Purchasing and renovating residential property
II. Introduction
Today many entrepreneurs are seeking out properties in which they can buy, renovate and sell for profit this commonly referred to as flipping and it has some advantages. Most importantly, there seems to be great potential in business, especially in terms of making profits. The profits can be viewed under two key categories. The first type of profits comes from a quick purchase and the reselling of undervalued property. The other groups of profits result from the fact that one can renovate a house and resell it for increased price. Besides the profits, the social aspect of providing affordable and well-maintained housing cannot be ignored. Most especially, working for oneself can be highly motivating and satisfying (Barta 1).
However, house flipping also comes with major risks. These risks include: potentially overpaying for a house; the likeliness to underestimate the level and cost of repairs required; underestimating the holding time; overestimating the reselling value; overpaying the contractor before the completion of a sufficient level of work; as well as the likeliness to underestimate the costs of buying and reselling. These risks could easily nullify the main benefit, profits (Johnson 1).
To avoid these risks, it is vital to undertake an effective risk management strategy. This does not necessarily mean that the investor can avoid risks fully. Still, they may be able to minimize the risks (and their impacts) to near-microscopic levels. This paper focuses on four major areas of risk management: risk management planning; risk identification; qualitative risk analysis; and risk response planning.
III. Risk Management Planning
Risk management plan is not exactly about the specific risk management interventions. Rather, it is a general framework that facilitates risk management in a business. In this respect, the business or organization acknowledges and anticipates risks and outlines key aspects associated with the other three areas of risk management. This includes listing all the possible risks that the business or organization could face, deciding what levels of risks they are (such as low, medium and high based on the potential impacts that is/they could have on the business), and deciding what strategy to adopt in risk management: proactive (that is, avoidance or mitigation strategies) or reactive (that is, acceptance or transference strategies) (AIRMIC 7; Melone 1).
For this particular case, the risk management involves both proactive (before risks happens) and reactive (after risks has happened) strategies. The best idea is to prevent risks from occurring or keeping their impact under check. As AIRMIC (6) notes, it is always more effective to prevent the likeliness of a risk than waiting to repair the damage. However, it is also important to be realistic about the ability to do that. In this particular case, avoidance strategy would be too hopeful. The real estate industry is highly dynamic and uncertain. Moreover, the challenges of accurate costing means that it is never possible to make the ‘perfect’ decisions. Therefore, looking to avoid risks altogether would be unrealistic. As such, the plan here is to mitigate risks and/or their impacts.
Mitigation strategy focuses on reducing the likeliness and/or the consequences of a risk to an acceptable level. This involves taking action before the risks actually happen, which would reduce the likeliness of the risks happening. For example, using licensed contractors (who have valid workers’ compensation policies) will help avoid various potential liabilities.
On the reactive dimension, there are transference and acceptance strategies. Acceptance is important. It involves response to the risk item with a contingency plan when the problem occurs. This will involve ensuring work is done ahead of time to enhance the success of the contingency plan.
However, transference is also important. This is about shifting the ownership of the risk(s) and its/their consequences to a third party. An insurance cover can help cover the cost of the risk item. However, another option that can work is entering a fixed-price contract, which means that risks are transferred to the performing party.
The general implication here is that there are many risks that the business may experience. While, the general goal is to mitigate risks and/or their consequences, the choice of specific reactive response to adopt should depend on the type of risk. On that note, acceptance and transference may be used.
IV. Risk Identification
Risk identification is about determining the potential risks or risks that are already affecting the business. This involves monitoring the project regularly for risks, and managing the identified risks. Effective monitoring for risks involves: moving the high risk items to the issues matrix, which are to be assessed regularly; including risk section in status report and identifying necessary resources for likely risks; regularly evaluating risk management plan to identify new risks; and undertake constant reassessment of risks and reevaluation of risk management plan (AIRMIC 13).
Risk identification also requires the involvement of all people who have a stake in the project (stakeholders), including contractors. In this respect, the all the stakeholders should be informed about what constitutes risk and how to identify it. Finally, they should know how to report to the owner or management. But the stakeholders should only be involved in the identification of risks, but also assessment.
The risks associated with this particular case include:
• The likeliness to underestimate the level and cost of repairs required
• Underestimating the holding time
• Overestimating the reselling value
• Overpaying the contractor before the completion of a sufficient level of work
• Likeliness to underestimate the costs of buying and reselling
V. Qualitative Risk Analysis
Risk analysis focuses on the potential impacts of the identified risks. In this regard, the risks are placed under various categories that help understand them better, including how prioritize risk management (including what to start with and what to focus on later). These categories of risk identification may include:
• The probability of occurrence: frequent (occur occasionally and will continue to be experienced unless the owner or organization takes appropriate action); likely (could occur less frequently is the owner or management corrects the process); occasional (these occur sporadically); seldom (these are less likely to occur); and improbable (highly unlikely to occur).
• Area of impact: cost; scope; schedule; and performance or quality
• The level of potential impacts of the risks on the project: catastrophic (likely to lead to the collapse of the entire project); critical (may not bring the entire project down, but it still hurts that most important parts of the project; moderate (hurts the project but can be corrected quickly); minor; and negligible.
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