[list]OK, good we got the GSI established.
If the vacancy is 10%, then the rents, by all measures are too high.
We need to be at 5%, on a rolling average. On seven units this can be somewhat hard to measure. However, for a working analysis and negotiations, 10% is conservative.
If you are not paying utilities, except for water, and the building is not older than 1970, you can safely assume the expenses are 50% including the 10% vacancy/credit loss factor.
So, with an annualized GSI of $44,700, your NOI should hover around $22,350.
Subtract your scheduled debt service of $17,256, and you’ve got about $5,000 in cash flow.
Then you’ve got an annual loan-balance reduction (pay-down) and annual depreciation, which will add to the bottom line.
Your raw, initial C.O.C. return is 7.3% (before depreciation and debt reduction)
The CAP rate is only 6.2%.
So, the rents are slightly too high, the cap rate is too low, the C.O.C. return sucks drain water, BUT this is really good for a building this small.
There’s lots of investors who would be happy with these numbers, on a little building like this, in coastal areas especially, where anticipated appreciation rate/rental increases are more than 5% a year.
One question to answer is, “What is the anticipated appreciation/rental income increases for this area?”
- Will this building need a major overhaul, such as a galvanized plumbing change-out?
- Does the building have enough upside potential in rents (not obvious from the vacancy factor at this point), to make this deal more attractive.
- What can you do, if anything, to force the appreciation, significantly?
- Are the seller’s actual operating numbers higher (worse) than 50% of the GSI?
- If so, why, and where, are they higher? What can you do to reduce those expenses?
- Can you get a better rate than 7-plus percent on your financing?
- Is the building tired looking, and needing a face-lift?
- How much would that cost, and how much would that allow for an increase in rents, and how quickly could you recover the upgrade expenses?
- Are the current managers/owners lazy, and is that the reason the vacancy factor is hovering at 10%? Or is there a chronic vacancy factor in the area that is pushing this building to 10% vacancy?
All sorts of questions to ask yourself.
Frankly, the easiest way to increase the returns, and overcome high vacancies and expenses, is to negotiate/create better financing terms for yourself.
For example, the fastest and easiest way to do that is to get the seller to finance all, or part, of the transaction.
- Can the seller carry the down payment? Or the entire sale price, if you offered him full price?
For example, if you offered full price ($290,000), could/would the seller finance 100% of the project, at say prime rate of 3.5%, fixed, for 10 years?
That would significantly reduce your annual debt service to $15,626, or add $1,630 to your projected bottom line of $5,000.
- Could you offer more than $290K, and still negotiate an interest rate that provides some cash flow?
If so, it would be a great ‘no down’ portfolio builder, that represented high-leverage, some cash flow, and yet without unnecessary risk.
Meantime, what’s the return on ‘nothing down’ with an annual cash-flow of $6,724?
Just food for thought. It’s amazing what terms can do for the bottom line of an otherwise ‘iffy’ deal, huh?
Hows that for bullet-point over-kill?