The well-known business guru Peter Drucker once said, "Long-range planning does not deal with future decisions, but with the future of present decisions." This is the basic philosophy professional financial planners use in guiding their corporation shareholder clients. Board members who are responsible for guiding their buildings’ financial futures must always consider both long-range and short-range needs and contingencies.
The first step in preparing for the future is to begin to think beyond the budget for the current year. Take the time to develop a realistic business plan that will map your route for the next five or ten years down the road. This is an excellent opportunity to explore costs outside of routine maintenance fees, taxes, and the like. Suppose, in a year or two, your building needs a new roof, or new windows. Paying for expensive capital improvements within a one-year time frame can spell financial doom for a building. Clients must think of their co-op or condo corporation as a "going concern," a business that is able to remain viable and operate successfully through the ups and downs of a dynamic economic environment.
- A successful business plan always starts with the budget process and has a life that extends far beyond one year.
- The following important guidelines can help build your corporation’s secure financial future:
- Set current priorities and establish future needs.
- Hire an engineer to study the physical needs of your building over the next two years.
- Obtain appropriate estimates for costs of these improvements—new elevator, windows, concrete, etc.
- Once the physical needs have been assessed, set priorities for installation.
- Incorporate the costs for capital improvements into each year’s annual budget.
- Determine your fixed and variable annual maintenance costs.
Based on these figures, decide how much of the corporation’s reserve funds will be depleted on these projects and how much should be replenished by either special assessments or from the current year’s operating surplus.
Consider whether your maintenance charges are competitive with surrounding buildings and in line with your geographical location.
Of course, a budget is not carved in stone and can in fact be used as a tool in assessing your corporation’s changing needs. Three to six months after the budget is in place, take a second look. Are you reasonably on schedule? Are you far ahead of your plan, or might you need a special assessment or maintenance adjustment? It is important to constantly compare the current situation with earlier projections.
So what happens if your board planned so well for contingencies that never came up that your building has a substantial budget surplus at the end of the fiscal year? How do you handle the leftover money? The most effective plan is to allocate these funds to either your operating reserve fund or your capital improvement reserve fund. Now, when you prepare the next annual budget, additional funds will be available to dedicate to other important budgetary issues at the board’s recommendation and discretion. Successful budgets should allow for the unexpected—a sudden downturn in the market, excessive snow removal costs, or skyrocketing fuel prices. If money remains available for the down times, it will be much easier to convince your shareholders to spend on updating and other capital improvements in more prosperous circumstances.
There are other important aspects of the budget process that need to be addressed by board members. If you’re currently serving on your building’s board, consider the fact that your performance will be judged by others, and that you want to communicate leadership and strong direction. The budget process and resulting financial statements become "windows" by which the outside world can view a particular co-op over a period of time. Consider that when a third party—anyone from a prospective purchaser of co-op shares to a bank, insurance company or vendor—needs information, they look first to financial data that is public record. The prospective buyer who is negotiating with a current shareholder does not want to learn from his or her accountant that the co-op’s financial statements show that no reserve funds have been established, or that the building’s capital improvement record has been patchy.
In planning for the future, your board must also consider the culture, economic status, and age of your shareholders, and be sensitive to their conditions.
The rules for buildings in higher- or middle-income areas are different from those in low-income areas. Senior citizens have different concerns from those of families with young children. If most of the residents are transient, their expectations will differ markedly from those of long-term, concerned shareholders. Regardless of your building’s demographic, however, it’s simply crucial to consider the social and psychological implications of their financial decisions. It’s vital that boards keep open lines of communication with their shareholders. There is nothing like a lack of cooperation to ambush even the best laid strategic plan.
Cooperation becomes even more vital when the topic of refinancing is put before the board. Refinancing must be explored carefully and diligently, and it is not necessarily the answer for every building—even when rates are lowered. If refinancing makes sense, take advantage of it. But first, check your co-op’s financial map. How does refinancing fit in with the overall business plan for future needs? How long will it run? In some cases, refinancing has hurt—rather than helped—shareholders. Corporations can find themselves locked into paying a high percentage of their maintenance charges to cover the interest on an increased mortgage, putting the building at a disadvantage when it comes to attracting new owners.
Sometimes corporations stumble because they do not fully understand the consequences of their actions. In one case, a co-op board refinanced their existing mortgage, but took out far more money than they needed. (The mortgage payoff was $1 million, and the board borrowed $2 million.) The additional borrowed funds were borrowed at good rates and placed into a reserve fund to be used for future capital improvements, but the immediate result of the new mortgage was a dramatic increase in the monthly maintenance charges. Shareholders were angered that they were now paying double their original maintenance charges, and that their co-op now had some of the highest maintenance costs in their immediate area.
In addition to the shareholders’ ire, the sponsor of the property—who still retained more than a 15 percent interest—was also very unhappy about his increased monthly carrying charges. He was locked in to lease agreements, and now his rental income would not be sufficient to cover the monthly carrying costs. This caused the sponsor to start selling his units at slightly below fair market costs, at the expense of other shareholders who wanted to sell but could not meet his below-market prices.
In another case, a co-op suffered severely because of a missed opportunity. The board had a chance to borrow money from their bank at very favorable rates. The loan would have reduced their interest rate by more than two percentage points, enabled them to establish a reserve fund for future capital improvements, and all without substantially increasing monthly maintenance costs. The board, however, chose not to borrow the additional monies for the reserve fund. Some two years later, the building’s roof could not hold even a modest amount of rain, the basement flooded during a rainfall, and one of two elevators needed a complete overhaul. Each of these three problems required immediate attention, and their costs could not be phased in over an extended period of time.
The board went to their bank to seek additional funds, but the bank, citing concerns about the building’s future cash flow, rejected their request. The board then approached a different bank and was advised that their new mortgage carried a significant five-year prepayment penalty. Without access to additional funding, the board was forced to declare a very large special assessment requiring 50 percent to be paid within 30 days and the balance to be paid over the following ten months. The result was a group of very angry shareholders, dissatisfaction with the board representation, and ultimately—litigation.
Disputes can be avoided, deterioration of property prevented, and everyday operations enhanced through the development of sound business planning. Board members may serve for finite terms, but the corporation should have no term limits. Today’s financial decisions not only affect current residents, but they will reverberate for those that follow. Indeed, the future is now. By creating a carefully crafted, well-reasoned business plan you can set your corporation on a course for success
Mr. Meinberg is managing partner of Feldman, Meinberg & Co. LLP, a full-service CPA firm in Syosset, New York