Posted by Darius on July 25, 2003 at 13:16:23:
Thanks for the advice. This is my first commercial deal and any help is appreciated.
Is this a good deal? - Posted by Darius
Posted by Darius on July 24, 2003 at 13:41:47:
Seller has 4 apt complexes- 74 units total. Gross income is $391,560 annually if fully occupied. NOI= $176,202(before debt services). He wants to sell for $2.2 million
He may be willing to hold the mortgage with a reasonable down payment. Is this a good deal?
Re: Is this a good deal? - Posted by Robert H. Turner
Posted by Robert H. Turner on August 02, 2003 at 17:46:13:
Darius
$391,560 in revenue and $176,202 in Net Operating Income (which, presumably, includes deductions for replacements for such items as carpets, appliances, HVAC, etc.), nets an operating expense amount of $215,358 or $2,910 per unit. Even assuming very little vacancy (and, perhaps a bigger stretch, very little turnover), it would seem highly improbable to have revenue of $5,291 per unit per year and only $2,910 in operating expenses per unit per year. There are a couple of places where true operating expenses produce such a large margin, but its more than likely that you aren?t getting the complete picture.
Also, multi-property operations tend to be less efficient than single-property complexes ? especially when under 100 units. My ?rule of thumb? for properties below 100 units is at least a 55% expense-to-revenue ratio BEFORE adding an on-going reserve deduction (typically $250 per unit, although sometimes larger for larger-unit properties or much large for older properties expecting significant future capital replacements). Applying these to your numbers would adjust your NOI number down to at least $157,702 (before any adjustments to other categories such as taxes and insurance reflecting your cost ? not the Sellers ? after closing).
Using your purchase price number of $2.2 million, an 80% loan to value (LTV) loan, no up-front capital reserves (highly unlikely if your smart), 25 year amortization and a 1.85% rate spread to the 10-yr Treasury index (3.85%) would produce the following:
Gross Price - $2,200,000
Mortgage (80% LTV) ? (1,760,000)
Closing Costs (5%) - 110,000
Net Equity at Close ? 550,000
Annual NOI b/f debt ? $157,702
Debt Service ? $132,230
Projected Annual Cash Flow ? $25,472 (or $2,122 per month)
Cash Yield ? $25,472 / 550,000 = 4.63%
Now, the above cash yield is based on VERY aggressive vacancy and cost variables ? so the chances of it being lower are much greater than higher. 4.63% is a pretty small margin to bet $550,000 on 74 units spread among 4 properties ? no matter where there?re located.
Given the smaller-size and focusing only on the income approach, you should be closer to an 8.5% to 9.0% cap rate after adjusting for going-in capital AT MOST for this sort of deal (as apposed to the 7.2% you are contemplating before any capital).
Robert.
Re: Is this a good deal? - Posted by ray@lcorn
Posted by ray@lcorn on July 25, 2003 at 10:07:35:
Darius,
First, get the real numbers. Few complexes are fully occupied for any part of the year, and fewer still are fully occupied the whole year. The property should be analyzed as it actually exists at time of sale.
Once you have the real operating numbers, search the archives here for posts on valuation. You might also want to read my recent article on valuation titled “What’s it Worth? Deriving Your Capitalization Rate”. The direct URL is
http://www.creonline.com/articles/art-216.html
ray