-underwrite existing assets and build teams capable of executing increasingly specialized investment strategies.

Episode Chapters

00:00 Kevin’s Introduction
Kevin explains why he is sharing this conversation from The Sage Investor on the Real Estate Investing for Cash Flow feed, connecting the episode to his focus on transparent deal analysis, conservative underwriting, acquisitions, and downside protection.

02:33 The “Infill” Upside
Kevin explains why manufactured housing infill has become a larger part of Sunrise’s strategy and how filling existing vacant sites can create value through a process the operator directly controls.

05:53 Control Your Investment’s Outcome
Brian and Kevin distinguish controllable value-creation levers from variables such as interest rates and cap rates. They discuss Sunrise’s framework of loss-to-lease recapture, operational improvements, and infill.

09:53 Challenging Value-Add (Worth It?)
The discussion turns to how experience, operating history, and specialized execution capabilities can reduce uncertainty around difficult value-add strategies such as large-scale infill.

12:56 When to Walk Away From a Deal
Kevin walks through a Houston parking acquisition that looked highly attractive until environmental diligence uncovered contamination that could require hundreds of thousands or potentially more than $1 million to remediate.

20:00 Turning Sunk Costs Into Knowledge
Brian and Kevin examine the roughly $60,000 already invested in the Houston deal and explain why pursuit costs should not justify committing substantially more capital after the economics change.

22:00 Protect the Long-Term Business
They discuss what can happen when sponsors move forward after financing terms materially change and contrast completing a transaction with protecting investor capital and a long-term reputation.

24:40 When Due Diligence Blows Up the Budget
Kevin explains how a large Midwest manufactured housing portfolio looked attractive on paper but revealed substantially more deferred maintenance once the team visited the properties.

30:30 Is the Value-Add Actually Worth It?
The conversation moves beyond whether problems can be fixed to whether fixing them is the best use of capital, time, and organizational resources.

37:16 Controllable Often Beats “Fixable”
Kevin compares a complicated turnaround with a cleaner acquisition where the primary value-add is loss-to-lease recapture, illustrating why fewer uncontrolled variables can matter when evaluating risk-adjusted returns.

38:56 Would You Buy the Property Again Today?
Brian and Kevin explain why long-term ownership does not mean holding every asset forever and introduce a simple portfolio review question: knowing what you know now, would you still buy the investment today?

42:47 Building the Team Behind the Strategy
Kevin and Brian trace Sunrise’s evolution from a two-person operation to a specialized organization with analysts, deal leads, transaction coordination, CapEx expertise, and a formal investment committee.

49:04 Never Fall in Love With the Deal
Kevin closes with his core acquisition principle: fall in love with the discipline of finding the right deal, not the deal itself. Trust the facts uncovered during diligence and remain willing to walk away.

Full Transcript

Kevin Bupp: You’ve heard me say plenty of times that I want to be open and honest on this show here, and that’s why I started a special series to share all the good, the bad, and all the different ugly that also exist in investing and operating real estate.

Today isn’t exactly a case study, but more so a deep dive into my wheelhouse, which is acquisitions, chief investment officer at Sunrise Capital Investors.

As many of you might know—maybe a lot of you don’t know—my business partner, Brian Spear, has kicked off The Sage Investor podcast, which I’ve been telling him for years to get that show up and running. But I’m glad to see that he’s finally done it. It’s a phenomenal show.

On his show, he shares how we implement the capital strategy as the foundation for our business at Sunrise. And so you’re going to get to hear how we use it today in our conversation with Brian.

If you haven’t done so, go check out his show. We’ll put a link in the description. Give him a follow, and I welcome you to do the same here.

So in the spirit of transparency, I enjoyed the conversation with Brian and I thought it would be great to share here as well.

I’m fairly conservative with our underwriting when we’re looking at deals. A big part of protecting the downside is knowing what to look for and, more importantly, having the discipline to act on what you find.

So here’s my conversation with Brian Spear. I hope you enjoy.

Brian Spear: “An investment in knowledge pays the best interest.” It’s a Benjamin Franklin quote that we love. And obviously, as investors, we love compound interest in general. But an investment in knowledge, as you know, pays the best interest.

We’re going to go ahead and put that to the test today as we bring in Kevin Bupp. We’ve had Kevin on before talking through kind of how Sunrise got to where we’re at, how we got to $500 million AUM, how we’ve done a billion dollars of transactions over time.

But today, I want to talk about how we actually do what we do on the acquisitions level and how we try to run that part of our business the right way.

We’re bringing on Kevin. He’s my business partner, friend, co-founder over here, and now the chief investment officer heading up the acquisitions department. He’s done it for 30 years. So we’re going to dig into how that part of the business works.

Because acquisitions, it can look pretty simple from the outside. You just find the deal, you underwrite the deal, and you buy it. Pretty simple.

But as we’ve grown, Kevin and I, we’ve gotten much more intentional about where we want our investment returns to come from, what risks we’re willing to take, what makes us walk away from deals, what kind of organization we actually need to build along the way to actually implement that investment strategy.

So Kevin, let’s bring you in here, buddy. Let’s start there. One thing that we’ve gotten much more clear about is where we want our actual upside to come from. Let’s talk about infill, okay? Why has infill become an important part of our strategy?

Kevin Bupp: It’s a great question, Brian, but I appreciate you having me here, buddy. Always fun to talk shop together.

And I thought acquisitions wasn’t that simple, right? We just go find deals, right? Buy great deals and that’s it. All the other magic just takes place of itself, right? Just takes care of it.

But, you know, infill. I think the biggest thing with infill, of how we look at it today maybe versus how we might have looked at it, call it 10 years ago, is that it’s upside that we have full control over.

Nowadays, we buy a community, there’s vacant sites. In most of these cases, there’s roads in place, there’s infrastructure. So we’ve got these sites that are just essentially sitting there. They’re not being productive. They’re not revenue-producing sites. And so it’s a lever that we can have absolute control over.

So if we can simplify this, if we bring a home in, we get it set, get it connected to utilities, then ultimately go through our sales and leasing process, get a resident to it, and then ultimately turn that into a revenue-producing site, we’re actually controlling that value-creation process.

And I think a lot of folks get caught up in just looking back, like 2020, 2021, 2022. Rising tide was lifting all the boats, right? Cap rate compression was happening. The market appreciation was taking care of all the upside, right? And everyone looked magically like geniuses.

But ultimately, we know that doesn’t play out for a very long period of time. That’s very short-lived, and now ultimately we’re seeing the fallout from that.

But infill is a lever point that we can have absolute control over. And obviously, you’ve got to have a team. We can talk about that as well. But you’ve got to have the team in place, you’ve got to have the infrastructure, the knowledge, the wherewithal, and all that to make it happen.

But I’d say that, just one last point I’ll make regarding the infill, I’d say that it doesn’t change the fact that we still need a great market. I mean, location, location, location. Everyone knows that old adage, and that you’ve got to buy in a great market.

We need the housing demand. If we’re going to pull that lever, we need to know that there’s housing demand there.

Surprisingly enough, affordable housing, it’s not necessarily in a shortage everywhere across the country. Majority of it, it is, but there still are markets where there might not be a housing demand for our type of product.

We’ve also got to buy the property at the right basis. But we’ve evolved over time. And I think that we’ve just really gotten a lot better internally, and with the team that we’ve built now over a decade-plus, of how much of this return can we manufacture ourselves?

Do we have the team? We have the talent. Can we manufacture this return ourselves?

And that’s how we have really come to think about infill. Again, it’s a lever point.

If you look at our business today versus maybe what it looked like 10 years ago, while we might have done some infill here and there, it wasn’t a big part of our business model because it just took a significantly larger team and expertise to pull it off at scale.

And I’m just proud to say that I know we’ve got that team today. We’ve got a brilliant staff on hand that has a lot of expertise, that has done billions of dollars of transactions in the space.

So yeah, anyway buddy, I’ll stop there. I’ll stop rambling. But that’s really how I look at infill and how I look at it within our business today, how our investment philosophy has evolved, and really how infill has become a major component of our value-creation process.

Brian Spear: Yeah, beautiful stuff. Love every bit of it.

And we’ll tie it into the Sage evergreen principle that is control your own destiny, right?

When you’re allocating capital, whatever business you’re doing, whatever entrepreneurship venture you’re doing, ours is real estate, obviously. When we’re allocating capital and buying deals, we want to have our hands on the wheel. We want to make sure that we can control the outcome.

We don’t want to have the outcome be completely dependent upon Mr. Market, right? People—it’s just this whimsical, volatile Mr. Market that comes in every day and bids up prices manically and then ultimately gets depressed and drives prices down. That’s not the area in which we want to play.

We want to be very intentional about creating our own destiny, creating our own luck, and controlling the upside ourselves by implementing what we consider our three-lever framework.

We’ve always historically considered it three levers, with the low-hanging fruit, mid-grade fruit, high-hanging fruit of below-market rents, i.e. recapturing the loss to lease. That’s the low-hanging fruit.

Mid-grade fruit is operational inefficiency, billing back for water, sewer, trash, all those things. And then the infill being the high-hanging fruit, the more difficult upside to achieve.

Historically, we’d kind of call that icing on the cake. Now, over the last 10 years, that’s kind of evolved. Maybe walk through how that has evolved, your thoughts on the position of having infill be icing on the cake compared to it being a piece of our strategy as we roll forward.

Kevin Bupp: There’s things that we can have absolute control over, infill being one of them, loss-to-lease recapture being another, operational inefficiencies being another, right? So all the different tiers of the tree that you just mentioned there.

But then there’s the other bucket. It’s like things that we can kind of have an opinion about, but we can’t necessarily control, right? It’s out of our control.

So again, we can do better collections. We can have our operations team do a much better job than maybe what the legacy operator had done with running the property. We can put a full-force sales and leasing team in place. We can do all those things and we can execute on that, and we can absolutely control all those variables there.

But the things that we have no control over, right? You say it all the time: our crystal ball, it’s broken. Unfortunately, we can’t find a shop to fix it, right?

So we can’t control things like interest rates, cap rates, again, all those variables.

We do our best. We rely upon experts to give us insight and advice on it. But we basically have to use our 10, 15 years of experience doing this within this industry, and we’ve got to make educated assumptions.

We’ve done a lot of deals now, so that obviously gets easier and easier every deal that we do. But ultimately, the market really ends up deciding on what happens in that particular bucket.

So we’ve always been very conservative in nature of how we underwrite things, maybe sometimes to our detriment. But we like to be safe. We like to sleep at night. We like to know that our investors, their capital is protected.

And so we’ve always underwritten the things that are outside of our control—again, interest rates, cap rates, things like that—on a very conservative basis.

But there’s something else that we’ve, I think, learned quite a bit over time, is that just because something is absolutely within our control doesn’t mean that it’s going to happen automatically.

I think just looking back and looking at broker OMs and models—and this isn’t to throw brokers under the bus—but you get an OM and essentially there’s 100 vacant lots.

“Well, we can put 100 homes in there in a period of three years, get up to 100% occupancy.” All great in an Excel model. You can make those assumptions. You can do your best to roll with that.

But ultimately, there’s some of that that’s outside of your control. And so you need an actual machine behind it to make it happen. It doesn’t happen magically overnight.

And so I think that’s really where we’ve evolved, which I’m really, really proud of: just the team that we built.

And I know that we’ll probably talk about that here in a little bit, but just the team and the systems and all the different processes that we put in place that create accountability within the organization and allow us to be able to control what we can control, and then make really good educated assumptions based on our time in the business, the time that we’ve been doing this, on the things that we can’t control.

And I think we’ve done a pretty good job up to this point in time.

Brian Spear: I agree. I agree. Well stated, and I couldn’t agree more.

So maybe my two cents on the three-level framework and how things have evolved over time, right?

Back to the old Benjamin Franklin process of knowledge compounds exceptionally well, and an investment in knowledge pays the best interest.

Well, after you do this 10, 15 years, right, you have much better underlying data and experience, the scar tissue to prove it.

Back in the day when we were getting involved, below-market rents and loss-to-lease recapture, very simple to understand. Operational inefficiency, again, very simple to understand.

But the infill, there was always a variable and uncertainty associated with it, because the truth is you do not know the absorption rate of those home sales that you bring into that community until you’ve actually operated there.

Of course, you’re going to have some assumptions, but you don’t actually know until you’ve actually operated in that MSA for a period of time, multiple quarters.

Now we’re so fortunate. You’ve got 15 years in the business. We’ve been in 20 different states doing this. We’ve got a heck of a lot more scar tissue, a heck of a lot more underlying knowledge.

So it’s become much more of an instrumental piece of what we do. We already know what the absorption rate is going to be. That’s a material difference and a key advantage that I would say over time, that knowledge compounds to further drive the returns.

From that point, it just becomes the score takes care of itself. It’s focusing on running the business model, the old Bill Walsh adage of the score takes care of itself.

Focus on the playing field. Focus on running the business model. Don’t worry about what Mr. Market is doing over here. Just continue to grow cash flows, continue to grow that.

And overall, the valuation will eventually, over the long term, trend towards what the intrinsic value of the asset is, right? That price that the market is willing to pay will eventually trend towards the intrinsic value of the asset.

Kevin Bupp: So to that point, even speaking of the market, right? If we know that we feel very confident, again, based on our expertise and on our time within a respective market, we’ve got intimate knowledge there, we’ve owned communities there.

We can look at occupancy rates of other competing communities. We can see that the data would suggest that the absorption should be incredibly high. The demand for the product is there. There’s a massive lack of affordable housing available.

And so one could magically say that we bring in 100 units and we’re going to absorb them overnight.

But I think what we’ve learned as well is that it doesn’t just magically happen. And that’s why it’s a high-hanging fruit, right? It’s capital intensive, it’s team intensive, lots of resources that it takes to actually execute with precision with the infill side.

And so again, I think how we’ve evolved now, we’ve got this amazing team that has infilled tens of thousands of lots now across the country, over multiple billions of dollars of manufactured housing communities.

And the team’s there now, and now we’ve got every piece of the puzzle in place in order to do this at a very large scale. Again, with much more precision than maybe what it would have looked like 10, 15 years ago when we were just getting into the business.

Brian Spear: For the listener here, for you, the listener as an investor, maybe when you’re evaluating an investment, just ask yourself how much of the projected return comes from something that the operator can actually control and how much requires Mr. Market to cooperate.

Think about that as you progress on the next investment.

And I think getting clearer about where we want that return to come from has also made it much easier for us in our acquisitions process to recognize when a deal no longer deserves our capital.

So Kev, let’s kind of talk about Houston, some deals that we’ve recently had come through the pipeline.

Let’s talk about a Houston transaction, because this was a deal that we genuinely liked, extremely excited about, but we ended up killing it. That’s the punchline.

Let’s talk about what made it attractive and what changed once we got deeper in due diligence.

Kevin Bupp: Yeah, Houston’s a painful one.

One of my original mentors when I got into this business, probably one of the first things he taught me is, never fall in love with a deal. Never get emotionally attached, because there will be another one around the corner.

And so I think Houston probably plays to that quite well. And I loved this deal.

It’s a surface parking lot. I mean, literally, the location was phenomenal, just a couple blocks away from the Ashworth Stadium there in downtown Houston. There were a number of other transit demand drivers as well.

So, I mean, it really checked all of our boxes for us. Again, the location, top tier. We always talk about the parking stuff. It’s irreplaceable real estate. This was absolutely just that.

And so it was a painful one to walk away from.

But even though we were buying it at what I felt was an incredibly attractive basis, there was lots of—it was a legacy owner that had owned it for many, many years.

There was lots of what we identified to be operational inefficiencies that existed, which again is pretty commonplace with a legacy type of owner. They just really took their foot off the gas.

They had a management team in place, but they really took their foot off the gas and they had a very low basis in it. So maybe an extra $100,000 a year wasn’t going to change their life at all. And so they just kind of let it be status quo.

But again, we were super excited. We dug into this thing, had a lot of team energy and resources put into it.

But ultimately, we got to the point in this particular deal in our due diligence where we always get Phase I environmental inspections done. Every single deal we do, whether it’s required by a lender or not, we’re always doing that.

Because you could see everything that you can see above ground, right? Above ground is pretty easy, but sometimes you just don’t know what’s lurking beneath the surface here.

And so in this particular deal, once we got into the Phase I, we learned that there had been a service station of sorts many, many decades ago, I believe. It had been there, torn down, and now this is just a surface asphalt parking lot.

But as you can imagine, there’s now a risk of some type of contamination in the ground.

And ultimately, what we found was there was contamination in the ground and the remediation efforts to get that resolved would have been multiple six figures, potentially even into the million-dollar range.

And so, here’s the thing. I think this is the most painful part of this equation with the Houston deal for me, Brian.

I do get emotionally attached, but I don’t get too attached. I can cut the cord pretty quickly, but it is still painful. It still hurts as much. It’s just like a breakup, right?

But the problem in this one, it was very solvable, right? I mean, it was solvable with money. Money would have solved that problem. There was a process in place to remediate the contamination.

But as you can imagine, the economics now change. If we’re going to have to spend $400,000, $500,000, $600,000, maybe a million dollars, then now the returns look significantly different than what they did going into the deal.

And so with this one, a lot of times you have cooperative sellers. We’ve been on both sides of the table. I feel like I’m a very good buyer and I’m a very good seller. I’m understanding of all the situations that pop up, all the unexpecteds, and I try to make myself an easy person to work with on both sides of the table.

But this seller had a different, maybe, objective here, a different plan, in that basically we went back to him, looked for a conversation on a price reduction, something that would allow us to change the economics of the deal, make it still work for us.

And ultimately he said, “Take it or leave it.”

I mean, it was simple. He was very black and white about it.

Even after we’d spent multiple months getting this under contract, legal expenses, what have you, it was take it or leave it.

So at the end of it all, another piece of the painful pie here is we had racked up roughly $50,000 to $60,000 in pursuit costs, lots of deal time. You can’t even put a price tag on the amount of time that our team spent working on this deal.

But at the end of the day, the right decision was to walk away, right?

We can’t remanufacture the deal because the economics had significantly changed. There was no way to get it back to home base. There was no way to get it back to the baseline of how we were originally looking at it.

So again, disappointing, man. That one hurt a little bit.

But as I said at the beginning here, there’s always another deal around the corner, right?

The lesson to be learned here is don’t get too emotionally attached, because ultimately what occurred is, almost toward the tail end of this thing kind of falling apart, we had another opportunity pop up literally right around the corner. Equally as good of an opportunity. In fact, probably even a better opportunity as far as our basis going in.

A similar-size parking lot in the same downtown Houston submarket.

So again, just always know that there’s something coming around the corner, and you’ve got to be willing to walk away, cut ties.

And if it’s meant to be, just like maybe a relationship, if you separate ways, it’s meant to be, you guys will get back together after college or later on in life. Time will tell.

Brian Spear: It’s fate.

Kevin Bupp: Oh, it’s fate.

Brian Spear: Oh, it’s beautiful. That’s hilarious.

And it comes back down to one of the fundamentals of investment, right? Price, the difference between price and value.

Price is what you pay. Value is what you get.

And real estate, it’s all about making money on the buy. You’ve got to make sure that you’re going with a solid basis on the acquisition. It’s a huge piece of what we do.

And these are all wonderful businesses. These are great businesses. Wonderful location, location, location. They are good properties, good businesses, good things.

But success does not come from buying good things, but from buying things well, and being very intentional about having a really high-quality basis at the outset. It’s a very important piece, obviously, of what we do.

And from my perspective, a lot of this conversation revolves around one of the Sage evergreen principles that we have, which is invert before investing.

You and I were both extremely excited about that particular deal once we got it under contract.

But as you know, the minute we get the deal under contract, that is the moment the mindset shifts away from chasing the deal, trying to get it, trying to lock it up, trying to go ahead and buy it.

The minute we get it under contract, the mindset shifts and it goes: tell me every reason that we should kill this deal.

Because we’re inverting before we’re investing.

We’re focusing on first protecting the downside, i.e., tell me every single reason why this deal is going to lose all of our money. And we’re going to mitigate all those risks.

We invert before investing. We focus first on return of investment before we ever even contemplate return on investment.

And when you think through that lens, it makes it a little bit easier when these unfortunate circumstances arise during the due diligence period.

It’s not perfect, but maybe contemplate and talk a little bit more about the difficulty associated with walking away from, again, tens of thousands of dollars in pursuit costs—$50,000, $60,000 in pursuit costs—plus all the time, energy, effort from the team, and how that plays into the logic of choosing whether or not you want to spend millions of dollars more to take down that particular transaction.

Kevin Bupp: At the end of the day, that $60,000, talking to the Houston deal, the $60,000 is gone whether we buy the property or not, right? It’s already money spent.

So I don’t think it’s whether or not we’re willing to lose $60,000. It’s like, knowing now what we know today after investing $60,000—not spending, but investing $60,000—knowing what we know today, are we now willing to invest another million dollars, assuming that the remediation efforts were going to be a million dollars, into the basis of this asset?

And it was a very clear black-and-white no.

It just doesn’t work any longer, right? That million dollars was basically a good chunk of our upside from us pulling the other levers, the inefficiencies of operations and adjusting pricing and things like that.

So that’s the big question.

I like to think of the pursuit cost—and this one might be a little different because, like I said, you can’t see things below the ground—but at the end of the day, my good friend Rod Cleave, he always says it’s a seminar, right?

The $60,000 we spend, it’s a seminar, right? It’s like tuition to a seminar.

Hopefully we’ve taken a lesson away from this. We’ve learned something.

And I think that how I look at this is, again, we invested $60,000 in this instance to potentially save us from maybe north of a seven-figure problem or mistake that we would have made if we had continued to buy at the price.

We had gotten so emotionally attached to it, and we still would have decided, hey, we’ve adjusted some things on the underlying model, and we can still make sense of it.

That would have been a huge mistake, and ultimately it would have cost us a million-plus dollars, not just the $60,000.

So I think, at the end of the day, it’s a pretty good tradeoff.

Brian Spear: Maybe we give an example of when folks choose to make a different decision.

Been a lot of deals in the last handful of years that, unfortunately, during that crazy interest-rate environment, the mechanics of a deal change over the course of 30, 60, 90 days while you’re under contract in a long due-diligence period, specifically on a portfolio.

By way of example, we know of a sponsor that happened to have a deal under contract of a portfolio of assets during the massive interest-rate run-up.

Multiple tens of millions of dollars property, very expensive, individual deal-specific syndication, bringing the capital in on that individual transaction, promising XYZ returns to partners along the way.

And during due diligence, the financing terms change dramatically. And the returns that you’re likely to be able to provide back to the LPs at the end of the day change dramatically.

And you’ve already raised all the money. You already have dumped in all the pursuit costs along the way.

With that fork in the road, do you choose to cut bait, walk away from the transaction, or do you choose to buy that respective transaction?

We’ve seen several different unfortunate occasions where syndicators have chosen to move forward anyway, regardless.

And now we look back years later and see the unfortunate ramifications of making such imprudent decisions: paused distributions, capital calls, sometimes folks just hoping to get their capital back out of those respective transactions.

So in any event, again, please be mindful about it. Go ahead.

Kevin Bupp: Yeah, and I think it just comes down to, do you want to build a durable business or are you just in it for the short term, right?

And so the sponsors that made the decision to still buy a deal, even though it had dramatically changed given the rising interest-rate environment, it was very shortsighted, right?

Because, again, you’ve mentioned on many occasions, it takes a lifetime to build a reputation, but literally one instance to wreck it entirely.

And so the shortsighted folks still thought that magically the market would change and it would still work to their favor years down the road.

And they chose to do those deals that no longer worked in their underwriting model, right?

But a lot of those investors, they’re not around anymore, right? So they took the short-term approach and ultimately weren’t really focused on building a durable business.

And it’s painful to walk away. You’re talking, like, giving the example you gave, if it’s hundreds of thousands of dollars that probably that sponsor had tied up with their own money in the deal—probably earnest money they weren’t going to get back—I mean, that is life-changing for them individually.

But you can still come back from that.

What’s more difficult to come back from is your reputation, the reputational damage that you do when you lose not just your own money, but millions upon millions of dollars of investor capital.

It’s very difficult to ever come back from that.

Brian Spear: We share the sentiment. Doing what’s in the best interest of investors over the long term is always the prudent decision.

We just kind of talked about the Houston deal. That was wonderful. That’s kind of one kind of problem that pops up during due diligence.

Okay, well, let’s talk about another style of problem that kind of pops up during the due diligence phase.

We had a large Midwest portfolio that presented us with a separate kind of problem. Nothing was necessarily “wrong,” quote unquote, wrong with this opportunity, but the facts changed throughout the course of our due diligence.

So let’s talk about this one. What did getting on site during due diligence reveal that the original underwriting couldn’t reveal?

Kevin Bupp: I’ll give a little bit of a background on this one.

Ultimately, we didn’t end up getting it. We were not fully in contract, so we didn’t have the same type of pursuit costs. We weren’t that deep enough into it like we were at the Houston deal.

But we had spent a lot of time on it. We got our team, we got them boots on the ground as we were negotiating and doing redlines in the PSA.

Because it was a large—it was 15-plus properties, really centralized within two respective markets, so pretty tight-knit and close together.

But I just know when there’s that many properties that obviously the unknowns are 15X now, right? It’s not just one property, it’s 15 properties.

And so I really wanted to get eyes and boots on the ground as fast as possible.

And so I think what I learned with this one, and you don’t know until you go, is that there’s only so much—this was represented by a great brokerage team, a known seller and a known operator in the space—but there’s only so much that a spreadsheet and even the third-party broker can give you, right?

They give you as much as they possibly can. They try to gather as much information as possible, but a lot of times they haven’t been boots on the ground.

Again, on paper, it looked great on paper. We were super excited about it.

I mean, it was more than a thousand sites. Phenomenal scale in two great markets, a lot of just really good geographic concentration, which would have been great on the operational front, just being able to literally build a team in place in these two respective markets.

So with this one, the big thing that changed was our CapEx assumptions.

And we went into it—we’ve got kind of a tiered system. We can look on Google Earth and see aerial views and get a general understanding of the condition and the age and the layout of the property, like what age are the homes in there.

And then we have a multi-tiered system on acquisitions where we allocate a certain amount of dollars per space for general CapEx going in.

So doing things like roads, trees, maybe if there’s any park-owned home renovations or demolitions that need to be done, major upgrades right out of the gate.

And on this one, we actually underwrote it at our top tier, meaning that a couple of these communities were older. You could tell there was some deferred maintenance from the street views on Google Earth.

And so I had a feeling that we just should go into this eyes wide open and underwrite it at our top tier, which I believe was $150 per space for general CapEx.

That equated to a couple million dollars, which is a fairly substantial amount of money for just doing those general improvements and upgrades.

But again, when we got boots on the ground, obviously the reality of it all was that it was a portfolio. Some of the properties were better than others and they were in great locations, but just a lot of deferred maintenance.

The list just kept growing.

The roads in most of the communities needed completely repaved. It wasn’t just little section repairs, and asphalt’s incredibly expensive.

Lots of tree work. Trees hadn’t been cut for, I don’t know, many, many years, maybe decades. So lots of dead trees and tree-limb removal, and trees can get incredibly expensive as well.

And then when you start looking at all those things, there’s some things that we couldn’t see with our eyes yet. We didn’t go that far into it, but electrical infrastructure and then water and sewer lines, drainage, things of that nature.

When you see the things that you can see and you see how much it’s deferred, you have to just make the assumption that the things underground probably also have quite a bit of deferred maintenance as well.

And so what we found when we got down to brass tacks with it all, we found that our CapEx budget, in reality, what it needed to be, was going to be about three to three and a half times what we had initially underwritten.

Again, as you can imagine, just like the Houston deal, the change of a million dollars changes the economics. On this deal, it was roughly $5 million additional.

And so there was just a major impact to the underwriting, to what we felt the performance would be, the returns would be on the property.

And so again, it was one of those things where we had the conversation with the seller.

I think he was very appreciative that we actually put money and time and effort and sent a team out there, even before we all got deep into legal and deep into due diligence, before we killed it.

But it was such a big delta from what we originally assumed to where we ended up that it wasn’t even like a retrade conversation.

And I’m not saying it’s completely off the table yet, but again, the deal changed in such a significant way that it just no longer—we didn’t feel comfortable at that point in time.

There were other pieces of that puzzle. I’ll stop there, Brian, if you’ve got any maybe clarifying questions, but there were other kind of ripple effects from what we found there that I felt as though might play out down the road as well.

Brian Spear: And it’s kind of unfortunate. I genuinely respect the seller of the portfolio. Obviously, wish him well and hope for the best for him and his family as we progress here.

But again, some additional potential ripple effects. If you see things above the ground early in due diligence, they’re oftentimes a sign of further things to come.

After having been in this business for upwards of a decade, seeing a lot of different things, very much like success leaves clues, these sorts of items that you find in due diligence early on, the surface-level, oftentimes have additional ancillary things happening under the surface that can significantly change the outcome of a respective investment.

So the thought process, of course, changed once we were under contract—well, not under contract, but in due diligence—on that particular portfolio.

But maybe riddle me this, Kevin: at what point do you stop asking, “Can we fix this?” And then start asking, “Even if we can fix this, is this the right use of our capital at the moment?”

Kevin Bupp: Yeah, no, it’s a great question.

I mean, obviously it takes a big allocation of resources and man-hours to take on a portfolio of this size, especially when each one of the properties is a big turnaround, and each one’s going to have the things we know, but each one’s also going to have the things that we don’t know that pop out, right?

The skeletons. Every property’s got a skeleton or two or three, maybe more. And now you’ve compounded that by 15X with a portfolio of this size.

Some of the ripple effects we’re talking about here that I felt as though would create challenges for the team and maybe even challenge some of the assumptions, even if we were to get a price discount, that would challenge some of the assumptions with this deal.

Again, after doing this now for 15 years, at least just in the mobile home park space and much longer than that outside, the quality of a community typically indicates, most of the time, the quality of the resident.

And if you’ve got residents that are willing to live in a community that’s got potholes everywhere and trees that are falling down or a danger of falling into their home and just, you know, it’s unkempt, right?

If you’ve got residents that are willing to deal with that and continue living there, then you probably don’t necessarily have the best resident base. I’m not going to say they’re bad residents. You just might not have the best resident base.

And so I know that some of the ripple effects that ultimately come from that is that you have to be able to understand and underwrite that you’re probably going to have maybe higher attrition.

Once we get in, start cleaning things up, enforcing rules, maybe doing some loss-to-lease recapture, we’re going to have a higher resident turnover. You’re going to have some attrition of the existing resident base that’s there.

And so if you look at it like—I’m just going to use some generalized numbers here—if this portfolio was 60% occupancy, we’ve got hundreds of lots to come in and infill, which was the case here.

You can’t assume that you’re going to stay at that 60% occupancy when you take it over.

You’re going to have to assume that it’s going to drop at some point in time, and we just don’t know how much it’s going to drop based on the quality of the resident base there.

Not only are you trying to infill those vacant lots, which we love, we love that piece of it, but you’re also going to have to play damage control on the other side, which again, it’s going to be an additional strain on the team and the resources, the managerial piece of it.

And also it’s going to have a material impact on our underwriting.

And those are some of the variables that you just don’t know, but you have to assume—not always the worst, per se—but again, we’ve been doing this long enough now.

I think we have a good gut check on what to expect and ultimately what turns out to be a reality. And they’re normally pretty similar in nature.

And then I think a couple things I’ll speak to this portfolio. There were a lot of sites to absorb. These were really good markets.

But when you’re doing that large of an infill, and these were about 400 sites of infill that we would have to do, and we had underwritten over seven years.

And I think seven years is fairly conservative. But again, if that falls off schedule, as you can imagine, the deal changes. It changes in a pretty dramatic manner.

And so if instead of it taking seven years, it takes 10 years or 11 years, then now the original underwriting really falls out of alignment from ultimately what the reality is.

So again, I think there was a lot of uncertainty that was a result of the ripple effects as we got in and saw the condition of these properties.

Again, I think to your original question as well was, even if we got a discount on the property, even if we underwrote it more conservatively, knowing the amount of—and I’m not saying we don’t want to do it or our team couldn’t do it—but if we allocate all those resources to this massive now turnaround, we thought it was going to be a medium turnaround. Now it’s a very high turnaround.

This is like major value-add.

What other deals might we potentially have to pass on or miss on because our team has allocated 70% of the resources or 60%, a large chunk of the resources, on this one respective deal?

So I think those are the questions that we’re asking ourselves internally.

And again, I don’t make the decision in a silo. Brian doesn’t either. We’ve got a brilliant team behind us. We’ve got a formal investment committee, many folks that have run multibillion-dollar businesses.

And so we bring these questions to the forefront and we have a conversation around it.

These are difficult decisions to make because some of these are just unknown variables. It’s very difficult to underwrite to that.

But ultimately, at the end of the day, we had decided, at least for the time being—and I’m not saying there wouldn’t be a day we wouldn’t do this deal—but in its current state, in its current structure, with the pricing and things like that, we felt as though it wasn’t the best use of our time or capital.

Brian Spear: What we’re really talking about is what is the return on invested capital? And there’s only a handful of ways you can choose to allocate capital.

I’ll zoom back out for a minute, for the betterment of the listener, in the interest of no man left behind.

The job of a CEO is twofold. The job of a CEO is twofold.

One, no matter what kind of business that you’re operating, you should be trying to drive cash flow from that business. I don’t care if you’re selling trinkets or running real estate. It doesn’t matter. Your job is to drive cash flow, improve operations to drive cash flow.

But the second job, which is the job that is often overlooked, and dare I say it’s even more important than the first job, is to allocate that capital most efficiently.

What do you do with the capital once you create it? Once you get the cash, what do you do with it?

There’s five things that you could do with that cash.

One, you can reinvest it into existing operations, which is kind of what we’re talking about here. Reinvest it into the property, capital expenditures. Is that a good return on invested capital?

Two, you can acquire other businesses, go buy other properties.

Three, you could pay out distributions to partners.

Four, you could pay down debt. Is that the best return on invested capital?

Or five, you can repurchase company stock, right? That is also another option. Publicly traded markets, you could buy back stock, and private investments, if folks want to sell their shares, redeem shares, et cetera.

But those are the only five things that you can do with the cash, okay, in terms of capital allocation.

And your job as a CEO is to find out what is the best return on invested capital. It’s a huge piece of what we do.

And when you’re contemplating that massive, heavy, deep value-add opportunistic infill, you start to contemplate, is there a better use of the cash?

And that’s ultimately what we chose to pursue there, right? Anything that you’d want to say on that?

Kevin Bupp: Yeah, and I was going to say, even using an example of a recent deal that we acquired, Brian, Ponderosa. It’s up in Dublin, Ohio, which is a phenomenal submarket of Columbus.

Really clean deal. Only, I think, two or three vacant lots in the community, but a massive loss-to-lease recapture.

And so it’s a much cleaner deal than this portfolio we’re talking about.

When we give the tiers of the value-add component, the low-level tier, the low-hanging fruit, is loss-to-lease recapture. It’s pretty straightforward and easy.

And so I guess it brings the question up to us internally when we’re having these conversations around, should we do the deal or should we not do it?

If we put the same dollar amount that we’re going to put in this portfolio and we put it into a cleaner opportunity, one that was just more straight down the fairway, the upside is way more controllable, not as many variables, definitely not as many skeletons, less friction on the team, less drain on resources, and can get compensated in a similar way, then I would say that’s a better use of capital than putting it into one that’s got a lot of uncontrolled variables in place.

So again, I think fixable doesn’t mean that you should always invest in it. Just because it’s fixable doesn’t mean that you should always put your money into it.

Brian Spear: Correct. We’re talking about risk-adjusted returns and the assurance of outcome, highest level of assurance of outcome possible.

So I’m reminded of the analogy that we often use of the tub, right?

When we’re trying to fill up a property and increase profitability, the analogy is a tub, right?

We’re trying to infill lots, bring in more units, bring in more revenue. That’s like turning on the faucet. You’ve got more water in the tub. That’s good.

But hey, if you don’t plug the drain and all of it’s going out the back door, I mean, you’re not making a lot of progress along the way.

So you’ve got to find a way to manage both of those.

The discipline that we’re talking about, about capital allocation, buying right, managing assets prudently, that discipline shouldn’t disappear once you actually own the property, once you are holding it, once you’re operating it live.

How do you think about an asset that is not necessarily bad, but it may no longer fit the portfolio as well as it once did?

Kevin Bupp: Our investment philosophy is buy for the long term, right?

When we look at assets, we look at it as though we want to own it forever, right? It’s a very long time horizon.

So we’re very intentional and disciplined about what we buy and what makes it into the portfolio.

But that doesn’t mean that everything that’s in there we’re going to hold forever, right? Things change.

And so I just think that you always need to, whatever occurrence, but you need to go back and underwrite your existing portfolio.

You need to look at it as if, would you buy that again today? Would you buy that same property again today, right?

Your markets change. Your regulations change. There’s lots of things that can come about that are very different today than maybe five, six, seven years ago when you bought a property.

I think maybe using New York as an example, that’s a good one.

We used to own in New York many, many years back, and we had some great properties there, gorgeous properties. We had a business plan set forth, and we had owned them for a couple of years, and we were working our way through the business plan.

And ultimately, regulation changed related to rent control.

And so statewide rent control got put in place for manufactured housing.

And so ultimately, as you can imagine, there were caps on rents and things like that that ultimately impacted our business plan, our ability to actually execute on that business plan.

So number one, first and foremost there, we knew immediately, we’re not going to buy anything else here. It just doesn’t make sense.

New York was already enough of a difficult state to operate a business in. But now you’ve got these rent caps in place. It just really thwarted our ability to actually execute on a business plan and create a phenomenal place for our residents to live.

And so for that reason, we knew we weren’t going to buy anymore.

But number two, it now prohibited us from finalizing our business plan in those properties.

And so for that reason, our decision was to actually exit out, get out of that market and sell them.

Again, not because it was a bad investment, but because the regulatory environment ultimately changed and now was impeding our ability to actually execute on the plan that we had set forth.

And again, another reason why we decided not to buy there and just get out of that market entirely, or get out of the state entirely.

So again, I think just in a broad sense, it’s going back to looking at your portfolio today.

For us, do you own a property? We own some properties that maybe are smaller in size and we weren’t able to build a footprint around them.

Maybe originally we bought it, we thought we’d get some scale in that marketplace. We haven’t been able to do that.

And so now, are there operational inefficiencies that exist now that we have this smaller-scale property that’s now four hours away from our other closest property in the portfolio?

So now, for that reason, we’ve got additional expenses on the operational front.

And so does that justify selling that property?

Would we buy it again today, right?

Ask yourself the question: would you buy it again? Would you buy that same property again today, knowing what you know now?

And if the answer is no, then I think that justifies at least a conversation to potentially exit out or dispose of that property and reallocate those funds into another property that is a better fit and better suited for your current investment philosophy today.

Brian Spear: So for maybe you out there listening to this as a listener, if you have no history with a property, something that you’ve already invested in, think about if you had no history with that particular investment that you’ve made, no sunk cost, no attachment, would you still choose to own that respective investment today?

Think through that on your portfolio.

And then, of course, saying yes to the right deal, actually buying it, creates a different responsibility for you as an operator.

We then actually have to deliver the strategy once we underwrite it and close that respective transaction.

So you and I both remember starting this thing with a fold-out table and a couple of pull-out foldable chairs back in the day, wearing a lot of different hats, right?

How has our thinking about talent, onboarding talent in the team, kind of changed as the strategy has become more specialized over time?

Kevin Bupp: Yeah, that’s funny.

We had some fond memories of—it was hard to be on a phone call at the same time because we were literally sharing a wall, right? We’d have to time our phone calls so we wouldn’t interrupt one another.

But no, I mean, it all changed dramatically.

We just had to be, I guess, more generalist in nature. I mean, there was nobody else. It was just you and me.

I found the deal. I underwrote it, negotiated it. You raised the capital, you managed all the investor relations, and then ultimately you also got pulled into whatever chaos or problems showed up after the fact as far as operations are concerned.

I mean, it was a two-man band trying to go on tour and build a thriving band that ultimately just had two players. And we knew we needed more instruments and more harmony in the equation.

Again, from the books I’ve read, it seems that’s how a lot of organizations get their start, right? Just scrappy and nimble and doing their thing.

And I like to think that we’re still that way today. We’re just a little bit more refined, right? We’re refined in how we do things. We’ve got a brilliant team behind us.

But as far as the people itself, I think that we’ve been, over the years, just gotten a lot more intentional about trying to build processes, right?

You can’t scale a company or build a big organization or a successful organization without systems and processes and the right people that are accountable for them.

And so I’ll speak to the acquisition side because that’s the house I live in the most, right?

You’ve got deal leads. You’ve got analysts that are underwriting deals. You’ve got transaction coordinators, CapEx expertise to help us underwrite the budgets there.

And then we’ve got the investment committee, right?

We’ve got multiple people that are helping us make more educated decisions and do it at a larger scale to where we’re at today.

That wasn’t maybe necessary back when it was just you and I doing a couple deals here and there, but it absolutely is today.

So again, I think we’ve been just intentional about getting the right butts in the right seats, getting A players, bringing the A players on and letting them just do their thing.

They’ve done it many times over again. They’ve scaled large, large organizations. They’re smarter than us, right?

Bring smarter folks in that are smarter than you and I collectively to help us drive and grow the organization.

Not that we didn’t think that way back then. We didn’t have the ability to start down that path, right?

We chipped away slowly, month after month, year after year.

But looking back, what we’ve been able to build is quite incredible, my friend.

Brian Spear: I share the sentiment, man. I look back and I pinch myself. I pinch myself today.

It’s amazing because I know that we’ve got so much more to do. I’m chasing the horizon. We’ll never get there.

But if you look back to what we were doing 10 years ago, 15 years ago, it’s uncanny to see the progress that we’ve made.

It’s truly wonderful.

And the team that we’ve built, honestly, I feel blessed to be able to do what we do every day. It doesn’t feel like work to me.

But I think that, from my take on the people on the team, it’s all about the culture. It’s very important to try to craft the best culture possible.

But in terms of the talent specialization, right? When we were getting started, the small group of people at the outset, there were more generalists, extremely skilled in a lot of areas.

And you had to be nimble because everybody in the whole house is wearing a heck of a lot of hats. So you’ve got Renaissance men and women inside of the organization, wearing a lot of hats, getting a lot of things done.

That’s beautiful. More entrepreneurial skill sets. It’s absolutely wonderful to try to get up and running.

And now as you progress, you have the luxury, given the size that we are at, to onboard much more specialized knowledge.

I’ll give you an example of talking about even the C-suite and even the second-tier management.

We just hired a second in command on the operations side of the house with 20 years of experience in institutional multifamily.

That, as Benjamin Franklin would say, is an investment in knowledge. And an investment in knowledge pays the best interest.

That guy that comes in, I don’t want him to assimilate here. I want him to come in and take 20 years of best-in-class institutional knowledge from other shops and continue to iterate and improve what we’re doing.

Could we have been able to do that a decade ago? Maybe.

But that investment that we would have otherwise been making would have been massive compared to the size and scale of our shop. So we would have been unprofitable. It would have been a very difficult endeavor.

And now, having slow, steady growth over the course of a decade, being very prudent to reinvest in our people, reinvest in the ship, in the business, in the operation, to continue to grow it.

We’re now in this wonderful situation that’s creating a flywheel where, again, an additional investment in knowledge to continue to iterate and improve what we’re doing, it will pay the best interest.

We’ve seen it play out over the course of the last decade, and we hope and aspire to have that continue to play out as we progress.

Any color on that, bud?

Kevin Bupp: Yeah, no. I mean, I think you hit the nail on the head.

The people are the power in the business, right?

Bringing the right people and the right A players really would have allowed us to grow and scale and build the organization as it sits today.

Without that talent, it wouldn’t have been possible.

Again, to your point, we could have done it. We attempted to do it many moons back.

But there’s a couple of things there. It wasn’t just a money thing either, right?

We were a new organization. So it’s even more difficult when you’re a brand-new organization.

You’ve got a little bit of a reputation, but not enough necessarily to attract the—using the example of our VP of operations—someone that’s got 20 years of institutional multifamily experience.

Being able to attract them to coming to the office, Brian and I are sitting there doing everything. If we would have paid him an above-average salary, he might not have had an interest in coming on board.

And so again, it’s been a slow, steady trod forward, trying to get better day in, day out.

Compounding the reputation that we’ve built, continuing to scale the portfolio.

That’s allowed us to attract the right players to the team that have allowed us to get to where we’re at today and will help us get to where we have our goals set for three, five, seven, 10 years down the road.

But it’s really all about the team. It’s all about the team.

Brian Spear: I’d love to ask you this one.

We always kind of round out with some Sage investment advice, but I’d love to skew it specific for your knowledge and experience in acquisitions.

So if somebody could only remember one lesson, one piece of Sage investment advice from all of your experience in acquisitions, what should it be?

Kevin Bupp: It’s pretty simple.

Never, never fall in love with the deal.

If you’re out there hunting and you’re being diligent about sourcing opportunities, there’ll be another deal around the corner.

So just, I guess, if you’re going to fall in love with anything, fall in love with the discipline around finding the right deal.

Be very clear with what you’re seeking, what’s a good fit for your buy box, your investment philosophy, the business you want to grow.

And so fall in love with the discipline behind it, not necessarily the deal itself.

Because, again, you can lie to yourself. You can trick yourself into loving any deal, especially if you read all the broker OMs. Every broker OM that goes out, every deal is a great deal, right?

And so you could very easily fall in love with it in that context.

And I think that—and I’ll maybe elaborate on that a little bit because I know that sounds simple in nature—but really, we spend months chasing deals, put a lot of energy and effort into them.

Again, we spoke to the portfolio and the Houston deal, and we spend money on these things, and we start envisioning what it’s going to look like in the portfolio and the cash flow it’s going to throw off.

And we get everyone else—you’ve got to get the team excited around it as well. So we get everyone all pumped up.

And so we all want to win.

And so it just becomes even more difficult to walk away when that time comes.

And so just know that. Trust the facts. Trust what you’ve uncovered.

Your gut has a lot to play there as well. You’ll gain knowledge as you look at a lot of deals. You’ll gain institutional knowledge there.

But your gut is not something to ignore either, right?

If your gut’s telling you something, you’ve got to listen to it.

It’s not necessarily always correct, but I would say that the majority of the time it absolutely is.

And so you take that all into consideration when you’re making a decision.

Just know, again, if you get out there and hunt again, there’s always going to be another deal around the corner.

That’s why—that’s it, man.

Because if you do, as you know, Brian, if you stay disciplined, you do good deals, you can be a sustainable and durable business that will be around, that will outlive you decades and outlive you and get passed on to your kids.

But if you trick yourself into buying bad deals, poor deals, and you don’t stay disciplined to your craft, then ultimately one bad deal can wreck you for an eternity, depending on the size of it, right?

It can absolutely crush you.

And we’ve seen that happen many times.

Again, folks get into real estate: “I’m going to be a real estate investor.”

And they chase a deal. They do a bad deal. And ultimately they’re out of business before they ever really even got started.

So I would say that’s probably the biggest lesson that I’ve ever learned, my friend.

Hopefully that’s helpful.

Brian Spear: No, wonderful, wonderful stuff. Commentary on how to turn your business into an enduring great company.

Love every bit of it, and we’ll leave it at that.

With that, we’ll get the heck out of here, guys. Until next time, you be great.

[Transcript ends]