A budding entrepreneur once spotted Warren Buffett and Bill Gates eating lunch together. Seizing on the opportunity to glean a golden nugget of wisdom, he summoned the courage to ask a question that might help him grow his income exponentially.
The novice approached the two luminaries and asked, “If you could name one thing that is responsible for your success, what would it be?” He expected the billionaire businessmen to speak about the importance of hard work or maybe discuss secret metrics for success. The answer that each provided simultaneously surprised him. It was one word: focus.
“The preliminary discussion to have with a client — before considering any other contingencies — centers on whether a deal has legs.”
Buffett and Gates are legendary for their abilities to cut out all the noise and focus on top priorities. Each of them are incredibly protective of their time and are very selective about what they work on.
Steve Jobs, arguably one of the most successful business leaders of our time, had the same take-no-prisoners focus. When Jobs returned to Apple in 1997 as its CEO, he famously reviewed the scores of product initiatives being pursued at the time and eliminated almost all of them, distilling the company’s focus down to what would become four iconic products.
What does this have to do with commercial mortgage brokers? Everything. Brokers who want to get deals funded and maximize their incomes need to focus on the loan requests that have the highest chances of success. Of course, this is easier said than done.
Picking winners
The most successful mortgage brokers are protective of their time and only focus on viable loan requests. Part of this process is to learn how to spot the winners. Another aspect of the process is being comfortable with saying no. This may entail learning some new habits — or breaking old ones.
When brokers receive loan requests, they need to understand the good, the bad and the ugly of each potential deal. From there, they need to make calls on whether the loans are fundable.
Brokers could go through the files and look for liabilities — tax liens, ownership glitches, credit issues, etc. — and ponder whether these problems can be resolved. Then they could run the numbers to see if the files are workable. But there are other, more efficient ways to get the job done.
Right questions
The preliminary discussion to have with a client — before considering any other contingencies — centers on whether a deal has legs. There are some crucial questions you will need to ask.
Does the loan request fall within the chosen lender’s parameters?A broker needs to determine whether the loan request is too high or too low for the lender in question. Work with the borrower to hammer out what’s needed in terms of the loan amount or terms. A lender won’t want to fund a deal if the borrower doesn’t have a plan. For example, borrowers who put “max LTV” in their loan requests probably don’t have explicit uses in mind for the additional leverage.
Will the project at hand service the debt at today’s interest rates? One of the first things a lender will do is a debt-service-coverage ratio (DSCR) calculation. Head off an instant rejection by beating them to the punch.
For example, with bridge loan rates hovering in the 11% to 12% range today, do a quick calculation to find out whether the borrower’s income will cover the debt. Brokers can simply take the requested loan amount and multiply it by the interest rate to get a picture of what the annual interest payments will be. Compare this figure against the borrower’s net operating income.
If the proposed loan won’t allow for a positive DSCR, formulate a strategy for the borrower that could make the request more appealing. For example, look at their profit-and-loss statements or tax returns to find items like depreciation or one-time expenses, which can be added back to the equation to enhance net operating income. An interest reserve, which is a capital account created by the lender to fund the loan’s interest payments for a period of time, is another option if the borrower has a solid story.
Right metrics
Brokers also must determine whether the property qualifies under the lender’s parameters. The disconnect between the borrower’s estimate of property value and the appraised value is one of the more common reasons for a deal to fail. Yet the lender’s quote for loan-to-value ratio, cash out and the total funding amount all hinge on this estimate being realistic.
Consider whether the metrics the borrower is using are reliable. For example, the purchase price of the subject property will control the valuation, regardless of whether the borrower thinks the property is worth more. When a borrower says a property is worth $3 million but the purchase price is $2 million, a lender is not going to approve $2.5 million for the purchase.
In addition to valuation, there are many factors related to the property that need to be fleshed out. The location is key for determining population and other demographics. Tertiary markets — some suburban and most rural areas — are difficult to qualify in today’s market and may result in a quick rejection.
Crime statistics can come into play. Take, for instance, a property that was in an area where a resident had a 1 in 13 chance of becoming the victim of a violent crime. The lender passed.
Asset class also can impact a lender’s interest. Office properties are difficult to fund now, so these deals will require extra effort to persuade a lender. Look at all fundamental performance metrics to determine whether the property is worth the time.
It’s always wise to check the borrower’s numbers. Find historical financial reports and see whether the property’s income has gone up or down over the past few years. Resolve the red flags that will inevitably come up during underwriting, so you don’t waste time on a deal that’s not viable.
Borrower qualifications
Does the borrower have the qualifications the lender is seeking? Different lenders have different expectations for their borrowers. For many, prior experience in the asset class is paramount. For others, it’s liquidity, and for others, it’s credit. A common example with a bridge loan is to require the borrower to have a net worth equal to or greater than the loan amount, with liquidity — cash in the bank — that’s at 10% of the loan amount.
The borrower’s character also comes into play for some lenders. A cursory search can uncover a criminal background or a history of litigation. It’s always better to discover these issues before the lender does, so you can let go of a deal with a fatal flaw.
When working with multifamily properties, take a moment to Google the property address to see what the ratings and reviews look like. This is a way to catch badly managed properties and uncover elevated crime statistics. If you find something negative, see if there’s a good explanation for it.
From there, dig in and see if other red flags come up. If the lender likes the borrower’s story, there’s a greater likelihood they may be willing to tackle some problems. But if the deal doesn’t have the fundamentals to begin with, there is virtually no chance of being funded. Why waste time resolving a situation that has no solution?
When you’re speaking with a borrower, learn to focus on what you need to know. This may require reading between the lines. For example, a borrower may offer up a recent appraisal of the property. From their perspective, this saves time and money while proving their valuation claims.
The lender will have a different perspective and several questions. Why do they have a recent appraisal? Was it performed for another lender? Did that lender turn down the deal? What has the borrower done to overcome an objection from another lender?
Letting go
Rejecting a deal is difficult because it’s counterintuitive to turn away business. But relying solely on volume is deceptive. It’s easy to get seduced into thinking that a risky deal is worth a phone call at the very least. One call won’t hurt, right?
Let’s say you have a little extra time. You make a quick phone call to a lender to float a so-so deal. Nothing ventured, nothing gained. One phone call leads to one rejection and zero income. The problem with this habit is that it’s not sustainable. A broker who makes 100 useless calls over the course of a year can wind up with a serious loss of income.
Your time would be better spent honing skills that will allow you to quickly identify the deals that will close. Brokers need to focus their time and resources on these types of deals. Let the others go before they steal your precious time.
It’s also a good idea to periodically evaluate how you get your leads. If brokers find they’re getting stuck with too many loan requests that are no good, they need to explore ways to improve their networking connections and put more time into marketing efforts.
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Commercial mortgage brokers don’t need to be successful billionaires to run their businesses like one. They can thwart the time thief. By focusing only on what’s important, they can improve deal flow, get clients over the finish line and revel in rising income.
At the same time, there are ancillary benefits for brokers who focus on the best deals. These include better business relationships, larger professional networks, and strong reputations with lenders for thoroughness and quality deals that are worth considering. ●
