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Financial Statements: The Good, The Bad and The Ugly

Keep Your Eye On The  Ball:   When purchasing a co-op apartment, a purchaser is actually buying shares of a corporation and not just an apartment.  I imagine that most people would not invest a large sum of money in any other business without knowing the financial condition of the business.  Yet, when it comes to buying a co-op, most people never think of asking how the co-op’s business is doing.

After your offer is accepted, your attorney will receive a proposed contract and most likely several documents among them being a few years worth of financial statements.  These statements will show the co-op’s balance sheet and net income or loss. An accountant with knowledge of co-ops should review the financial statements, but you, the buyer, should also take a look to get at least a general idea of what is going on in the business of running the co-op.

As a general rule, you will receive at least three years of past financial statements. For example, if buying an apartment in 2011, you will have the 2010-2009 and the 2009-2008 financials.  By looking into the past, you are attempting to predict how the co-op will operate in the future.

Here are some basic tips of what to look for:

1)    Changes in Maintenance.  The maintenance receipts should be more or less constant.  If maintenance has been increasing each year then you should question why.  It might be that overall costs have simply gone up throughout the City (like fuel and taxes) and that should not be of concern.  But it could also reveal poor management.  Similarly, in the unlikely event that you see a decrease in maintenance, you should find out what happened.  For example: Did several shareholders not pay their maintenance?  If so, did they have a good reason or did they just run out of money?  If the former, make sure the reason no longer exists and if the latter, be prepared for this problem to continue and think about the consequences if the co-op needs to raise more money by way of assessments or further in maintenance.

2)    High Legal Fees: This can be the Ugly.  Find out why.  When legal fees are high it may be an indication that the co-op is involved in litigation that is not covered by insurance, and if so, try to get a handle on the merits of the lawsuit and the possible negative impact.

3)    Decreases in Expenses: This is generally the Good but might be the Bad. A decrease in expenses usually indicates that the co-op is well managed. For example, if heating costs went down, either everyone is freezing or more likely the co-op implemented some energy saving methods or devices.  However, a decrease in wages could mean that the doormen are no longer 24/7.  It is important to find out why the expenses went down.

4)    The Notes:  The devil is in the details.  The financial statements will almost always have references to notes located at the end of the statements after you are dizzy from the read. Yet these notes are important and the good news is they are often the most readable.  Written in prose for the most part, they let you know how many apartments make up the co-op (think how many people will share an assessment if there is a big problem), whether  there were recent major repairs, when the mortgage is due and other information which you might want or need to know about.

These financial statements are not easy to decipher and sometimes will not make any sense at all.  But they can be indicators of how the co-op has been and will be run in the future.  I think it’s a good idea to see what they reveal so you can have a knowledgeable conversation with your accountant and attorney before you sign on the dotted line.  After all, after you close the apartment these will be the numbers of YOUR BUSINESS.

Although this post focuses on co-op apartments, a purchaser would have many of the same concerns with the purchase of a condominium apartment even though you are technically not buying shares of a corporation because condo owners still have to deal with, among other things, common charges, assessments and repairs to the building.

Category: Do Your Diligence, Financial Statements, Financials, News 2 comments »

2 Responses to “Financial Statements: The Good, The Bad and The Ugly”

  1. Ed

    Excellent article.

    As a former treasurer of a Coop board, it makes a lot of sense to me.

  2. Phil Cagney

    Is it normal for brokers to supply financial statements to interested parties before an offer is made?

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