Getting started in real estate development? Read this. (1/3)
Exploring the three primary models of real estate entrepreneurship, starting with the merchant builder model.
Topics:
What is the merchant builder model?
Becoming an entrepreneur in real estate
So, you’re an aspiring entrepreneur. You know the real estate industry is full of opportunity, but you also know it’s a cyclical and risky business. You’re hungry for your first deal, but not sure where to start. What do you do?
In this 3-part series, I’ll explore that question—starting with the merchant builder model. Stay tuned!
Understanding the merchant builder model
At its core, the merchant builder involves acquiring land or property, developing it, and then selling the finished product for a profit. Merchant building is a solid strategy for those with limited funds because (if you’re successful) it allows you to redeploy and grow capital quickly.
Unlike the traditional "buy and hold" strategy, where investors retain properties long-term, merchant builders are focused on generating relatively quick returns.
There are a few key advantages to the merchant builder model:
1. Faster Returns: The merchant builder model typically offers quicker returns on investment compared to buy-and-hold strategies, making it attractive for entrepreneurs looking to generate profits within a shorter timeframe.
2. Adaptability: Merchant builders have the flexibility to diversify their portfolio by engaging with various asset types, from residential to commercial, depending on market trends and demands.
3. Scalability: Successful projects can serve as a stepping stone to larger ventures, enabling entrepreneurs to scale.
Of course, there are also drawbacks. This model of real estate is particularly capital intensive—the merchant builder will need to contribute substantial upfront capital (around 10 to 20%) for land acquisition, construction, and other associated costs, which may pose challenges for entrepreneurs with limited resources. It also leaves you highly exposed to market fluctuations.
There’s also a steep learning curve. Everything from your personal network to your knowledge of zoning laws will contribute to your ultimate success. Inexperienced entrepreneurs will have a lot to learn.
For context, here are some of the financials from a project I worked on recently…
Purchase price: $2.4 million
Construction costs: $17.2 million (hard costs, includes site work + FF&E)
Loan info: Put up $4.5 million in equity, took a $17m loan
Results: Sold the property at exit cap rate of 5% at $535k per unit (effectively for $32 million, with total costs around $22 million)
I’ll work on sharing a more in-depth example at the end of this series, showing a practical breakdown of how each model works. Keep an eye out!
Tips for success
If you're considering the merchant builder model, here are some tips to increase your chances of success:
Market Research: Thoroughly research your target market to identify opportunities and trends. Understanding local demand is key.
Financial Planning: Secure sufficient financing and create a detailed financial plan that includes contingencies for unexpected costs.
Build a Strong Team: Surround yourself with professionals who complement your skills, such as architects, contractors, and real estate agents.
Risk Mitigation: Have a clear risk management strategy in place to navigate market uncertainties.
Networking: Establish relationships within the real estate industry, including potential investors, partners, and mentors.
Still have questions? Feel free to reach out to me on LinkedIn! I’m always happy to strike up a conversation.
- John
This week’s notes from half-court…
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