Wednesday, November 28
Fellow
Real Estate Investors welcome back to another helping of real estate
investing knowledge. The goal of my posts are to help you become better income
investors by providing tips, tricks and step by step instructions that I have
complied based on my experience of investing into multimillion dollars of
investments across Northern New Jersey.
Last week, we defined a framework of indicators for you to utilize in
helping determine your growth and risk assumptions that will fit in your real
estate investment model. If you missed
this post then feel free to read the post by clicking this link.
This week we will begin introducing you to key real estate ratios that I feel
that you should know and understand so that you can analyze and understand your
investment better. By now you should feel fairly comfortable in your skills of
reviewing the income and expense side of a property’s operating statement. You
will need those skills to extract the key data to plug into these ratios.
Remember that a ratio or model is as good as its inputs so garbage in = garbage
out.
There
are two broad categories of ratios that I want you to know and understand and I
will explain the importance of each category as we go through this blog
post. So lets dig into this exciting
real estate finance journey it may not be the most exciting for you but I am a
numbers guys so this is always a fun topic for me to cover.
Profitability Ratio: these ratios
advise you as the profitability metrics that you can expect from your potential
investment.
|
Ratios
|
Ratio Definition
|
Formula
|
|
Capitalization Rate aka Cap Rate
|
A capitalization rate is the overall or non-financed
return on a real estate investment, akin to the return on total assets in
accounting terms.
|
Net Operating Income
Total Equity Investment*
*Purchase Price +
Construction Costs + Closing Costs
|
|
Return on Equity aka Cash on Cash Return
|
A rate of return often used
in real estate transactions. The calculation determines the cash income on
the cash invested.[1]
|
Cash Flow x. Debt Pmts
Total Cash
Invested
|
|
Internal Rate of Return aka IRR
|
The internal rate of return is a rate of
return used to measure and compare the profitability between investments.
|
IRR Calculation:
Use IRR
function in excel to make this calculation easier for you.
|
|
Net Present Value aka NPV
|
NPV can be described as the “difference amount”
between the sums of discounted: cash inflows and cash outflows. It compares
the present value of money today to the present value of money in future,
taking inflation and returns into account
|
NPV
Calculation:
Use the NPV
function in excel to make this calculation easier for you.
|
Debt Ratios: real estate is typically
not bought all cash and debt is typically utilized. So it is important to
understand debt related ratios. These ratios help you determine the type of leverage
you can utilize and the potential interest rate risk.
|
Ratios
|
Ratio Definition
|
Formula
|
|
Financial Leverage
|
Financial leverage refers to the use of debt to
acquire additional assets. Financial leverage may decrease or increase return
on equity in different conditions.
|
Total Debt
Total
Capital*
*Equity + Debt + Preferred
Equity
|
|
Debt Service Coverage aka DSCR
|
DSCR ratio of cash available for debt servicing to
interest, principal and lease payments. It is a
popular benchmark used in the measurement of an entity's (person or
corporation) ability to produce enough cash to cover its debt (including
lease) payments.
.
|
Net Operating Income (NOI)
Annual Debt Service
|
|
Break Even Ratio (BER)
|
Break-even ratio (sometimes called default ratio) is
used to ascertain how vulnerable a property might be to defaulting on its
debt in the event rental income derived from the real estate income property
should decline.
|
Debt Service
+ Operating Expense
-----------------------
Gross Operating Income
|
Utilize
these ratios to help you ascertain the degree of profitability and risk
associated with your potential investments. Also, utilize the NPV and IRR
calculation to help you compare between different investment choices. Remember
that money is finite so choose the investment that gives you the highest
positive NPV (I prefer NPV over IRR as a comparison measurement tool) while
making sure that the risk ratios are comparable between the investments.
Enjoy
crunching these numbers as trust me if you analyze these ratios then you will
have a better understanding of the risks and the rewards associated with your
next investment choice.
Until
next week fellow income investors, happy investing!
Ankit
Confused?
Then twee me @Ankit_RER
Want
to Learn More: Click Here
Looking
for deals: Click Here
[1]http://www.investopedia.com/terms/c/cashoncashreturn.asp#ixzz2BkK6j1yj
Wednesday, October 31
Over
the last few weeks we have discussed how to find prospective deals. Now that you have a few prospects potentially
spread across various towns or states, the next question that you as a investor
need to address is which market has a higher competitive advantage between your
various prospects.
The
profitability of income producing properties is highly dependent on the
geographic area in which the asset is located. This becomes another filter
tool. So how does one analyze an economic region/market area? The best way to
analyze a market area is to complete a supply and demand study coupled with
economic driver analysis.
I.
Economic
Driver Analysis
One of the best ways to
identify a growing geographic market is to find markets where both economic
employment is growing and profitable businesses are clustered within the
geographic area. A widely accepted approach in completing the economic driver
analysis is referred to as a location quotient.
[Regional Employmentindustry]/[Regional
Employmenttotal] <> 1.0
[US Employmentindustry]/[US
Employmenttotal]
If the industry that is
being analyzed is greater than 1.0 then that industry would be identified as a
base/driver industry for the geographic area. If you are trying to decide
between two or more areas, pick the area that has the greatest number of
base/driver industries. This is a tedious process and needs to be completed at
the metro area level but once it is done you can identify areas that have
future growth prospects of employment that is a leading driver for higher real
estate prices.
II.
Supply-Demand
Analysis
Supply and demand drivers
of each market area affect real estate investments profitability. Each asset
type has different demand and supply drivers. Since my expertise lies in
multifamily asset class, I will give you a demand-supply factors table that I
have utilized when analyzing market areas:
|
Key
Demand Drivers
|
Key
Supply Drivers
|
|
Number
of Households
|
Vacancy
Rates
|
|
Size
of Households
|
Construction
in progress
|
|
Median
Household Income
|
Foreclosures
/ Shadow Inventory
|
|
Affordability
(Price-Rent Ratio)
|
Age
& Combination of existing stock
|
The
above analyses will help you filter real estate prospects by profitable market areas
so that you can identify real estate investment gems within your prospects.
Next week I will show you how to start using some basic real estate finance to
compare between filtered real estate investment opportunities.
Until
Next Week- Happy Investing Fellow Investors!
Ankit
Questions:
Tweet me @Ankit_RER
Deals in New Jersey: Click Here
Sunday, October 14
Recently
I covered the topic of how to find potential deals from the comfort of your
chair. Continuing along that theme; I will be talking about s how you can find deals
at upcoming real estate auctions in the Northern New Jersey market.
What is a real estate auction?
A
real estate auction is an innovative and effective method of selling real
estate. It is an intense, accelerated real estate marketing process that
involves the public sale of any property—most certainly including those that
are nondistressed—through open cry, competitive bidding.[1]
Who can hold an auction?
Auctions
can be held by both private entities such as auctioneers hired by the
seller or realtors or public entities such as the sheriff, municipality,
and the federal government. Each entity usually utilizes one of the following
three types of auctions:
1. Minimum
Bid is the lowest bid
(decided by the seller prior to auction) the auctioneer will accept for a
property. Once that bid is reached, the property will sell to the highest
bidder.
2. Published
Reserve is the lowest
amount that the seller must sell a property at auction, but the bidding can
start wherever the bidders choose. If the Published Reserve bid is not reached,
then the seller can accept, reject or counter the highest bid.
3. Absolute
Auction is where the
highest bidder acquires the property, regardless of the amount. There is no
reserve price below where it will not be sold. Absolute Real Estate
Auctions tend to attract the highest amount of interest.[2]
Where can you find
out about upcoming real estate auctions?
Private Entity Auction Sources:
The
National Auctioneers Association's Web site (www.auctioneers.org) or the
National Association of Realtors' Web site (www.onerealtorplace.com) lists
dozens of upcoming auctions nationwide. Or, www.auctionweb.com offers an online
list of affiliated real estate auctioneers. Some namesake private auctioneers
that continuously hold auctions in the New Jersey market are as follows:
Williams
&Williams http://www.williamsauction.com/
Sheldon
Good & Company http://www.sheldongood.com/
Real
Estate Disposition Corp http://www.auction.com
Hudson
& Marshall http://www.hudsonandmarshall.com/
Max
Spann http://www.maxspann.com/
So
subscribe to their email lists that way you can be update on the auctions that
are coming in this area.
Public
Entity Auction Sources:
Public
entities auctioning real property can include sheriff sales, IRS sales, US
Marshall sales, Treasury & IRS etc.
The major issue that I had when I first started was finding out about
them without spending hours searching each entities website. So how do you find
out about these auctions so that you can act upon them quickly and easily. For
that you need a system and I will give you mine.
I
usually break apart this auction category into two buckets: Sheriff Sales
Auctions and Other Government Auctions.
Lets
attack the easy one first- Other Government Auctions. There are few good websites
that compile different government department upcoming auctions:
Bid4Assets http://www.bid4assets.com/
GovSales http://www.govsales.gov/govsales/govsales/
CWAMS http://www.cwsmarketing.com/realestate.htm
Sheriff
Sale is the other public entity auction that happens on a weekly basis at the
county sheriff office. A sheriff sale auction happens when an unpaid money
judgment such as a mortgage needs to be satisfied with the sale of the asset
backing that judgment. Sheriff sale in New Jersey happen on a weekly basis at a
fixed day and time in each county. So you need to keep on top of the sheriff
sale websites to see what are the properties coming up at the next week’s
auction. Below is the list of sheriff sale county websites in Northern New
Jersey where you can find the upcoming foreclosure auctions (PS its FREE on
these sites unlike Realtytrac or Foreclosure.com):
Essex County http://salesweb.civilview.com/SalesListing.aspx
Passaic
County http://www.pcsheriff.org
Bergen County http://168.229.7.54/sheriff_sale.aspx
Union
County http://ucnj.org/government/sheriff/sheriffs-sale-information/
Morris
County http://www.mcsheriff.org/sales/
Hudson
County http://www.hudsoncountysheriff.org/Sales/
Use
the above resources and websites to find your next auction deal but be careful,
as auction buying is a tricky and a high-risk strategy. I will be covering in
the upcoming weeks on how you can complete due diligence on traditional
distressed assets along with auction purchases to help minimize the risk
associated with distressed asset investing.
Happy
Investing
Ankit
Any
questions reach out to me at @Ankit_RER or aduggal@rernj.com
[1] http://www.realtor.org/auction/the-basics-benefits
[2] http://www.propertyauction.com/blog/index.php/2011/01/defining-the-terms-the-3-main-types-of-real-estate-auctions/
Monday, October 08
Last time we covered the topic of how to
establish your investment criteria in order to setup a decision matrix to help
you filter good v. bad deals. Today we will discuss using online search tools to
help you find potential deals so that you can filter them down.
CAVEAT: The best deals are not usually found
online since deals that wind up online usually deals that the realtors or their
investors did not want to buy. So be careful but use online searches as a
business tool to find potentials. You can make a potential into a deal by using
your structuring and creative negotiating skill set.
My firm does real estate
deal sourcing predominantly in Northern New Jersey so I am going to provide you
tools and resources from this area perspective. I am break apart the search
location into Residential and Commercial asset class buckets:
Residential (1 to
4units)
http://new.gsmls.com/publicsite/propsearch.do?method=getcountysearch
http://www.njmls.com/
Setup a user profile on these sites and search
for deals based on your established investment criteria. A few tips on how to
use these sites more efficient are:
A.
Save
Properties that match your investment criteria and request updates to be sent
to your email. This allows you to know as soon as an agent changes the price,
remarks, or the status of the asset without you having to go back daily. The
goal is to more efficient not more laborious.
B.
Setup a
search criteria and request the website to send you daily deals that match your
criteria. This allows you to comfortably every day sit in front of your email
and see what new deals have come into the market that meet your search
criteria.
Commercial (5+ units,
retail, self storage etc.)
http://www.loopnet.com
http://www.showcase.com
http://www.marcusmillichap.com
Use these sites to find commercial deals online. These are typically more
robust in my opinion that the residential sites so use those features to get
more creative. Most investors use these online sites to search for
properties in a specific geographical location and/or a specific asset class.
Your goal is to be better than the next investor so what if you got creative
and combined the geographic/asset search with the keyword search feature.
Here is how you can make the keyword search combination
to find your next creative or below market deal:
Go to the Search Properties for Sale link. Fill in your locations and the
asset types that you are interested in investing into. Now here is the creative
part, look at the bottom of the screen for the section titled “Keyword”. Now
get creative with your search terms.
Think about keywords that might work in helping
you find creatively structured or distressed deals. Here are some of the ones
that I use in my daily reminder search: owner financing, motivated, reduction, make
a deal, owner financing.
Next click Search and Happy Hunting!
I hope that you find
these resources and tip/tricks helpful in finding your next real estate deal.
Happy Investing
Ankit
http://rernj.com/deal-of-the-week/
Find out about our deal of week in NJ
Questions: Tweet me @Ankit_RER
Wednesday, September 12
Financing is usually
the biggest impediment to completing real estate deals since without capital
you have no deal. On the same token, financing is irrelevant if you cannot find
a deal that is worth raising capital behind. So this month we will be covering
tips, tricks and methods to finding deals. We will start with defining your
investment criteria so that you can use that as a filter system to find deals
that match your investment style.
Prior to beginning your investment search for
deals, I would recommend that you sit down over a cup of coffee/tea and lay out
the investment criteria for your target or “sweet heart” deal. So you must be
asking what are the investment criteria’s that I should have at a bare minimum.
Below I highlight a few metrics that I would recommend pondering over and
having as a part of your investment criteria:
Market Area- this is
basically the area of your target investment. Some investors want to invest in their
“own backyard” while other feel comfortable going out of their state and even
out of country. So this criteria filed can be as board as the state/city or as
refined as the zip code.
Maximum Investment Price-
some gurus out there say that it does not matter what the price is as long as
the deal makes sense. There is truth to that statement but the honest truth is
that money is not unlimited and every investor has a different capital
investment budget so that should be kept in mind as you decide on your maximum
investment price. Since looking at deals that you can raise capital behind will
be a waste of your time in the long run and time is a very precious commodity
when it comes to finding and acting on deals.
Asset Type- this is
criteria is important by my standards as a investor should start in one asset
class and get comfortable prior to jumping into others. The asset classes can
range from single, multifamily (2 to 4 or 5+ units), retail, industrial,
special purpose, hotel and healthcare. Within each broad category there are
sub-classes so pick your asset class on the basis of your interest and
expertise.
Return
Criteria- everyone is looking to
purchase or invest in real estate to do one thing: Make Money! Hence it is
important to understand what is your target investment strategy? There are two
broad criteria of investment strategies: Flipping or Cash Flow. B
Based on the target strategy, you need to
establish return metrics that a deal must have for it be marked as a “Prospect”
within your search. For Flips investments, it is important to define the “minimum
spread” between market value or the After Repaired Value (ARV) and your all
in investment. For cash flow
investments, you can setup measures such as Cap Rate, Cash on Cash Return,
Equity Multiple (we covered how you can calculate these measures in prior
e-newsletters so feel free to contact us to resend them to you if you need them
for reference)
Happy Investing
Ankit
Wednesday, August 08
Valuing Real Estate in Changing Markets
Pricing an investment property can be done through a number of methods ranging from the income approach to the sales comparison approach. Today we offer rules of thumbs to use when try to value assets in an appreciating or a depreciating market.
Market: Appreciating
Rule of Thumb: Use Active Listings instead of Sold Listing to come up with a fair market value of the asset
Rationale: Sold comps are always 2 to 3 months behind in timeline given the period of time needed with financing hence the sold listings can under value the asset in an appreciating market
Market: Depreciating
Rule of Thumb: Use Under Contract Listings adjusted by a median discount percentage rate
How to calculate the discount percentage:
Discount percentage is calculated by Sale Price/Under Contract List price for similar comps across a 6-month period of time. (Utilize the median discount percentage instead of average discount percentage)
Rationale: Sold comps can be higher in valuation given that the market value is declining on a weekly/monthly basis. Active listings can be irrelevant given that the market can be saturated with over-priced properties due to unrealistic sellers
