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Property management: an industry in conflict with its clients.

Although the title of this article may suggest that property management is in conflict with the owner, this is not always the case. Sometimes an owner's ambitions can place impossible working conditions on a property. Some examples are those owners who focus on leverage and/or place debt service in the way of marketing and/or preventive maintenance. Properties that do not have a balanced profile will force compromises in certain areas.

In spite of the conditions just described, there are still two key weaknesses that exist in the current state of property management. They are:

* The base method of compensation to the property management company.

* The use of averages as an acceptable measurement of performance.

Compensation

Although everyone professes thoughts like equality of attention and the effort to do the job at hand, the fact is that how an organization or person is paid determines the direction of effort.

The current method of property management's compensation is insufficient to make the property management company responsive, and the method of compensation may be in conflict with the management company's functional relationship to its clients. These conclusions are predicated on the property management companies being paid as a percentage of income.

What do property management companies manage? Buildings? Real estate? Tenants? Amenities? No! Property management companies manage individual businesses. Their ultimate responsibility is to increase the value of the businesses they manage.

The only way to increase the value of real estate is to improve the quality of the net operating income (NO1). Recognition of this concept is conditioned by the market's acceptance of the overwhelming importance that the capitalization rate plays in determining value.

The traditional method of paying property management companies a percentage of income is analogous to using the gross rent multiplier as an indication for determining value. Both methods apply the gross income approach to a business and disregard the NOI. This method is fraught with inaccuracies, and any resulting precision is based entirely on chance.

The income method does not consider the other two key ingredients of the value equation: expense that the property management company is responsible for and the difference between the income and the expenses (NOI).

Compensation to the property management company should be based on a formula (depending on the owner's objective) that includes income and expenses with the emphasis on the NOI. Under the current method of compensation, it is possible for the property management company to make more money than it did the year before while the value of the real estate declines.

Besides the compensation package, the property management company should provide the owner with a detailed description of the three key tools that managers of any well-run business use: marketing, budget, and business plans for the specific property. These plans should include biographical backgrounds of the key people involved.

I realize that some owners and property managers may think the suggestions described here are unnecessary. The only logic for such a conclusion is that real estate is not a business. If it is not a business, then what is it? The most accurate description I've read about real estate is that it is "a business whose function is the buying, selling, leasing, and development of square feet."

Business successes are determined by their bottom line; real estate is no different. It is on that basis that property management companies should be paid.

Averages as performance measures

What would be the reaction of an owner or investor of a business if his or her management company sent a report with the following comments? "Your company is losing more money this year than last year, but everything is fine because that is the industry average." "Our percentage of market penetration is the same as last year, but that's okay because we are at the industry average."

If Ford Motor Company accepted such comments, they'd be $5 billion poorer. If Japan and West Germany accepted such comments, they'd be post-war poor. Yet these comments are paraphrased from a typical real estate property management report. Accepting averages as a guide perpetuates mediocrity.

An average is made up of three components: a group of numbers that is the highest, a group of numbers that is the lowest, and a group of numbers in the middle.

Real estate property management companies send reports that typically state: "Your property is doing fine; the area your property is located in has an 85 percent occupancy rate and your property is occupied at 85 percent."

You should not be interested in comparing your property to those components in the middle and bottom numbers of the average, You should not pay your property management company to compare your property to the worst or average properties.

You want to know what properties are achieving the best results and why you can't achieve those same results. If the answers are inadequate, then you want to know the name of the property management company managing the properties with the best results.

The management of real estate is no different from the management of any other business. When security analysts examine companies, they consider supply and demand, market penetration, manufacturing costs, etc., but in the final analysis the single most important question is: Is the company making money now, and will it make more money next year?

When property management companies remove averages as their guide (or excuse), they will have moved one step closer to doing a good job for their clients.

Reprinted with permission from Critical Real Estate Issues in the '90s, by Alien Cymrot, published by CR Publishing, Mountain View Calif.

Allen Cymrot is the founder and principal of Cymrot Realty Advisors, Inc., and CR Publishing Co. Previously, he was president and director of Woodmont Realty Advisors, Inc. He also served as president and CEO of Kemper Cymrot and of the Robert A. McNeil Corporation.
COPYRIGHT 1993 National Association of Realtors
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993 Gale, Cengage Learning. All rights reserved.

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Title Annotation:Viewpoint
Author:Cymrot, Allen
Publication:Journal of Property Management
Date:Sep 1, 1993
Words:976
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