EP331: Why Failing Now Will Actually Make You More Money

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Have you ever sat there wondering why success feels like it’s playing hide and seek with you?

Why is it that other people make it look so easy… while you feel like you’re fighting invisible mazes just to make it through the day?

Why does it seem like they got the blueprint… and you’re left with the scraps?

In this episode, we’re visiting a multifamily community in the Phoenix area. Design? Gorgeous. Location? Prime. But what we really want to know is: Do the numbers back it up — or does it just look good on paper?

➡️ Today, we’re going to break down what we call Failure on Paper—you fail on paper, so you won’t have to fail in real life. 

Stick with us until the end, and you’ll find out exactly whether this one makes the cut for the Kitti Sisters… or if it gets cut ✂️ from the list.

And who are we to talk about this?

Over the last few years, we went from fashion to over $400 million in multifamily real estate, so trust us when we tell you — we will choose to fail on paper 100% of the time, before we ever fail in real life. 

And who knows… this property right here? It just might be the one we buy.

The multifamily apartment business… at first glance, it might not seem that exciting.

Monthly rents? Sure.

But when you compare that each unit may rent for $1,400 per month to how much money you have to put in, it feels kind of… underwhelming. One unit? It can only turn over once every 12 months.

It gets you thinking — is it really worth it?

But then… why are so many people still jumping into multifamily real estate?

We used to wonder the same thing — until we saw it with our own eyes. An investment of $3.9 million that turned into more than 3X returns. That’s profit. Straight into the investors’ bank accounts. No fluff.

A lot of people in this industry have quietly built serious wealth this way. No drama. No spotlight. Just smart moves.

Disclaimer — The numbers in this episode are estimated and for education/ modeling purposes only. Viewer discretion is advised. This is not legal, tax nor financial advice. Please do your own due diligence before investing.

But first let’s define what would be considered success and what would be considered a failure.

Because if you don’t define success, you won’t recognize success. And if you can’t recognize it, you’ll walk right past it — still searching for something you already had.

So for me, we define success as a syndicator or a general partner/GP. 

A successful multifamily investment is one where ⏬

1️⃣ Your money is preserved and grows in a meaningful way over time

2️⃣ You gain long-term wealth as the property increases in value

3️⃣ You get tax benefits that help you keep more of what you earn (like depreciation)

4️⃣ And it all happens while someone else (your tenants) helps pay down your loan

Okay, friend—picture this.

We’re standing in front of a gorgeous, palm-tree-lined apartment community in sunny Phoenix.

It’s big—334 units big—but here’s the thing: we can’t tell you its exact name, address, or show you real photos. (Gotta keep some secrets to respect the current owner. 🤫)

What we can tell you? This isn’t just another pin on the map. This place is planted in one of the most desirable corners of the entire Phoenix metro.

We’re talking just a mile from two major highways—Interstate 10 and U.S. Route 60—so you can get anywhere fast. Oh, and did I mention it’s practically in the backyard of Arizona State University? That’s the #1 Most Innovative School in the Nation since 2016, with more than 57,000 full-time students flooding the area.

Now, here’s where it gets juicy: the average household income within three miles is $90,317.

We’re talking high-earning professionals, ambitious grad students, and young families who value quality living spaces—and can afford them.

While other parts of Phoenix have seen rents dip and vacancies rise, this submarket is holding strong. Why? Because when you combine location, income levels, and a constant flow of educated renters, you get a market that doesn’t just survive—it thrives.

Okay, so let’s talk about this little gem—well, “little” if you consider 334 apartment units little. Built back in 1981 (yep, she’s 43 years young), this property would normally be a “thanks, but no thanks” for us Kitti Sisters. We typically like our apartments like we like our skincare products—newer, fresher, and low-maintenance. Think mid-2000s and beyond.

But here’s why this one made us pause. Spread across nearly 16 acres with 40 garden-style buildings, she’s got room to breathe—21 units per acre to be exact. And the mix? Almost half one-bedrooms, almost half two-bedrooms, and just a sprinkle of three-bedrooms. With an average size of 856 square feet, it’s basically tailor-made for young professionals and small families who want space without the McMansion upkeep.

Now here’s where it gets interesting.

The current owners have already poured $4.7 million into upgrades—clubhouse glow-ups, pool refreshes, tennis court makeovers, fresh landscaping, new HVACs, roofs, water heaters—you name it. Translation: the big, scary repairs are already checked off the list.

And yet—55% of the units still have those “classic” (read: dated) interiors, and over half don’t have in-unit washers and dryers. We’ve seen proof that adding those upgrades can boost rent by $290 a month. That’s a 31% return on cost—basically a renovation that pays for itself fast.

What really sealed the deal for us? There’s barely any new supply in the area—just three properties under construction within three miles—and the local population is set to grow 14% by 2030. Add to that the fact that owning a home here costs about $3,301 a month compared to rents that are 42% less, and you’ve got a massive affordability gap keeping demand strong.

Now, if you’re not familiar with the Phoenix market, let me give you a little backstory…

Phoenix will always hold a place in the hearts 💓 of the Kitti Sisters. 

Picture this: It’s 2019, and we are standing in front of a weathered C-class apartment complex in 🌵 Phoenix—76 units that had seen better days.

Most investors would have walked away, especially as their first deal. But something about this place, about Phoenix itself, whispered opportunity.

We took the leap.

Twenty-seven months later, as the world was still reeling from COVID’s early chaos, we sold that same property for a staggering 311% return. 💪😘

That little apartment complex didn’t just change our portfolio—it changed our lives.

And Phoenix? Well, Phoenix was just getting started.

Since that pivotal moment in 2019, we’ve watched the Valley of the Sun transform before my eyes.

The transformation hasn’t been random—it’s been strategic, almost architectural in its precision.

Downtown became the financial heartbeat…

Scottsdale, already the crown jewel, saw home prices soar as affluent buyers recognized what locals had known for decades.

But perhaps most exciting is what’s happening at the base of Arizona State University.

They’re calling it the “Silicon Desert” now, and for good reason.

This isn’t the Phoenix of  , dependent on retirees and spring training tourists.

Tourism now represents just 8% of the metro area’s economy, down from 15% in 2008 (Arizona Office of Tourism, 2024). This is a diversified economic powerhouse that rose from the Great Recession’s ashes stronger, smarter, and more resilient.

But here’s where the story gets complicated.

Success attracts attention, and attention brings competition.

The multifamily market that made us our fortune has become crowded with yield-hungry investors.

Cap rates compressed from an average of 6.2% in 2019 to 4.8% at their peak in 2022 (Marcus & Millichap Research, 2023). Properties that once sold for reasonable prices now commanded premiums that would make even seasoned investors pause.

As we continue exploring opportunities in the Phoenix MSA, we’re not the same investors who bought that first 76-unit property.

We’re more deliberate, more strategic, more selective. Because in a market where rent growth has normalized to 2% annually—down from the 15% spikes of 2021-2022—the difference between a good deal and a great deal isn’t just profit—it’s the foundation for the next chapter of our story.

Let’s talk about how to “fail on paper” the right way—yes, you read that right

By looking at real numbers from our Bleep Bleep Bleep example.

First up: gross income.

Think of gross income as the total rent collected from all units in the property every month. It’s the starting line, not the finish line. You calculate it by multiplying the number of units by the rent per unit. That gives you the absolute maximum the property could earn if every single unit was occupied and paying full rent.

Here’s a little insider tip: the sweet spot for economic occupancy is usually between 93% and 95%. Any higher and your rents might be too cheap. It’s a balancing act—pushing rents as high as possible while still keeping a healthy occupancy rate.

Now, for our Bleep Bleep Bleep example—334 units, with a total monthly billing of $481,664. That’s a whopping $5.78 million a year in potential gross rent. But here’s the interesting part… sometimes gross income is actually lower than what the market can handle.

Why would that happen?
Two big reasons:

1. Complacent owners. They bought the property, enjoyed the cash flow, and never bothered to raise rents. We’ve seen it firsthand—the very first multifamily we ever bought had been in the same hands for 17 years, and the owner didn’t feel like pushing rents at all.
2. Poor management. Maybe the property managers aren’t running market surveys, making upgrades, or even checking what similar properties are charging. They’re just… coasting.

Here’s why this can be exciting for buyers—if current rents are below market, you have an immediate, obvious path to increase revenue.

For example, if market rent is $1,500 but this property is averaging $1,442, that’s a $58 per unit difference. Multiply that by 334 units, and you’re talking $19,372 more every month, or $232,464 more a year—just by catching up to the market.

But before you pop the champagne, you need to understand the difference between physical vacancy and economic vacancy.

• Physical vacancy = the empty units you can see.
• Economic vacancy = physical vacancy plus all the hidden losses like free rent concessions, bad debt, and below-market leases.

At Bleep Bleep Bleep, yes, there are empty units—but the real loss? It’s from discounts, freebies, and unpaid rent. You might think you’re 95% full, but in reality, your economic occupancy could be closer to 88% once you factor in everything you’re not collecting.

And here’s the golden rule—never take the seller’s rent roll at face value. Numbers on paper can look dreamy, but the real story is in the details: Are those rents actually being collected? Are there freebies hiding in there? Always, always dig deeper.

Here’s your rewritten version — tighter, clearer, and still with that analytical, conversational edge:

Let’s talk operating expenses — where deals either thrive or crash.

Operating expenses cover everything it takes to keep a property running (minus the mortgage). And here’s the not-so-pretty truth: many property managers put more focus on income than costs. Why? Their pay is usually a percentage of revenue — about 3% — so cutting expenses doesn’t boost their paycheck.

When no one’s guarding the purse strings, costs can spiral. Maintenance bills bloat, utilities creep up, and vendor contracts go untouched for years. It’s death by a thousand cuts.

For Bleep Bleep, here’s the breakdown:

• Property taxes: $232,823
• Insurance: $167,000
• Utilities: $272,000
• Repairs & maintenance: $338,264
• Management fee: $140,352 (2.5% of effective gross income)

That’s $1.96M in annual expenses on $5.61M in effective gross income — a 35% expense ratio, which is unusually low. And when numbers look too good, you’ve got to ask what’s missing.

Why it’s location-specific:

• Phoenix: 35–40% expense ratios (low taxes, low insurance)
• Florida: 50%+ (hurricane + flood insurance, higher taxes)
• Florida coast: $3K–$5K insurance per unit/year
• Phoenix: $500–$800 per unit/year
• Texas taxes: 2–3% vs. Arizona’s 0.8–1.2%

What’s concerning here:

• Too high:
  • Payroll: $698,471 ($2,091/unit) — should be $1,200–$1,700
  • Advertising: $99,139 ($300/unit) — high for a stabilized property
  • G&A: $173,750 ($500+/unit) — points to inefficiency
• Too low (red flag):
  • Repairs & Maintenance: $338,264 ($1,013/unit for a 43-year-old property) — likely deferred maintenance; industry norm is $1,200–$1,500/unit

Opportunity + reality check:

• Trim payroll by $200K through efficiencies
• Cut advertising by $50K via better renewals
• Add $150K to maintenance for real upkeep
• Add $50K to insurance for proper coverage

The net: expenses stay about the same but the property actually gets maintained — instead of kicking the can down the road.

Why this matters: Every $1 saved in expenses adds $1 to NOI. At a 6% cap rate, trimming $100K in expenses bumps property value by $1.67M.

This is exactly why we never take seller financials at face value — low maintenance costs often hide deferred repairs, and high payroll signals poor management.

Net Operating Income (NOI): The Number That Rules Everything

NOI is the heartbeat of commercial real estate. It drives three things: your property’s value, your ability to pay debt, and your actual cash flow.

For Bleep Bleep:
Effective Gross Income: $5.61M
– Operating Expenses: $1.96M
= NOI: $3.65M

This is the property’s true profit before debt service.

Why NOI is Everything

Value: Property values are calculated as:
NOI ÷ Cap Rate = Value

Boost NOI by $100K at a 6% cap? You’ve added $1.67M in value.

Example: If you push Bleep Bleep’s NOI from $3.65M to $4M, at a 5.5% cap, value jumps from $66.4M to $72.7M — a $6.3M gain.

Debt: Lenders use Debt Service Coverage Ratio (DSCR):
NOI ÷ Annual Debt Service

Bleep Bleep: $3.65M ÷ $2.48M = 1.47 DSCR (banks want 1.25+).

Cash Flow:
NOI – Debt Service = Net Cash Flow
$3.65M – $2.48M = $1.17M/year in positive cash flow.

There are only two ways to grow NOI:

• Increase income: raise rents, lower vacancy, add income streams (laundry, parking, pet fees)
• Reduce expenses: renegotiate contracts, improve efficiency, control maintenance costs

Cap Rates Change Everything

In this submarket, caps run 4.5–5.5%.
At 5% cap: $3.65M NOI = $73M value
At 6% cap: $60.8M value
Small changes in cap rates = big swings in value.

NOI Pitfalls

• Relying on seller pro forma instead of your own conservative numbers
• Ignoring immediate capital expenditures that lower NOI
• Assuming you can raise rents without improving the asset
• Underestimating future expense growth

Debt Service & Cash Flow: The Reality Check

Debt Service = Annual mortgage payments (principal + interest)

For Bleep Bleep, actual quotes came in:

• 5-year fixed @ 5.44% on $44.6M loan
• 7-year fixed @ 5.55% on $44M loan
• 10-year fixed @ 5.68% on $43.3M loan

Using the 7-year loan: $44M @ 5.55% = $2.48M/year debt service (~$206.5K/month).

Cash Flow: $3.65M NOI – $2.48M debt = $1.17M/year in your pocket.

Cash-on-Cash Return: With $22M down (35% equity), $1.17M/year is a 5.3% return on invested cash.

Financing Pitfalls

• Over-leveraging: If NOI drops, you can’t cover debt
• Under-leveraging: Leaves money on the table, lowers returns
• Sweet spot: 60–70% LTV — balance risk and returns

The Verdict: Pass or Fail?

Base Case:

• Purchase Price: $66M
• $22M equity, $44M debt @ 5.55%
• NOI: $3.65M → $1.17M annual cash flow

Exit Plan: Sell in 5–7 years with higher cap rates. Buy at 5.5% cap, sell at 6–6.5% cap.

With 3% annual NOI growth:

• Year 5 NOI: $4.2M
• Exit @ 6% cap = $70M sale price
• Loan payoff: ~$40M
• Net proceeds: $30M

LP Returns:

• 80% LP share: $24M from sale + $4.68M in distributions over 5 years
• Total: $10.88M profit on $17.6M invested
• IRR: 11.8%

Sensitivity:

• 6.5% cap exit → IRR drops to 8.2%
• 2% NOI growth → IRR drops to 9.1%

Final Call: Passes on paper — but barely. Risk-adjusted returns don’t justify the capital.

Lesson Learned

👉 So we hope you catch this:  Fail early. Fail often. But fail in rehearsal—so you can prosper in performance.

Now if you’ve ever how I would build a real estate business from scratch… if ew had to start over?’

Then buckle up—because that’s exactly what we’re breaking down in the next video. We’ll see you there.