How to Calculate Profit and Loss on a Commercial Real Estate Investment
April 5th, 2012 § 1 Comment
Do you know how to calculate profit and loss on an investment?
One of the biggest differences between a successful investor and a reserved cautious “wannabe” investor is the way each of them invests and how the calculate profit and loss.
I was having a conversation with a gentleman three years ago and he told me that he had approx. $300K to invest. He asked me what to look for to make a wise decision. My response was the following:
1) Figure out how much time you want to invest your money for
2) Figure out how much effort you want to spend investing that money
3) Figure out how much return you could realistically expect over a few alternative investments
Seeking just the highest return is unrealistic if it will take you forever to achieve it. Also seeking a very quick return but having to commit all your time and energy for the investment project could be devastating to your career or other commitments. The idea is to balance the formula of time, effort and money (returns) and then consider the following important factors in your investment choice:
1) Asset safety
2) Good cash flow
3) Reasonable liquidity
4) Potential Cash reserves
The best way to compare the investment opportunities and decide on where to deploy the capital is learn how to calculate profit and loss and not fool yourself in believing you are doing well when you are not or could be doing much better. Here is a very specific example:
The fellow that asked me about where he could invest his $300K so that I could only help him think about time, effort and expected returns. Did not consider the choices I gave him and chose to invest in a condo to rent it for cash flow and hopefully an up side in 3 years.
Here is what he told me when he ran into me a few days ago which is approximately 3 years later (prompting this blog):
“I invested $300K to buy a condo- I rented it at $2K a month- my association fees are $500/mo. – sadly the tenant did not pay after a while and – It took me 6 months to get him out- I had to fix up the place and then it took me a while to re-rent it-
Total rent period over 36 months was 26 months- at $2K a month I received $52K minus the association fees $18K and other condo expenses including rent commission and repairs $6K- I netted $28K. If I sell the condo today to liquidate, I can probably net $9K after closing and commission. At least I have a profit. Thank God, there is no loss here especially on that deal that I held for 3 years)”
I said: Are you kidding me? You certainly have a loss.
You lost time, effort and a lot of money. And that is based on the alternative opportunities you had that you did not choose.
The way I calculate loss is no based on the actually money I lost but based on the money I could’ve made but didn’t over the same period of time.
If you get that statement you will understand the difference between an economic loss and an accounting loss. You see this fellow had the opportunity to invest with me, in one of my business models that offer 12% return with no work on his part and the returns were immediate with no down time and practically no downside.
Over three years he could’ve made 12% on $300K, which is $36K per year. Adding up to $108K total. All his money would’ve been safe and secured against real estate. The cash flow is 12%, the liquidity is cashing out within 90 days so low to no need for cash reserves.
Of course after the fact you would think that anyone could see that he had a profit but could’ve made more. I submit to you he actually had a loss. The difference between a $9K net $108K net is a $99K loss. But believe it or not most people refuse to face that fact because they will have to admit that they made a bad decision and that could be devastating for their ego!
The difference is a loss of $99K over 36 months. Need I say more? No- I don’t but I will because you can extend that way of thinking over many other endeavors and choices in life:
Do the same calculation when thinking of the training products and events I offer at CMREI.
Can you imagine how much people’s judgment could improve once they understand how loss is calculated? And how true profits compound over time with the least amount of effort?
If you are still unclear, then join me in any of the live events we hold around the country once a month and learn how money works and how profits and losses are calculated.
Your investment and life decisions will be impacted forever.
See you soon in a CMREI live event,