Mobile Home Park Mastery: Episode 265

Before You Can Have Return On Capital You Must Have Return Of Capital

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In the search for income, many investors overlook the simple fact that there is no income until your capital is safely returned. When you seek the measure of an investment’s performance the only one that matters is the total return at the end, not simply a couple good years along the way. In this Mobile Home Park Mastery podcast we’re going to review why mobile home parks are superior in their return levels because they virtually always start off with your capital back through superior investment construction.

Episode 265: Before You Can Have Return On Capital You Must Have Return Of Capital Transcript

A banker once told me, before you can have return on capital, you must have return of capital. One of the smartest investment recommendations I've ever heard. This is Frank Rolfe, with The Mobile Home Park, Mastery Podcast. We're gonna talk about this phenomenon that's going through America today, which is very wrong. That we get all excited over short-term returns, but we lose track of the big picture, which is, can you get your capital back? Now, right now in the United States if you invested in stocks, your stocks are down around 20% so far this year. It doesn't matter whether you were in the S&P 500, the NASDAQ or the Dow, you've lost about 20%. And if you invested in bonds, your bonds are down about 10% so far this year.

On the stocks, you had a dividend the entire time of nothing, normally, on the bonds you might have made 2% maybe, and you could have invested in a junk bond, yielding 8% and then it defaults and your principal is now worthless. It's an issue that bankers know all too well, because if you get 5% interest on a $100,000 loan and the guy pays like clock work for four straight years and you're thinking, "Oh, this is the best loan I've ever made," then he defaults and you have to sell the asset off and it comes in for less than 100,000, such that you lose principal, as much principal as you got an interest, you never made any money. Even worse, you lost money, 'cause inflation was eating away at it the whole time. So if principal safety is key to investing, how do Mobile Home Parks do better than these other things? How does a Mobile Home Park preserve your principal better than a stock or a bond or a junk bond? 

What's the magic in Mobile Home Parks? Well, the first thing is that it's a real estate-backed investment. So when you buy a Waffle House, like my old quote about the Waffle House, that I've gotten so much criticism for over the years, unfairly, but the truth is, if you bought a Waffle House, what do you really own? What do you have with your Waffle House franchise? You typically don't own the building, what you own is you own a bunch of furniture, you've got chairs and tables, and you've got napkins and silverware, and you have some old kitchen equipment, but that's it. And if that Waffle House fails, what happens to your principal, all that money you invested into the business? Well, the answer is, you're gonna get a penny on the dollar if you're lucky. On a Mobile Home Park in comparison, you own actual real estate, a tangible thing that holds its value very, very well. And that's why bankers will make loans on real estate, typically with 20% down, but they won't even touch a business loan.

That's why when you look at buying a real estate backed asset, typically, you can use a cap rate often in the single digits, but if you wanna buy a business, often it's about a 50%, 30% to 50% cap rate. So the first benefit of a Mobile Home Park as far as preservation of capital is simply that it is real estate and therefore, it is backed by some tangible thing. The next reason is that Mobile Home Parks have very stable revenues and very stable expenses. There are no big ups or downs. Now, that's become obviously a very important feature of doing well in real estate at this point, because you're suddenly seeing plunging values on single-family homes. And we've already seen through COVID, plunging values in office buildings, retail centers and the like. So clearly, you don't really wanna be in businesses where the revenues can go way up and then rocket way down. And Mobile Home Parks provide that, we're very boring in that regard.

Typically, the average Mobile Home Park customer lives in the mobile home for 14 years, but the average mobile home lives on that property forever. So customers may come and go, but the mobile homes never do leave. So as a result, when you buy a Mobile Home Park and it's got 60 occupied lots, it's a pretty good bet 10 years from now, it still will have at least 60 occupied lots. The next item is sensible financing, that's been disseminated on the industry basically through lenders who always refuse to really go crazy with Mobile Home Parks. They were far too trusting with other things, they way over-leveraged office buildings, for example, lenders used to love office buildings. Those big glass towers they were so proud of, so proud that they had a loan on one. They didn't pay attention to the fact that those buildings could decline in value, and so they often gave insanely high loan-to-value ratios on the office buildings and it let them down.

In our industry though, since they never really were comfortable with old trailer parks, they've always stuck with the mantra typically of 20%-30% down. And that very sensible financing has created a situation where we have the lowest default rate. So as a result, leaders always love Mobile Home Parks because they rarely have ever failed, and if they ever do fail, they almost never sell at auction for less than what the bank has in them. And that stability in financing is what gives stability of values to Mobile Home Parks. Also, our industry has a one huge advantage over almost all others, and that is the giant mode of supply, and that its complete lack of supply is what makes Parks always scarce and valuable. There's virtually no city in the United States that I'm aware of that allows you to build a Mobile Home Park today. Most have stopped giving out those permits back in the 1970s.

As a result, Mobile Home Parks are infact an endangered species. We're not growing, we're shrinking. There's more Mobile Home Parks torn down each year than are built, and that one simple fact is what propels that value always into a realm of safety. If you look at somebody who's got some other kind of property, I don't care what it is, strip shopping center, well, you know, the city will let you build those anywhere. They're not scarce, they're not viable, there's no moat, there's nothing that holds back competition. If you build a successful retail center, it's almost guaranteed someone will build another one next door to you or across the street. But that simple lack of supply is what disrupts the whole supply and demand matrix that makes Mobile Home Parks hold their value really well.

Also, Mobile Home Parks are a very easy business model to operate and succeed at. The playbook is very simple. All you can do with a Mobile Home Park to make money with it, is to raise the rent, increase the occupancy, cut the costs and make it a nicer place to live, so you get a lower cap rate and a higher value. That's it. We don't have any complicated football styled list of plays. We just have those few simple things, and if you just focus on the few simple aspects, then you seem to always do well, operationally the same story. We have very few gauges on our dashboard as a Mobile Home Park operator. You have collections, you got occupancy, you got property condition, you got to watch over water, sewer, and then you always wanna do as an exercise monthly, a review of your budget actual difference, kinda like the GPS system on your car to make sure you're always on track to hitting the targeted numbers you're looking for.

But because we're so simple, because our business model is so simple and our plan for success is so simple, that improves the odds of Mobile Home Parks doing well. Also, Mobile Home Parks have this unique feature that we are so ridiculously cheap right now based on all other forms of American housing, that we can raise our rents very aggressively and still be the cheapest game in town. The average lot rate in America is around $300 a month, that's at a time where the average apartment now exceeds $2000 and the average single family home sale is nearly $400,000. You really can't compare those, can you? 

So if I'm at a $300 rent and I raise my rent overnight by 50% to $450, does it really change things? No, I'm still ridiculously cheap. People ask me all the time, "Well, why are Mobile Home Parks so stupidly cheap? What happened that would cause that to occur?" Well, what happened was that Mom and Pops for decades employed what we would only call Mom and Pop quantitative easing. They hated raising rents. They didn't ever match rents to inflation, and so the modern buyer is buying a mobile home park, and you're having to catch up on decades of deferred rent increases. If you look at a lot of these Mobile Home Parks, if you find some old magazines and things at book stores, you'll see the Mobile Home Park lot rent back in the '60s was $50 a month. $50 a month in the '60s, today translates to about $500 a month. So what happened? 

Well, our industry just stopped progressing forward like every other form of housing that did track inflation and did make increases. Mom and Pops just basically quit. They let the business go. And the problem now is, we're in an industry with an average at a $300 rent in a time where apartments are almost $2000 a month more than we are. And that means you have lots of room to grow your rent, which maintains your value of that asset of the mobile home park. Next, we normally start off with a long list of things to improve with every Mobile Home Park we buy, because Mom and Pop had so many errors to the business model that there's just so much you can improve. So when someone buys a Mobile Home Park, you know you're probably gonna get your capital back from your initial price paid, simply because there's so many things to help lift the ship, so many new ways you can make money with that asset that have not ever been employed.

Now, if we were buying other things that people sell out there that are pretty much at the best they can ever be, running in all eight cylinders with, I don't know, nitrous injection right into the engine even beyond that, then there's lots of things that could befall you. Lots of ways that property values could decline. But in our industry typically, when we first start off buying that Mobile Home Park, we have the whole world ahead of us or things we can do to make things better, both financially and for the quality of life of the customers. So the bottom line is, if you buy a Mobile Home Park, even in today's troubled world, you're looking at an asset that will very much hold its initial value and build from there. And because of that, if you have to get your principal back before you can have return on principal, which is completely true, then there's probably no better avenue to do that than with your good classic Mobile Home Park. This is Frank Rolfe, the Mobile Home Park, Mastery Podcast. I hope you enjoyed this, talk to you again soon.