Pretty Profits from Ugly Houses
Published in The New York Times
February 19, 2006
How HomeVestors went national
THE modest three-bedroom row house in a working class section of Philadelphia was vacant, but old furniture, clothing and children's toys were strewn about, as if the owners had left without fully packing.
Nick Cifaldi, a Philadelphia entrepreneur, was inspecting the house, which he had bought days earlier from a couple about to lose it to foreclosure.
"Here's the game plan," he said. "I'm going to have the carpets cleaned. I'll paint, and then I'll put it on the market." The price, he said, would be $145,000, tens of thousands of dollars more than he paid for it. "For someone willing to do a little work, it's a good buy," he added.
Mr. Cifaldi, 41, is a Philadelphia franchisee of HomeVestors, a company that specializes in buying houses from people who want or need to sell them quickly. In the 30 states where it operates, HomeVestors is known for the bright yellow billboards that announce: "We buy ugly houses." The billboards feature a toll-free number that brings calls to the HomeVestors headquarters in Dallas. From there, the leads are passed on to the franchisees.
When he bought his franchise, in September 2004, Mr. Cifaldi, a former furniture company executive, said, "The only thing that scared me was, 'Is the phone going to ring?' "
"It rings," he said.
In 2005, the company's 250 franchisees bought and sold more than 6,000 homes, allowing HomeVestors to call itself "America's largest home buyer."
Given that distinction, it's no surprise that the company has attracted negative attention. Real estate brokers complain that companies like HomeVestors — known as "rapid resellers" — take advantage of unsophisticated sellers who could get more for their houses.
"In general we'd recommend that people contact some Realtors in their area to get an idea of the value of their home, even given its condition," said Stephanie Singer, a spokeswoman for the National Association of Realtors.
"A lot of times," she said, "what might be termed an ugly home would cost relatively little to fix up. We believe sellers should be informed."
But formal complaints about HomeVestors appear to be rare. Calls to legal aid lawyers in cities where HomeVestors operates failed to elicit any tales of buyers or sellers being exploited. Extensive Internet searches turned up only a few complaints — and most of those seem to have been generated by one Texas couple, angry, they claim, that a house they bought turned out to lack proper electrical and heating systems. John Hayes, the company's chief executive and president, said HomeVestors tried to satisfy the couple, to no avail. He added that the seller of the house, in Gainesville, Tex., "is no longer a HomeVestors franchisee."
It seems hard to believe, in an era in which home improvement is popular enough for prime time television, that there is money to be made from so-called ugly houses. And yet HomeVestors works hard to protect its "ugly" turf. Over the years, Mr. Hayes says, the company has brought 80 trademark actions to protect its slogan (and its mascot, a caveman called Ug). He said the company has prevailed every time.
The originator of the "ugly houses" formula, Ken D'Angelo, was a Dallas real estate investor. In 1996, confident that his ways of buying houses at a discount could be taught to others, he began to franchise the HomeVestors method.
There are other "rapid resellers" in the United States, including EZhomebuyers of Fort Wayne, Ind. But HomeVestors is the only franchise operation. New franchisees take a two-week course at "ugly university" in Dallas. Asked what franchisees are taught during the training program, Mr. Hayes said: "The trick is to buy homes for 60 to 65 percent of what they would be worth in good condition."
As for how that's done, Mr. Hayes said, "Say I come to your house, which you think is worth $100,000. But you've got to get out of town, because of a new job or a divorce. Or say it's not even your house — it's your parents' house, and you've been paying outrageous insurance rates, and trying to take care of things from hundreds of miles away. How long are you going to keep doing that? So if you know it's worth $100,000, and I offer you $65,000, you may think I'm crazy. You may even throw me out the house."
But, Mr. Hayes said, now addressing the new franchisee: "Don't throw away their name and number. I want you to call them in a month. That's often when the sale is made."
For some people who sell their houses to the company, it's an easy route out of a tough situation. One of the testimonials on www.homevestors.com, the company's Web site, is from Walter Osterkorn, a retired sales manager. In a telephone interview, Mr. Osterkorn, 77, said he recently inherited a house from a cousin, who had let the building "go to pot." He said he started fixing up the house, but didn't have the money to complete the job. After hearing a HomeVestors ad on the radio, he called and asked the company to make an offer.
He accepted $150,000 for the house, and watched as HomeVestors fixed it up and later sold it for $210,000. He estimated that HomeVestors spent $30,000 or more fixing up the house. That would have given it a profit of about $30,000 on a $180,000 investment, or around 17 percent, before deducting costs of operating the business.
Two years ago, Mr. Cifaldi was a furniture company executive looking to make a career change. When he settled on a HomeVestors franchisee, it meant "risking everything." His wife, pregnant with twins, "was ready to divorce me."
Mr. Cifaldi said he expects to recoup his investment within two years. He said "it's been a very good year and a half," in which he bought 47 houses, sold 30, and is running seven more as rental properties. "I'm adding employees, and we're about to move to a bigger office," he said.
Mr. Cifaldi may get homeowners to sign a contract of sale during the first meeting. But, he said, "I'm not strong-arming anyone; I'm solving people's problems."
"I know there are sleazy people in this business. If they rip people off — shame on them," said Mr. Cifaldi, who grew up (and whose parents still live) in the same North Philadelphia neighborhood where he does much of his business.
Once a franchisee arranges to buy a house, he may "flip" it to an investor. Or he may list it for sale to the public. (Some franchisees have real estate licenses; others, like Mr. Cifaldi, team with agents.) Or he may begin a full or partial renovation, whichever yields the greatest profit. Or he may keep the house and rent it. Mr. Hayes said that, if an economic downturn makes houses harder to sell, renting may become an important source of revenue.
Mr. Cifaldi often turns to investors, sometimes getting them to commit to buying a house just hours after he's arranged to buy it himself. Do the investors mind paying more than Mr. Cifaldi paid the same day? "Finding these houses is my full-time profession," Mr. Cifaldi said. "Investors understand that."
Besides, he said, there is enough profit to go around. "If someone's worrying about how much I made, I can't work with them," he said.
Franchisees pay an initial fee of $46,000 and agree to pay monthly fees as well as fees for every purchase. They also pay into an advertising fund to support the billboards. Over all, a new franchisee is expected to commit about $200,000 to the business, according to Mr. Hayes.
So far, the company's operations have been focused in the South and the Midwest — especially parts of Texas, Florida, Georgia, and the Carolinas, where real estate is inexpensive. This spring, HomeVestors expects to add franchisees in New York, New Jersey, Connecticut and Massachusetts. "We had to decide, should we go east or west? Since we had some momentum in Philadelphia, we decided to go east," Mr. Hayes said. He said that ultimate goal is about 45 franchises in New York State alone.
"But we won't be in Manhattan, said Mr. Hayes, a former journalism professor who became chief executive in 2005, after Mr. D'Angelo died of cancer.
The reason, he said, is that the typical HomeVestors franchisee has about $250,000 in capital to work with, and that won't buy much in Manhattan. "We'll be in the boroughs, and in places like Rochester," he said. In Philadelphia, Mr. Cifaldi buys many houses for $50,000 or less; in some states, houses for $20,000 are not uncommon.
The company may not be able to open in New Jersey. One of its services to franchisees is lending them money for quick purchases — currently at about 9 percent interest. But HomeVestors hasn't been able to get a license to loan money in New Jersey, because it doesn't have an office there, and, Mr. Hayes said, doesn't plan to add facilities beyond its Dallas headquarters.
Borrowing money at 9 percent or more to buy $70,000 houses isn't an obvious way to get rich. But HomeVestors franchisees say they do well. Mr. Hayes said that about 10 percent of the franchisees leave the company each year. Some have made money and decided to sell the franchise, with the approval of HomeVestors, at a profit, Mr. Hayes said. Others, he said, decide that the business isn't right for them. "I love it when a franchisee is honest, and says, 'I can't do this.' We try to help those folks."
And some franchisees are terminated. Maybe, Mr. Hayes said, "they decided it's too much work, and they stop answering the phone. Maybe they decided to get a job, or move."
The company has been sued by a franchisee only once, Mr. Hayes said. An African-American franchisee accused the company of race discrimination after it refused to approve a deal to transfer ownership to a partner. (The company denies the charges of discrimination, but it settled for what Mr. Hayes said was "a very small amount of money — much less than it would have cost to go to court.") Mr. Hayes also knows that "rapid reselling" is controversial, and several states are considering laws that would make it difficult for investors to buy houses immediately prior to foreclosure.
Recently, the National Consumer Law Center, an advocacy group in Washington, issued a report about investors who mislead homeowners into thinking they can avoid imminent foreclosure without having to move. Generally, the investor buys the house, then leases it to the seller, who in some cases has an option to buy it back. In the worst cases, the rent is so high that the former owner is certain to be evicted. In its report, the National Consumer Law Center did not mention HomeVestors, and Mr. Hayes said that's because his franchisees do not engage in deception.
According to Mr. Hayes, HomeVestors franchisees sometimes lease houses back to sellers who couldn't afford their mortgage payments. "Consumers benefit from these arrangements," Mr. Hayes said. "We handle them responsibly."
Mr. Hayes's own route into the franchise business was circuitous: a former journalist, he has a doctorate in American history. In the 1970's, he was teaching at Temple University in Philadelphia when he decided to write a book about franchising. The book led to a career as a consultant for franchise companies, including HomeVestors. In 2004, the company's founder, Mr. D'Angelo, learned that he had terminal cancer. He asked Mr. Hayes to succeed him.
Mr. Hayes said he immediately said yes, though it meant a reduction in income. (Mr. Hayes gave up his own HomeVestors franchise, he said, to avoid any appearance of conflict of interest.) But he received stock options that will pay off handsomely if the company does well. For 2005, the franchise company, which is not publicly held, projected $15.7 million in revenue and $1.95 million in profit, according to a spokeswoman, Monica Feid.
Mr. Hayes says he is optimistic that the company can weather a decline in real estate prices, which some experts say is coming. "We're not operating at the high end," he said. "There isn't a lot of bubble to burst in an $80,000 home."
Besides, he said, people who are forced to leave expensive properties "will have to live somewhere."
"They could end up in one of our houses," he said.