Over Budget Blues
Boomerang Capital finances over 1,000 projects a year and sees thousands more among its network of past borrowers, wholesalers, contractors, realtors, and even other lenders (we call them frenemies). And one thing we know for sure is that no one likes an over budget project. It is helpful to think quite simply about those unwelcome budget busters as coming from two categories: those that you can’t control, and those you can.
Uncontrollable surprises come from a few places. One with the biggest impact that we see most frequently is being too aggressive with timing and/or uninformed with prices. A project is dependent on people and resources, which can be difficult to get all lined up perfectly. Be it permits or subcontractors, inspections or toilets, almost anything can hold your whole project up. Gantt charts can help organize and look at dependencies and find some open space in the schedule, as well as help deal with the inevitable curve balls. And on that point, make sure you are updating your timeline and budget as you go so you can see where you are and make needed corrections in a timely manner. Note that the longer the project timeline, the greater the chances for issues. One of our borrowers always renovated homes in one market and recently did his first on in another market. What he didn’t realize and account for is how much longer the permit process would take which led to additional direct and indirect costs. By his calculation, the extra 2-3 months killed the profitability of the deal.
A related group of issues comes from your budget. An unrealistic budget won’t work, so make sure you have up-to-date estimates. Lumber is an obvious recent example, but labor costs have also been quite volatile lately. A good way to keep in touch with these types of issues is to know what is going on. There are some great formal ways to get information, such as industry publications (like the one you’re reading!) and associated meetings and presentations. But don’t overlook the informal sources too: there can be a lot learned over beers with buds.
Another unpleasant surprise can arise once you get going and have a chance for a more thorough examination of major systems such as foundation, sewer, roof and HVAC. We always recommend a sewer inspection and roof inspection where possible. If you can identify those in advance, you can work out a price reduction and then include the work in your budget. Many of our borrowers find issues in the sewer line and are able to negotiate $5-10k price reductions to accommodate, and roof concessions are frequently two to three times that.
Controllable budget busters are another type and mainly come from outside ‘help’. Once you have a project budgeted and ready to go, it’s frequently unhelpful to ask for opinions. Most of those ‘helpful’ suggestions are going to involve an ‘upgrade’ of one sort or another. These can come from a well-intended but inexperienced friend walking the property with you or a self-interested contractor. You might hear things like: “This is a nice kitchen, but you really should do new cabinets.” or “You should open up this space.” You may also be tempted as you wander around a project and think, “A bit more landscaping might really make this place pop.” Remind yourself frequently: if it’s not in the plan, it’s not in the plan.
A recent borrower of ours had a new girlfriend that was a realtor. At the end of one of his projects she took it upon herself to blue tape the project. When she was done the property was covered in blue tape. She decided a refinished bathtub needed replacement, more can lights were needed along with more landscaping plants. The outcome was budget overruns because of unnecessary replacements and re-work, ruined subcontractor relationships, and an ex-girlfriend.
Your budget comes under scrutiny here as well. The more specific a budget is, the easier it is to measure progress and variance. You can go overboard with too much detail (like how many screws you plan to use), but broad categories like “I’ll spend $40,000 on the kitchen” will not provide enough detail when it comes time to make decisions and order materials.
A well-researched budget with sufficient detail and completeness, including timing, that you then stick to will reduce a lot of headaches and heartaches.
by David Nielson, Boomerang Capital Partners
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