Recently I attended the annual BBQ for the Ottawa Real Estate Investors Organization (OREIO).
While I was there, I saw one of my past students (I’ll call him Joe) who owns some investment properties, and also runs a property management company which manages approximately 30 units for other investors.
Joe was telling me that he recently had the opportunity to bid on a job for managing a large portfolio of properties.
In fact, this job would add over 100 units to his property management company. I believe somehow he knew the person in charge of awarding the contract, and he was competing against some big name property management companies in Ottawa.
However, Joe was a bit concerned that he and his partner wouldn’t be able to handle the workload. He was asking me for advice and wanted to know what he should do.
Normally I am not someone to hold people back from reaching for big goals. But after asking a few questions, I quickly determined that his small property management company would likely fail under the new workload.
I didn’t tell him exactly what to do (that was his decision), but I told him to be careful about expanding too quickly. Twice I have seen small property management companies blow up and go out of business (for many reasons but mainly because they grew too fast).
After that conversation, I realized that many investors may not know what to look for (or what to avoid) when choosing a property management company, so I’ve put together a list of the top 6 reasons why management companies fail.
And if you are an investor who also does property management on the side for other investors (or you’re thinking about doing it), pay very close attention to these reasons. The future of your business is at stake!
1) Not charging enough money
As an investor, your goal is to get your income as high as possible, while simultaneously keeping your expenses as low as possible. When it comes to property management, naturally investors are looking for the best deal, which means the lowest possible management fees.
But there’s a problem with low management fees. It’s a hidden problem that may not show itself until months or years later.
Here is what happens when fees are too low…
- Low management fees = Low profit for the property management company
- Low profit = Not enough money to hire staff
- Not enough money/staff = Few staff managing too many properties
Let’s say a property manager has 20 units under management, at an average of $1000 per month in rent per unit.
20 units x $1000/mo = $20,000/mo rent collected
Most property management companies charge a percentage of rents collected, which ranges anywhere from 4% to 10% or more. If this property manager charges 6%, that equals…
$20,000/mo x 6% = $1,200/mo management fees
And that assumes they collect 100% of the rent for each month.
While 6% may seem like a lot for some investors, with only 20 units it is not enough to run a profitable property management business with staff. The only way it can work is if all work is done by the owner or their family members, and they are simply supplementing their own property investment income.
Every business (property managers included) has overhead — the expenses required just to be in business. With $1,200/mo income, there is no way a property management company could hire full time staff.
Even if the number of units doubled to 40 units, which doubles the potential management fee income to $2,400, it’s still not enough to hire even a single full time person after paying overhead.
If a property management company is trying to earn your business with the lowest rates and they manage only a handful of units, be very careful and consider finding another company that charges more. I know it seems counter intuitive to investors, but you will have better service and chances are the business will be around longer.
2) Not enough staff
Imagine this… a small property management company (a husband and wife team) has worked hard for many years building their portfolio to 50 units. They keep costs low, provide personalized service to both landlords and tenants, and provide good financial reporting.
Word of their good service begins to spread among investors. One day they receive a phone call from an investor with a large portfolio — over 50 units.
By adding one new customer, this small property management company can double the number of units managed! The owners are happy and jump at the opportunity to bring in new business.
It would appear that this property manager doubled their revenue with one client. And at first, that’s exactly what happens.
But after a short time, it becomes apparent that their workload has also doubled. In fact, it has more than doubled because it takes more work to initially bring on a new client with new properties and tenants.
As a result, management quality is worse for all the other units. Tenants requests aren’t dealt with in a timely manner, landlords aren’t called back right away, etc. Complaints begin to increase, which increases the stress level on the owners of this company.
Every experienced property manager knows it takes a certain number of people to effectively manage a certain number of properties. If there are not enough people, then the quality of management suffers.
So with this example, let’s say they collect an average of $1000/mo rents for 100 units, and they are charging an 8% management fee.
$1000/mo x 100 units = $100,000/mo rents collected x 8% = $8000/mo mgmt fee
That’s enough to hire one full time person and still provide some income to the owners. Great! Problem solved… sort of. Although a new staff member has been hired, it may still not be enough to handle the workload.
Remember… the workload at least doubled, but the staff increased by only 50%. That means the owners still have a bigger workload than they did before, which may cause management quality to suffer.
3) Too many distributed units
If you were managing properties, which would you rather have?
- 100 single family homes, or
- One multi-unit building with 100 units
For most investors, the answer is simple — whichever produces the most profit and meets their investing goals.
However, for a property manager, the workload for managing 100 single family homes FAR exceeds that of managing a single 100 unit building.
Why is that? Imagine driving to 100 homes, located in various locations across a city for things such as:
- rent collection
- tenant disputes
- regular maintenance
- inspections (e.g. fire detectors)
- emergency repairs (e.g. water leaks)
- and more
Now contrast that with driving to a single multi-unit building, and simply taking the stairs or the elevator to do all of the same tasks.
It’s easy to see that if a small property management company is focusing on single homes or smaller multi-unit properties, their workload is much higher. As a result, they won’t be able to provide the same quality of service as someone who can simply go to a single large multi-unit building to handle everything.
4) No repeatable systems in place
When someone starts a new property management company, most of the time they are starting from scratch. That means that although they may have some experience managing properties in their own portfolio, they may have little to no experience running a property management business.
What’s the difference? All businesses need to deal with multiple areas of expertise to succeed, and property management companies are no different. They need to have processes in place for…
- Marketing – advertising apartments for rent, advertising for new investor clients
- Sales – showing and leasing apartments to new tenant, meeting with investor clients and signing them up for service
- Operations – dealing with tenant requests, evictions, maintenance and repairs
- Accounting – accounts receivable (money owed from tenants and investor clients), accounts payable (money owed to run the company)
- Information Systems – all the technology required to run the business, including phones, voicemail, cell service, website, etc.
- and more
All of this takes time to learn and build for any company just starting out. However, where many property management companies fail is when it comes to making these systems repeatable.
For example, let’s say the owner hires a staff member to help out with managing properties. This new staff members stays with them for many years and learns everything there is to know about property management. They know how to advertise apartments, deal with tenants, hire contractors for repairs, and more.
Then one day that staff member gets another job offer and decides to leave. And they take all their knowledge with them, without leaving anything behind that is documented and repeatable.
All of a sudden, the owner is left scrambling to do everything that staff member used to do. But the problem is they don’t know how to login to a website to place an ad, they don’t know which are the best contractors to hire, and so on.
Their business is in chaos, all because nobody in the company documented any of the repeatable processes within their business.
5) No dedicated leasing agent
Leasing (the process of placing a new tenant in a unit) is actually a very good profit centre for property managers. They often charge a $300-$500 flat fee, 50%-100% of 1st month’s rent, or more.
For example, if the fee is 100% of 1st month’s rent, that equals a fee of 8.3% of all the rent collected for 1 year… and its paid up front.
At first, not having a dedicated leasing agent may not seem like a big problem. Often times the owner of the property management company does all the leasing themselves.
But the problem is that if they are too busy, too sick, or simply unavailable, there is noone else to show and lease apartments. This results in lower revenue for the property owner, as well as the property manager.
Sometimes a property manager will grow to the point where they can hire a full time leasing agent. However, the problems still exist to a certain degree.
Remember, most apartment showings and leasing is done during the evenings and on weekends. So the leasing agent must have very flexible hours, and be willing to work when most others are not.
With only one person handling leasing, there is a single point of failure. If they are sick or unavailable, again there is no one to handle the job or the owner is stuck doing it.
The result of all this is either:
- Lost revenue (due to no one being available for a showing)
- Over worked staff or owner (which results in mistakes, missed tasks, etc.)
6) No dedicated bookkeeper
This is huge!
So many property managers (and business owners in general) try to do their own bookkeeping. But the problem is they aren’t trained in accounting.
The end result for investors is…
- Missing income
- Inaccurate expenses
- Incorrect tracking of last month’s rents
- and much more
For the property manager, if they don’t have accurate financial reports for their business, they cannot manage their own business correctly. Most importantly, they can’t foresee cash flow problems before they occur.
Cash flow problems are the #1 cause of small business failure, so having a dedicated bookkeeper (either on staff or outsourced) is critical to long-term success.
Without one, I can almost guarantee that investors are losing money, and property management companies will eventually go out of business.
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Running a property management company can be complex, just like running any business. And as you can see, there are a variety of reasons why small property management companies can fail.
If you’re an investor and you’re searching for a property manager to manage your investments, keep these things in mind when selecting a company. If I had to choose which ones to focus on, I would recommend making sure they charge enough money and aren’t trying to grow too fast. Both of those can kill any company fast.
And if you’re a property manager or an investor looking to start your own company, read and re-read this article many times. Then take a good, hard look at your business to see if you’re at risk in any of these areas. Chances are, the last thing you want is for your company to fail and cause your clients to lose money. Take a proactive approach and you’ll improve your chances of succeeding long term.