As Herman & Kittle Properties’ portfolio grew from a few thousand units to more than 8,000 in the last decade, we needed to formally recognize an asset management function, which we define as a function that addresses issues for the portfolio as a whole rather than property-specific problems. And, we wanted to do it in a way that created a sustainable competitive advantage for our affordable portfolio in light of the revenue restrictions for low-income housing tax credit deals.
We considered several options for setting up such a function. The first was to just do nothing. After all, our current approach of relying on components of our accounting, finance, legal, property management, construction, and ownership teams has served us well. But, this would be shortsighted for our current and potential portfolio as it overlooks a tremendous opportunity to capture otherwise unrealized income.
Another option was to simply adopt a traditional asset management approach to the portfolio. There were two big drawbacks to this approach—we did not have anyone on staff with the broad range of skills necessary to provide traditional asset management, and it would not differentiate us from competitors. Plus, our lenders and investors already provide many of the traditional roles of asset management in addition to what we do internally.
The third option, and the one we chose, was to adopt a form of problem-solving, management, and process improvement from outside the apartment industry—Six Sigma. Six Sigma was started in the manufacturing industry and builds on practitioner input, rigorous statistical analysis, and quantifiable outcomes to create long-term change.
We did not have anyone on staff with the necessary training so we considered online programs, in-person classes, or some combination of the two, all of which are available in most communities. Ultimately, we determined that an in-person class with a local and reputable provider was the most appropriate step for our introduction to Six Sigma. We were fortunate because the program we chose had an instructor, Michael Hensley, who was already looking for opportunities to implement Six Sigma beyond manufacturing and into the service, nonprofit, and government sectors. And, in line with Six Sigma’s overall intent, his objective was not just “to make things better” but to help us move from using reactive solutions to proactive ones.
Six Sigma’s methodology starts with a “project charter” to outline a common set of objectives, action items, and timeline for a team. This starting point can be enlightening. For example, the creation of a Value Stream Map is one step in Six Sigma where you outline the flow of information, the flow of materials or services, and the place(s) where value is added to the process. While every apartment shop is different, this particular tool is helpful in understanding both the overall business model and the specific places where resources (people or things) are being wasted, information is not being used effectively, or efficiencies can be instituted.
The second step can get tricky—measurement. I expect that all sponsors, managers, lenders, and investors, especially when they achieve a particular scale, feel they are good at measurement. This has led to the frequent use of dashboards, revenue management systems, and all types of automated reporting. But, when this desire for information is combined with the capacity of current technology, many companies become “too good” at measurement and are overwhelmed by data. They lack the next Six Sigma step—analysis.
Our analysis started with delinquency data collected by our property management team. While there are always exceptions, our bad debt suggested our collections were generally in line with industry averages and internal expectations.
But, when we looked at our delinquencies as of the end of the grace period, a portion of our portfolio had high initial nonpayment rates (see chart). This did not necessarily show up in higher bad debt because of enhanced collection efforts instituted by our property management team. But, this meant a lot of managers’ otherwise valuable time and energy was being spent on follow-up calls and collections instead of resident satisfaction and relationships. We knew from the Value Stream Map, noted above, collections were not where value was being added to the process.
So, our next step (and current activity) is to also add a proactive adjustment to our system. For example, our data analysis shows very little connection (or correlation) between delinquencies as of the initial due date and delinquencies as of the end of the month (see chart). This is leading us to look at a variety of issues including our resident selection criteria. We are interviewing potential information providers as we work to build our own proprietary screening methodology using advanced statistical analysis to estimate the probability of late payment. This step is where our form of asset management is moving from traditional rules of thumb, industry standards, and “best practices” to hard-core data analysis that creates a proprietary competitive advantage that is specific to our portfolio, residents, and communities.
The Six Sigma process will conclude with the last two steps—improvement and related process controls. Once we are confident our measurement system is providing the appropriate actionable data and our analysis has shown the adjustments that are needed, we will implement the appropriate improvements and process controls.
The ongoing implementation of Six Sigma is an integral part of our approach to portfolio management. It offers a proven methodology for problem solving and creating sustainable, proprietary competitive advantages. We anticipate many additional applications to issues such as utility costs, revenue management, construction issues, and financial reporting—basically any activity that has a wide variation in outcomes, timing, or costs.
Todd Sears is the executive vice president of portfolio and corporate finance at Herman & Kittle Properties, Inc. Herman & Kittle is a full-service developer, contractor, property manager, and owner for apartments and self-storage communities in the Midwest and South.