Don’t kill the golden goose
Iwas talking with an investor the other day who had just received some really great news. His portfolio of rental properties had an equity value of over $1 million. I asked him how he found this out, and he told me he’d been working with a financial advisor who had challenged him to find fair market values for each piece of property he held.
After doing so, the advisor compared the sum of the fair market values with the total balances left on the mortgage of all the properties. When the dust settled, his properties were worth over $1 million more than what he still owed.
He had no idea he was a millionaire because he had never concerned himself with the equity in the properties. He had only paid attention to his income — the positive cash flow associated with each property.
As we talked further, he mentioned that his advisor asked if he’d considered selling off his portfolio since we are at the top of a market right now. The advisor went on to say that if he did sell, he could stockpile that money, wait for the next downturn and then replace his portfolio by paying cash for better properties.
My whole being was screaming “No!” as he was telling me about this exchange. But I composed myself and asked, “Why would you want to kill your golden goose?”
He looked at me puzzled, and that’s when I told him the story of the goose and the golden egg from Stephen Covey’s book, “The Seven Habits of Highly Effective People.”
It goes something like this: There once was a poor farmer who had a goose. One morning, while doing his chores, the farmer noticed a golden egg in the nest of his goose. He thought someone was playing a trick on him. But when he picked it up, he realized it was real. He took it to town and had it evaluated for a very high price. He promptly sold it and enjoyed the benefits of the profit.
The next day, the same thing happened. He found another golden egg. This went on for many days. But as the farmer became accustomed to lavish living, he also became inpatient with having to wait for a single egg each day.
That’s when he decided he would just open the goose and get all the eggs out at one time so he wouldn’t have to wait anymore.
Well ... to make a long story short, he did. But he didn’t find a goose filled with golden eggs. Instead, he found a goose full of what is normally inside of a goose.
What the farmer did was irreversible. And because of his impatience, and greed, he killed the goose that laid the golden egg every day. This action stopped his wealth forever.
I told my investor friend that his portfolio is a flock of geese that lay golden eggs. Those golden “eggs” come to him in the form of rent checks. And if he sold off his portfolio, he wouldn’t receive any more golden eggs.
Let’s think about this scenario for a moment. This investor lives off the cash flow produced by these properties. But he has $1 million in equity. If he sells all of them, he can pocket that million dollars and just live off it, right?
Not quite. You see when he sells those properties, he will not receive $1 million. His funds will first be reduced by the commissions and closing costs of selling the properties. Those expenses could easily reduce his profit by 10%.
Still, $900,000 ain’t bad. But when you sell all those properties, it creates a taxable event which could easily cut those funds in half.
For easy numbers, let’s say the take home was $500,000. In liquidating these properties, our investor loses his monthly income. If he lives off of $50,000 a year, that means these funds will be depleted in only 10 years.
Instead, what if he worked to get his properties paid for in the next 10 years? With no more mortgage payments and a rent roll of $25,000 a month, he could then enjoy a positive cash flow of nearly $20,000 to live on after expenses. Wouldn’t that be nice?
And that, my friends, is why you shouldn’t kill your golden goose.