After becoming a millionaire and then losing more than he had, Jake Harris slowly built his portfolio and career back up by mastering the trade and art of investing in distressed commercial real estate.
In his new book, Catching Knives: A Guide to Investing in Distressed Commercial Real Estate, Jake demystifies this specialized market and teaches readers all the ways to buy low and sell them higher.
He shares much of that advice with us in today’s episode, helping readers figure out how to catch falling knives without getting cut.
Jane Borden: Hi Author Hour listeners, I’m Jane Borden and I’m here today with Jake Harris, Author of Catching Knives: A Guide to Investing in Distressed Commercial Real Estate. Jake, thank you so much for being with us today.
Jake Harris: It’s fantastic, I really appreciate the opportunity to spend some time with you.
Jane Borden: Well, I’m excited to get into some of the nitty-gritty of all of the good advice in your book but first, can you tell our listeners just a bit about who you are and how this book came to be?
Jake Harris: I guess this is a little bit of a lifelong synopsis of the last 20 years of investing. The book really starts out how I experienced my own distress in the subprime meltdown–the housing collapse in 2007/2008.
I was sitting on a street corner up in front of a house in Tucson and I remember I was just kind of broken, you know? It was the stress of dealing with all of these things and foreclosures and I had a portfolio, which in the book, kind of dives into how I became a millionaire before 30 and achieved this, in my mind, this monumental kind of achievement. Then here I am losing it all and sitting on that street corner crying and just praying to be worth no money, to go back to zero because of the way this portfolio had eroded and I owed a lot more money.
That’s the start of this book but that is also my journey into distressed investing. On the flip side of that coin going from wishing and praying to be worth no money, to then rebuilding and making mistakes and over the last 12, 13 years of investing into distressed real estate, I’ve learned some things, made a lot of mistakes, continued to learn things every single day, and this is an opportunity for me to throw down the rope to a couple of other people to hopefully allow them to avoid some of those mistakes. They don’t have to reinvent the wheel, so to speak.
Jane Borden: I love that. Tell our listeners, what is distressed real estate?
Jake Harris: Distressed real estate, the topic of this book dives into that. That can be a macro event. Here we’re living one right now. We’re on the, hopefully, tail end of a pandemic, getting back to a little bit of normalcy but there’s something that has significantly happened that causes a disruption in the normal kind of economic cycles, so you have distress.
For instance, hotels are underperforming, restaurants are struggling to keep their doors open because of lockdowns and other things like that. That is causing macro-level distress in real estate, so that also represents an opportunity to sometimes buy these at a discount.
Obviously, there are micro-level events. A lot of people are aware of Detroit and what happened with the auto industry and how the declining factories and the transitioning of that entire region caused distress and properties to go on sale for significant discounts.
Then there’s also down to the very almost nano is people are in individual circumstances in which they’re personally distressed. That can be from divorce or medical conditions or whatever reason that people are going through foreclosures or unable to pay their bills.
This book focused on some of the fundamentals of those macro-levels, but they’re going to apply in every single aspect. The reason that I focused on the macro-levels of this is you have a lot more properties being distressed or in trouble during these large-scale events and it is the best time to get into commercial real estate since there is an abundance of properties. It also causes some fear, and people to pull back from those markets.
When you can buy things at a discount to their intrinsic value, call it less than the sticks and bricks value of a building, you have a little bit more margin for safety, room for error, you can screw up and still make money. So, that’s why I believe it is contrarian but also the best time to actually enter into investing in real estate.
Jane Borden: You say though that recession investing requires patience, tell us why?
Jake Harris: It’s a combination of things. You have to start preparing for a recession before that happens. You have to prepare for evaluating properties, figuring out valuations. There’s, like I said, in these macro-events, there are sometimes a whole lot of deals that are presented to you and maybe not all of them are good deals. So, you have to be able to develop a system that allows you to say “no” quickly so that you’re not chasing down rabbit holes.
Then also, that patience allows you to then jump on the opportunities that do hit and key off of the main factors that you’re looking for in an investment. It is, obviously, depending on when somebody hears this or when they’re reading the book, maybe the economy’s doing really fantastic and distressed is not the time for them but there are things that you can start developing in your systems.
Where Do You Want to Go?
Jane Borden: Okay, let’s hear some of those.
Jake Harris: I’ve been a real estate professional, solely depending on my investment savvy or mistakes, for 20 years. I‘m still learning stuff every single day. I went to school, and I have a master’s degree in international real estate finance and I’m still learning stuff.
I feel like 20 years into this, I’m discovering all kinds of things. There are just so many facets to real estate as a whole. Some of those opportunities are you don’t have to do everything yourself. Myself being 20 years in and having a broker’s license and a master’s degree or a graduate degree in real estate, I don’t know all these things, and I hire people out.
The reality is that real estate is a team sport. You’re going to have attorneys involved and inspectors and contractors, people that finance it, capital markets teams. Those are some of the things that you could start preparing for now, figuring out where those relationships are, brokers that can maybe bring you deals. Also, networking opportunities because as you start becoming more known to the people in these networks, you also will find that there’s an opportunity presented to you, the more specific of a deal you’re looking for.
I’d actually like to even take a step back on that, and really what I started with in this book and what most people want to jump in to, “Where do I get those good deals, how do I start making offers, how do I do this?” What I found is, a lot of people that are starting out into commercial real estate investing or especially into distressed like I said earlier, are chasing down too many rabbit holes and they just don’t know where to start.
I believe you need to start with the finish in mind, not just from a property perspective of what you’re trying to achieve out of this. I actually dive into a little bit of some levels of financial freedom. What are you trying to achieve out of this investment, what is your “why”?
I’ll give you a little bit of a story, there was a guy that I know and he told his coach, “I want to make two million dollars a year,” and his coach said, “Well wow, that’s fantastic.” He said, “Well why do you want to make two million dollars a year?” “Well, because, it sounds like a lot of money and I’ll be able to live my dream life if I’m making two million dollars a year.”
The coach said, “Okay, let’s go through this exercise.” I’ve actually laid this out a little bit in the book to break down What your dream life would actually cost. Have you quantified that? Have you written down a list of all the things that you want in life? Do you want to own a villa in Italy, do you want to give a million dollars away to a charity or your church in one big check? That Publisher Clearing House thing–not a lot of people know about Publisher Clearing House giving away big checks but maybe that’s what you want to do, you have a vision of that in your life that you want to give that away.
You could start defining, “This is what I want in my life.” That individual he went through and he broke that down. Well, maybe he wants to have a villa in Italy, and he decided, “I don’t actually want to own a villa in Italy, I just want to vacation at the highest levels for three months out of the year. The other nine months, I don’t need that villa.”
He put it together and realized, “Well, what is that? $20,000 a month? Okay, I need to make $60,000 to afford that lifestyle of having a villa that I can go rent and hire a chef and do these other things.” “Do I want to own a jet, or do I want to rent a jet and pay to fly private?” As he went through this activity, what he realized is that his dream life only was going to cost him $650,000 a year.
Jane Borden: Only.
Jake Harris: Yeah, and that’s one of the things. You think only $650,000 a year and for a lot of people, that’s a lot of money, but the reality is that he was already making mid-six figures, he’s making half a million dollars a year, he’s almost there.
What he was willing and what he was lining up was a much more significant commitment to being away from his family, to go take on this other job opportunity that was going to get him closer to his two million dollars that he arbitrarily picked–I’m not saying that making two million dollars a year is a bad direction or just being arbitrary that you picked it because I think it starts with establishing where you want to go. I always envision Alice in Wonderland when she goes up to the Madhatter or the cat or and asks for directions and he asks, “Well, where do you want to go?” She’s like, “I don’t know.”
Well, if you don’t know where you want to go then it doesn’t really matter which direction you go. First, you have to figure out where you want to go. Even if it’s just arbitrarily picked as throwing a dart at a dartboard and that’s the direction you start heading, that’s better than nothing.
But there are some sequences of events that you could do to first figure out, “Hey, what the heck do I want in life?” Then if you can start defining that, that’s going to also help you fill out what type of real estate deals you’re looking for. It’s going to help define if your goal is half a million dollars, you may look for different types of deals than a small profit generating deals. Maybe you want to do 50 properties that generate a thousand dollars each. That’s it, you’re going to do that. Now you add that up to your half a million dollars a year or 650,000 in this month for this individual case. You say, “That’s a significant amount of work, I don’t want to do that.”
It allows you to say no to more deals faster and then you can start defining your plan for the real estate investment deals that you really like or that fire you up or excite you and how to tap into your skills.
What is Your Exit Plan?
Jane Borden: Then of course you also want to know where you’re going with each deal and you give some great advice in the book about valuation. There is a lot going on, right? You have to know how much you’re going to sell it for eventually, how much it’s worth now, regardless of what you are paying. How do you figure all of that out?
Jake Harris: That is a complex process to figure out what commercial real estate is worth. You know you can walk downtown and what most people don’t realize when you go walk and you see some buildings in downtown. They look pretty much the same, they might even have the same square footage. They might all be 50,000 square foot buildings but one is worth 20 million and one is worth 10 million, one worth five million.
How do you determine which one’s worth what? Where are you buying? Where is that opportunity? That’s why first I told you about getting the exit plan is, “Hey, what is it that you want to do with this property?” But you have to pick a plan that aligns with the valuation and you might already have skills in figuring out because you’re from that local town. You’ll maybe do a little bit of real estate, so you already know what some values are or maybe you don’t. That’s perhaps where you fill in some of your different team members, such as brokers, appraisers, lenders, and bankers tend to know those things.
You can come into that and figure out where valuations were in the past and where they are today. That is a very critical starting point because if you don’t know what things are worth, then again, you can quickly be off-track. You make all of your money when you buy not when you sell. If you buy incorrectly, there is almost nothing you can do. It requires herculean-like effort to even just get back to breaking even if you don’t buy it correctly.
So that’s why it’s early on, one of the early chapters in the book is going through those details and some of those steps for creating or figuring out that value. Then you mentioned one of the other important, crucial factors is the pricing today, which doesn’t always matter.
I will give you an example of this is Blackstone, which is for those who are not familiar, the largest private equity real estate company in the world. They came into the town that I was in and I was buying distress and we were doing deals. They came in and started buying properties for more than they were worth. Let’s just use it for a quick kind of equation and say that the property that was worth $300,000 in 2012, they were coming in and buying it for $350,000.
When I was looking at it, my plan was to immediately sell those properties. So if it was worth $300,000, I had to buy it at a discount under $300,000. I needed to buy it at $200,000 so I still had some room to fix up that property and then put it back on the market and sell it for that $300,000, which I was looking at what today’s value is.
Well, what happened when Blackstone was coming in and they were buying these properties for more than what they were worth–I was just sitting there dumbfounded, I was thinking, “I don’t understand what is going on, how do you go pay more for a property than it is worth?”
It took me a little bit of time to dive into that and what they were doing is they were just playing a different game at a different time horizon than I was. I was looking at it and trying to transact and sell something in the next six months while they were looking at something within the next five years. So, when they were looking at it they didn’t care what the value was today. They were looking at the previous peak price on that particular property, which was half a million dollars.
They said, “Hey, we think it’s going to go up above half a million dollars again. It is just going to correct when the economy solves itself and figure things out and it will go up to more than half a million dollars, so we’re okay paying $350,000 for that property because we’re playing a different game.”
The lesson I learned was also a very critical one about defining your exit plan and figuring out your evaluation. When do you plan to exit out of this property? And if your strategy is to sell something in the next six months, go buy that office building, quickly clean it up, put some new tenants in it and sell it in six months, the valuation that is today is much more critical. But if you are looking at this over a three-year or five-year time horizon, your projections of value is going to be vastly different. That’s one of the crucial things.
You know, the title is Catching Knives, the economy still might be going down. The advice most financial advisers tell you not to catch knives because it might continue to go down in value and you don’t want to get cut.
Well, these systems of understanding valuations and understanding your exit plan, having your plan laid out gives you the opportunity to reach out and catch those knives even if the value goes down next year or the year after that. If you’re looking at something that’s two, three, four, five years into the future, you can quickly move where other people are too scared to jump in and buy and purchase property.
Building a Team
Jane Borden: Interesting. I want to also return to something you mentioned earlier, talking about investment teams and I found this so interesting just because I had assumed something different in my lack of expertise in the area, but when I hear investment team or people coming to buy real estate I think, “People with money.” Hedge fund guys or venture capitalists or whatever and actually, “No, you need an inspector. You need a contractor, you need a lender.”
It’s much more like building an Ocean’s 11 team and I thought that was interesting. Can you tell our listeners a little bit more about what a distressed commercial real estate investment team looks like and how it functions?
Jake Harris: You know, I hadn’t heard or thought of it that way but that’s a fantastic analogy as far as like an Ocean’s 11. Everybody has certain skill sets and depending on where you’re coming into these deals, then you can fill out the other roles where you lack. Also, someone still has to coordinate this and be the ringleader of this circus, the mastermind of the Ocean’s 11, you know?
Maybe that is also your role, you may not fill any one of these others. I mean obviously one of the critical components is, in commercial real estate, is money. You need investors. You need some way or forms of funds and so you can do that. You can syndicate it or put together a fund. What that is, for people that are not familiar, is you can gather a group of people to come together and invest in this building or this property or this apartment. So, you may just create the structure and you’ll need to hire an attorney to help put those legal documents in place.
You can then go communicate with your friends and family and those that believe in this idea that you’ve put together, that you are going to buy this building at this discounted price, and then fix it up and then resell it at a higher price.
Or you may already have money. This is what I do all day every day is I run a private equity real estate company. Most of our investors are high net worth individuals. They’re doctors making six and seven figures a year but their day job kind of precludes them from actively participating in the management of real estate but they have some funds that they can invest into that. Maybe if you are coming in from that, you may be that money and you need somebody else to be that operator or that sponsor. The person that’s coordinating and being the ring leader of what’s going on.
One of the other really, really significant roles is a contractor. Contractors, which is interesting because this is how I just got started in real estate. I was out of the Army. I took a job bartending at a country club and I was like, you know, “I’m 23. I want to go grab the tiger by its tail. I want to get into real estate development. What do I do?” So, I was asking the patrons, these rich guys that went to the country club and were playing golf.
The advice I got was, “Become a contractor,” and again, that was not the answer I was looking for. I was like, “No, I want to do real estate investment. I want to do that.” The thing that helped me and that became a light bulb “aha” kind of moment is, there is a contractor involved in everything real estate. If you’re fixing your kitchen, moving dirt, building a skyscraper, fixing an office building, there is a contractor involved in every single aspect of that and contractors like to make as much money as they can possibly make.
I don’t know other people’s experience, but mine of doing thousands of deals over, I think we’re up to 26 states now that we’ve done investments into, contractors typically still try to make as much money and take as long as possible. This is one of the unique industries that the more work you give them, the higher the price gets, and the lower the quality gets. It’s just one of those unique things. So, a contractor may be a really critical person to be involved in your team that gets your profit-sharing.
Maybe you can help align some of those interests, or if you’re a contractor, now you may be able to put together a deal, an investment into a property because you have the skill sets to fix that up at a good and favorable price. I dive into several others of these kinds of people in your potential team. Like I mentioned earlier, brokers and lenders and inspectors and a combination of those.
We actually put together a checklist in the book and we give that out as resources as well to people that want to fill out, “Hey, who is my attorney?” Well, those attorneys, they’re like doctors. They specialize in specific topics. Some might be purchasing, reviewing contracts. One might be in setting up, as I said earlier, that fund–how do you create that legal fund? That is going to be a different attorney than the one that is doing lease reviews. I wanted to try to cast a wide net to address a lot of different asset types and again, give some people some bandwidth to ultimately figure out where they fit in that equation.
Jane Borden: You definitely do and there’s so much other great advice in the book. For example, creative ways to finance purchases, red flags, deal breakers, properties you shouldn’t buy. Readers, there’s a lot more to learn here.
Jake, it’s been such a pleasure speaking with you. Congratulations on the book. Again, listeners, the book is Catching Knives: A Guide to Investing in Distressed Commercial Real Estate. Jake, in addition to reading the book, where can people go to learn more about you and your work?
Jake Harris: Yeah, we put together a website, catchknives.com. I’m pretty active also on Instagram, jake.realestate, and then, we’re rolling out this book launch. I’m pretty excited about that. I’ve not written a book before, so I am taking the advice of people that are a lot smarter and better than me and I think they are starting to release some things with key components, some of those resource guides.
Jane Borden: Okay, great. Thank you so much.
Jake Harris: Thank you, I appreciate it.