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SHOW NOTES FOR EPISODE 566: HOW TO QUICKLY ASSESS A SMALL MULTIFAMILY DEAL
Starting real estate investing with a small multifamily property can exponentially boost the development of your real estate portfolio in the short term. In this episode, Bill outlines a way to quickly evaluate and assess a potential small multifamily/apartment property to see if it is worth pursuing further.
Tip of the Week – Find a Good Mentor
- Many reasons why:
- REI is not a solo sport – it’s a relationship business
- Mistakes can be expensive – learn from other’s mistakes
- Mentors can become partners-investors
- We all need someone to bounce ideas, deals off of
- Where to find a good mentor:
- Local networking
- Meet-ups
- BiggerPockets coffees
- REI Club meetings
- Paid mentors
- Can be good but APPROACH WITH CAUTION!
- How to get a mentor
- Offer to help them in exchange for their time
- Local networking
How to Quickly Assess a Small Multifamily Deal
There is a misconception out there that evaluating real estate deals is a time-consuming and arduous task. Now with larger multifamily or commercial properties, this can be true. But for small multifamily deals nothing could be further from the truth!
Analyzing apartment deals and making money on apartments is all about the numbers. More specifically, it is all about the revenue and expense numbers. With that in mind, you can easily assess a deal in just a matter of minutes.
Apartment values are based on the numbers and the Net Operating Income (NOI). The more net operating income you can generate, the more money you will have to put in your pocket every month – CASH FLOW – and again when you refinance or cash them out.
The great thing about real estate investing (especially when compared to stocks & bonds and traded commodities) is that you have a large degree of control over the revenue and the expenses of an apartment. You have the ability to estimate the value up front but you can also predict the value of your property based on those changes.
Here are three simple key questions to ask when evaluating a deal:
- What is the Cap Rate?
- What is the price per door?
- What is the unit mix?
Once you have the answers to those three questions, you will know whether you should dig deeper and/or move forward with the deal.
But, before you do this, you need to become very familiar with the market you are assessing. It will have averages based on the class of the assets you are assessing. There will be average rates for each market and asset class.
Let us examine each of those questions more closely.
1. What is the Cap Rate?
This is an abbreviation for the capitalization rate. This is the return on investment on a percentage basis if you paid all cash. The formula for CapRate is your NOI divided by the purchase price.
For example, if you have a property that has a NOI of $100,000 per year and you paid $1,000,000 cash for the property, your Cap Rate is 10% because you are getting 10% annual return on your $1,000,000. The golden rule in evaluating deals is to determine your criteria in advance! For example, you may look for properties that have a 7, 8, 9, 10% or higher Cap Rate. But keep in mind, the higher the cap rate, the higher the risk!
Again, you need to know the average Cap Rate for your market and asset class type.
2. What is the price per door?
Price per door equals the price divided by the number of doors (or units). Again, you need to know the average based on recent comps for the market and asset type you are evaluating. As a general rule, you will try to go for less than the average cost per doorr, then it is a candidate because it will most likely have a good Cap Rate and it will most likely have cash flow. This figure does include any rehabilitation costs.
3. What is the unit mix?
The unit mix is the percentage of units that are one bedroom, two bedroom, and three bedrooms.
A property that has more two bedroom units than one bedrooms, will have higher rent or higher revenue per door. It is generally better to have a property with more two and three bedrooms than one-bedroom units because the rent per apartment will be higher on average. But it can depend on the market. If there are less one bedroom apartments available, people may pay more. Generally speaking, though, two bedrooms are easier to rent.
The answers to these three questions reveal a lot of things. The Cap Rate tells you about the cash flow of a property. The price per door will tell you the class of property you are dealing with and the unit mix will tell you about marketability and revenue stream.
These answers allow you to quickly assess whether a property is worth pursuing. If the numbers look good, you can then dig deeper and then acquire more detailed financials, rent rolls, etc.
Download my FREE 3-Minute Property Analyzer at olddawgsreinetwork.com where you can look at lots of deals all day long and them sort them by the criteria you want.
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