Tiny Markets and no Market Cap Rates

13 Replies

Analyzing a few 5+ unit deals in an ultra small market, where even local commercial brokers and lenders say “we don’t really use market cap rates, we just order a third party appraisal” to determine value. I have “actuals” and have calculated exact NOI, but have no market cap rate to divide by to project current value and ARV once repositioned. Anyone else run in to this? Solutions?

I'm actually going through this right now on a 52 unit multifamily in a small market. The listing broker is from Cushman & Wakefield, and thought he'd just use his local cap rate (5%) to set the price. So, I met with title and two local brokers yesterday to help with pricing. We looked at cap rates from other types of commercial deals and adjusted for multifamily. We also found some offmarket multifamily transactions and looked at the per unit prices (since we don't have NOI) to see if we were in line with others. We then discounted it further because of the risk of not knowing our exit cap rate, and we now have our target price. We submitted our LOI today, so we'll see how it goes.

I'm very interested in seeing what others have done, since we want to continue buying in this area. 

I would be interested to see what methold that the appraiser used. Income approach doesn't work without a cap rate. On a very small property he could comps. If you have NOI and sale price you can find the cap rate for that deal.

@Jeff Greenberg i totally agree with you. And I have always obtained any/all financials I could, determined actual NOI, divided by market cap rate and determined current value (for my offer) and also been able to project future value (ARV) once repositioned (with increased NOI) so that I could calculate how much of my initial investment I could pull back out in a refi.

However— these brokers are talking about local price per unit calculations, which to me, in no way captures my increased NOI, i.e. forced equity. They are basically comps, and don’t consider the NOI at all. I am a bit stumped.

I can hit a target cap rate at time of purchase by dividing actual NOI by say, 8%, and offering the resulting amount. But that doesn’t offer any indication of the appraisal process, based on increased NOI. Unless they increase the appraised value proportionally to the percent increase in NOI?

@Branton B. I always disliked the per unit calculation as it did not take into consideration how efficiently the property is being run, the effect of deferred maint, satisfaction of the tenants, or desirability of the property.  The only time I have ever used this calculation was to see if the asking was in the ballpark of this market.  When I bought my Houston property for under 21k per unit, when the market was at 25-35k per unit, it reinforced my evaluation that it was a great deal, under market.

For anyone who may see the same issue— I contacted three commercial banking departments in the town and asked which appraisal companies they used when underwriting a commercial loan, and reached out to those appraisal companies separately. One responded quickly and offered to query their database and let me know what numbers they would use.

This gives me piece of mind that the process I use will be the process the appraisers use, so that there are no valuation surprises!

A few extra steps in the research phase!

@Branton B. That's a great idea. I mostly rely on my own research and experience to get local cap-rates for my target markets, but getting official data-points from actors in the market who actually underwrite deals is probably going to be the most accurate.

I'm going to put that on my checklist for market evaluations. One thought: in additional to local banks and appraisers, you can also reach out to multiple commercials real-estate brokers in the area to get their numbers as well.


@Branton B. what do you consider an "ultra small market"? I'm in a town of 9,000 and there are only two commercial appraisers in town. I've tried finding the market cap rate and it's impossible because we have so few sales in any given year.

I bought an 11-plex (closed last week) and the best comparable the appraiser could find was a motel that sold three years ago. There are literally no commercial multi-family properties sold in the last five years. The good news? His appraisal came in $100,000 above purchase price which is what I had for my market analysis.

@Nathan G. Your market is much smaller than the one I am looking at (population 90k) however exact same issue, so its all relative. I tried searching myself and no luck on previous (similar) sales that I could find. The appraiser I spoke with only had four sales of multifamily properties, under 40 units, since September of 2013. So that was the “local data” to go off of. But at the end of the day, if your strategy is to buy, reposition/stabilize, and refi- the only process that matters (when projecting future value) is what your lender (i.e. appraiser) will use, since thats who will be underwriting the refi loan. So that is what I am going with!

As a side note, in case anyone else runs in to it, I was talking to local agents/brokers asking about local market cap rates. Same with local commercial bankers. They looked at me like I had a second head. The two local appraisers I spoke with knew what I was talking about, however used the term OAR on all their reports; Over All Rate (of return). Calculated the same way, just a different terminology. Just an FYI when it comes to speaking the same language and getting the data you need.

I had one a long time ago where the town was not only very small, and even though they were within the city limits getting comps in a 2 mile radius was next to impossible, due to the fact that the people were building on family land which was 53 acres. I had them cut off 2 acres for the residential survey to make sure it appraised, but all the other parcels around them were 50-100 acre family land, too and nobody moves! Didn't think of that! A 3rd party appraiser gave up after 2 months and finally the underwriter allowed comps for rural property, to be within 10 miles instead of two and finally he shot over a terrible appraisal that was 26k short of my figures, When my manager told me the issue, I quickly said I had an appraiser that gave me comps for that deal, so we paid another appraiser $500 and comps worked and my appraisal came in at what I needed! My point is this: do a "value check" with several reliable and reputable appraisers and ask them if they have comps to support this number,(Do this before you accept the deal) and ask them " If not, what would their number be? "Then "value check 3 appraisers and they will either have comps or give you a number they estimate the comps will support and go with the one that gets you the comps you need!  Get the comps so that if the lender's appraisal isn't what you wanted, then provide the comps and challenge the appraisal, That is allowed! And well worth the extra $500 it cost because it added 22k to my bottom line! It was accepted and the deal was saved! I hope that helps a little..and my appraisers in the different areas gladly provided this information free and I later used them for the appraisal! .so I decided to share my story! (Giddings, Tx Bert & Debbie Snyder!) Usually, the underwriter will make an exception if the exception is based on reasonable circumstances and an unsuccessful attempt>

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@Branton B.

Hi Branton

the problem with ultra small markets if you are not self-managing is to get a good management company.  Try to find a secondary or tertiary market that is relatively close, discount that cap and use it.  Also look at last 6 months solg


@Gino Barbaro

Thanks for the tips Gino!  Much appreciated. 

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