Hey Everyone, Do These Numbers Add Up? - Posted by Nick

Posted by JHyre in Ohio on April 14, 1999 at 15:47:51:


Nice analysis- must be the engineer in you! I’m in the same boat- looking for real deals (after work) because the run of the mill cap rates are pathetic. Sometime’s I’m tempted to jump in and accept a deal just to have a deal, but so far I’ve resisted the urge to join the Dark Side. Happy hunting!

John Hyre

Hey Everyone, Do These Numbers Add Up? - Posted by Nick

Posted by Nick on April 14, 1999 at 06:49:00:

Hello everyone;

I talked to a real estate agent and he gave me a nice
little folder of actual real estate deals that he has done.

He provided complete financial details.

But since many of you guys are experts, please tell me if
the numbers truly do add up.

Here it is:

A property on Washtenaw Ave. in the north side of Chicago. It is a four unit building.

Purchase price $269,000

Monthly rents $3020

Cash investment $20,723

Rental income $36,240
Expenses -$29,001
Profits $7239
Return on investment 35% That is amazing to me!

Mortgage balance $242,100
End of year $239,274
Equity increase $2826
Return on investment 14%

Price appreciation $269,000 X 0.05%= $13,540 or
a return on investment of 65%

So do all of these numbers really add up or is he trying
to full a fast one on me?

Re: Hey Everyone, Do These Numbers Add Up? - Posted by Jim Beavens

Posted by Jim Beavens on April 14, 1999 at 14:11:06:

When you get up around 4 units and above, the financial analysis starts to take on a different slant than how you would look at a house. This is because for somebody owning such a property, their sole purpose for buying it is the income that it generates. Thus the value that the property is worth is based solely off the income it throws off. The key measurement for comparing different investments based on this criteria is the cap rate, or capitalization rate.

For more information on cap rates and valuating income properties, I wrote up an article called Crash Course in Commercial Real Estate, which JP graciously offered to post in the Money Ideas section of this website.

The thing to watch out for with this deal is what makes a lot of deals look better than they actually are: the expense estimates look too low to me. If we assume that the loan is a 30-year loan at 9%, then the annual mortgage payments come out to about $23,300. That $29,000 expense figure then leaves only $5,700 for other things like vacancies, utilities, taxes, and maintenance. That’s only 15% of the gross income, where 30%-40% is probably more realistic for a 4-plex.

Here’s how I pencil this out:

Gross Rents: $36,240
Vacancy (10%): -$3,624

Gross income: $32,616

We’ll be optimistic and say 30% of the gross income goes towards maintenance (this pretty much rules out a management company, so I hope you want to be a landlord): - $9,785

Net Operating Income (Gross - Expenses): $22,831

Cap Rate (NOI/Sales Price): 8.5%

This means that if you were to put $269,000 of your own cash towards this deal, you would receive $22,831 a year, or an 8.5% yield. Now I ask you…if you were to borrow most of this amount at 9% interest, do you think you would have a positive cash flow?

Unless you can get a substantial discount on price, or if you know that rents are way under market and you’re confident in your ability to quickly raise them (and have the cash reserves to handle the ensuing vacancies), then this isn’t a deal.

However, even if you do find a deal on a multi-unit building like this that looks good, you have to ask yourself if this is really what you want to do. I once thought like you did, and actually went out of state to find cheap multi-unit residential property. I found two 6-plexes that were a ridiculous $90,000 each and had 15% cap rates (this is the basis for the example in that money ideas article). So I liquidated all my stocks, took out a home equity loan and mortgaged my house to the hilt, and plunked down a 15% down payment on those properties. They should provide about $1,000 a month in positive cash flow, and hopefully more once I raise rents, which are $50-$100 below market, and I am obviously very happy about these deals. But what do I do now? I’m broke! I figured that I was happy just simply treating this like another one of my investments like stocks or mutual funds.

But the CREOnline convention really opened my eyes, and made me realize that I can have a very successful real estate business even in my overpriced local market. Now this doesn’t mean buying and holding over-leveraged rental properties, it simply means that there is a place in EVERY market in the country for a creative middle man to offer solutions to motivated sellers and to buyers who have been kept from their dream of homeownership by banks. Through courses I picked up at the convention, I’m realizing that by bringing these two groups of people together, there is tremendous profit potential to be had.

I don’t have anything against buying and holding, but I do feel that many areas of the country are not conducive to this approach (particularly since many high-priced areas have been fueled by our strong economy, which I personally feel can only go down from here, although when is anybody’s guess). I wouldn’t be surprised if that 8.5% cap rate is very common for your area. This doesn’t mean their aren’t deals to be found, but you’ll probably have to do a lot more to find them than pick a commercial broker at random and have him show you his listings.

Sorry for rambling so much, I know this is way more than your question asked, and probably confused you. So to sum up, NO, this is not a good deal, go find another one and don’t give up. Remember this is all my opinion, which may be totally worthless.

Re: Hey Everyone, Do These Numbers Add Up? - Posted by John Butler(Stl)

Posted by John Butler(Stl) on April 14, 1999 at 13:47:05:

I can tell you that I wouldn’t have bought this building, but I am greedy and spoiled living in St. Louis. If you crunch the numbers they gave you, it looks a little fishy. If you take the ~21,000 down payment, it would give them a 1st mortgage of 248,000. At an 8% rate and 30 year amortization, this yields payments of $1819/mo or 21828/yr. This means you have $36,240-21828=$14,412 to pay all taxes insurance and maintenance. Judging from his profit figure of $7239, this means his taxes, insurance and maintenance were only $7173 for the year. This seems awefully low to me, since expenses usually run ~40% of gross rents(14,496 in this case.) This means that this guy either had a unusually low maintenance year or possibly was deferring some repairs to make his numbers look good :slight_smile:

Now I know you are a skeptic, but I want you to understand that the deals are out there that will create even better numbers than what you were given. All of the calculations you were given will work on real properties. I just wanted to make sure you didn’t try to model your deals after this one, because their expense figures look unrealistically low.

Hope this helps,


Re: Hey Everyone, Do These Numbers Add Up? - Posted by John(NH)

Posted by John(NH) on April 14, 1999 at 12:16:20:

A few things:
How did he buy with a 7% cash investment, which I assume includes closing costs?? If it’s unconventional, have him give you the details.

The cash investment + mortgage balance does not add up to the purchase price. Where is the missing money?

I wouldn’t figure in appreciation since it’s speculative, and I wouldn’t count depreciation since it’s a fixed percentage. I would look at the ROI only. Compare it to others in your area. In my area, I can get the same profts with a far far less purchase price. And that means a much higher ROI.

Also, the return on investment you have doesn’t include major things like new roofs or furnaces, etc that occur every X years. It lowers your overall numbers some, but just be sure to check if these items needs replacement within a couple years after you buy…

If you’re really suspicious, curious, or thorough, check the mortgage deed(s) at the courthouse.

Food for thought.

Re: Hey Everyone, Do These Numbers Add Up? - Posted by Mark (SDCA)

Posted by Mark (SDCA) on April 14, 1999 at 10:28:41:

Yeah, it seems ok to me. Assuming that “expenses” includes the debt service. 4-plexes are great investments. Also, I wouldn’t necessarily count on the 5% appreciation. It is great if it comes but you never know. So make sure the deal stands up without that.


This is how I do it… - Posted by BRnBA

Posted by BRnBA on April 14, 1999 at 16:22:28:

I’m no expert at property analysis and this may not work everywhere…probably won’t…but it is simple enough for even me to understand. Where 4 plexes are concerned, if the income from 2 units won’t make the payment I’m not interested, full stop. I’m very conservative where rentals are concerned. I won’t keep properties without a fair amount of equity or good positive cash flow.