Help Analyzing the deal - am I doing something wrong?

30 Replies

I have been researching many deals in the MF space but every time I run the numbers, I get Cash-on-Cash returns numbers that just doesn't make any sense.  

Here's one deal that I would like to get some perspective from BP community.

  1. 10 Unit (mix of 2 & 1 ) in Northern CA
  2. Asking Price - $745K
  3. Current Avg. Rent: $625 / month / unit
  4. Owner Paid Utilities: $905 / month 
  5. Assuming Property mgt - 8%
  6. RE Taxes - 1.14%
  7. Insurance - $2000 / Yr
  8. Repairs & Maintenance - 4800 / year (potential, could be more or less)
  9. CapEx: 3500 / year (Potential, could be more or less)
  10. Assuming - 30% down with conventional financing at 4.5%, I get a COC of just over 1%.

Aside from any upside potential in rents with some rehab, Why would anyone want to buy into this deal from cash flow perspective, or am I missing something crucial in running my numbers?  I have been running into the same dilemma with every other deal I am looking at. 

Is there anything I could do to make this deal work other than offering lower price?

Thanks!

And you will run into the same dilemma as long as you look at properties in NorCal. It's very hard to find a deal that makes sense in CA right now. Unless you have a great upside on rents in this one (say you can increase them to $7-800/mo), I don't think this will make sense at all...

It's a tight market. I've run numbers on buildings in Chicago that I need to pay $2MM or less for to make sense and they are selling for $2.5MM. Combination of reasons IMO:

-some people not knowing what they're doing and wanting to buy something

-some people knowing more than I do and seeing upside potential that I don't 

-some people's investment strategy is based on future cash flow and appreciation, they are ok with the building not cash flowing for the immediate future

Be patient and buy right. Don't lower your standards just because it seems like everybody else is.

@Jan Halasz & @Scott Skinger . Thank you both!  Scott, you made some very valid points on why some people would still buy be it because they don't know what they are doing or know more than what we do.

@Rich Lopes

Trust your numbers and your gut, I think.  Those numbers are not good.  I don't know what all drives the supply and demand picture in your area but I'd run fast from that stuff.  Unless there's some sort of ambiguous 'prestige factor' of owning MF in that area that you somehow 'need' ----  I'd definitely be looking elsewhere.

@Jim Goebel , :D  That's funny how you said the 'prestige factor', and no, that's not my 'need' but certainly there's more money slogging around here in Bay area and probably some of that goes towards purchasing those properties without regard to Cashflow or returns.

@Chris Seveney , I agree. 

But again, my argument is, is there anything on those numbers that anyone could think is wrong to justify otherwise?

Thank you both!

@Rich Lopes

Did you calculate it on a 20 year loan and for commercial loan I believe your rate may be slightly higher. 

I also do not see any vacancy factor in your numbers. 

Capex of $3500 a year is super low unless it is a brand new building.

If these are lower priced units you will probably have to spend $1,000 every time you turn one over for cleaning, painting and new carpet. 

Is there a yard or driveway and how is that maintenance handled?

I believe you would be negative cash flow

Your analysis is directionally correct. It could be argued that your expenses are light as well. Now what differentiates a successful investor from others is what you do with this information. 

Me, I would run away and bark up another tree...

CA is not a place to invest for cash flow. Historically, it is an appreciation play, which is speculation, not investing. Also, CAP EX is not an expense. Planning a certain amount of loss for monthly repairs like a plumbing visit or HVAC repair is wise, but if there are no repairs, you get to keep the money. A roof that may need replacing in 10 years is not an expense today and hopefully over the next 10 years you will own more property and be making a lot more money.

Hey all,

Along a similar thought and maybe the decision is personal (arent they all?)

Im looking at duplex and triplexes in MN where I live and after accounting all expenses similar to the original post mentions, I’m finding 9-12% coc returns, here or there finding 14% but those are already pending buyers.

Anyway, the question is a 8-10% coc return acceptable if you are getting $120-200 a door? A triplex I’m reviewing could be as high as $220 per door after all standard expenses.

Thoughts on the lower coc return to gain cash flow mentioned above?

I own one unit that I bought in a desirable white collar neighborhood to get in, get feet wet, and know I could resell and break even if I got over my head. Getting into multi unit, it seems like a smaller buyer pool, thus so much more important to get right!

Thanks!

those rents seem very very low for N CA... even the rural out of the way towns.. did you check into that.

@Rich Lopes What you’ll probably find is that you “run in circles”. If you stick close to the Bay Area you’ll probably find negative cash-flow every single time. So people edge out and keep edging out until they think they have something that makes money. By if it’s $70K per unit and rents of $625 you’re either in the NorCal boonies or you can triple the rents tomorrow. And since we don’t know the city all we can do looking at this is just 🤷🏻‍♂️

I wouldn’t be as bullish about these properties appreciating. If you look at Texas there’s the Dallas market and there’s the Odessa market. They are very different despite being in the same state. Odds are you could have the same dynamic in this property.

I think every invest has to make their own decision about cash-flow vs. appreciation potential, if you want to drive to your property or are happy to fly to it, if you’d rather spend $750K on 10 units or one SFR.

But for whatever it’s worth, I’d posit 100% of investors look at deals and say: “Oh this looks like a good property if only it were 20% cheaper!” If the numbers made the decision really easy the property would have already been sold 🤷🏻‍♂️

@Rich Lopes the numbers you give tell me this property is not in the Bay Area. $745K hardly gets you a 1 bedroom condo here. California real estate is not like other places. The fact that you can get 1% with 30% down is a great deal for California. In the Bay area you need at least 40% down just to break even. The major reason for investing in California is for stability and appreciation. If I were looking at that property I would be happy with the 1%. What I would look at is the future rental stability and the chances of appreciation. Is the property somewhere like Chico, where you would always have a steady stream of student renters? Is it near Sacramento where there is tech company expansion coming and government workers? Or is it in a rural central valley ag town where there is not a lot of room for business growth or a steady unending group of renters. I personally think those are the more important questions, not wether you can get 2 or 3% over expenses. If cash flow is your top criteria rather than appreciation you should probably go to another state. My feeling has always been cash flow can come when I am older and need the money. Buy for appreciation, pay off the mortgages, and breathe easy in your 60's. I am now there and I my 200K down payment has grown exponentially, the mortgages are paid off, and I have cash flow and million more in equity than I could have gotten out of state.

Remember that factoring in capex may not be necessary. Upon buying the property you will do a number of inspections, especially on the big ticket items like roof. You can then plan on capes within a certain time period or sell prior. I’ve found there’s a lot of good deals that don’t get picked up because of too high cap ex and maintenace costs. Your inspections and history will tell you what needs to be done and what doesn’t. Then you can factor costs correctly.

@Chris Seveney , it's based on a 30% year with 5% which is reasonable I guess. Not much of an yard but a driveway of course which might need some work. 

@Kurt Jones , Thanks! :) Certainly, I been trying to run away each time but keeps getting pulled back.. 

@Anthony Dooley , I agree but at the height of this market, expecting an appreciation is like playing a poker with a blind fold. I agree on the Capex, but we can't go with an expectation that it's going to be all fine. I have separate line item for ad-hoc repairs & maintenance.

@Jay Hinrichs , It's actually N Central Valley.. Now you can tell what city :) Most Central valley cities command only so much rent. There's not much upside IMHO

@Andrew Johnson , it's certainly not so close to Bay Area.. hence can't triple the rents.. Those deals are long gone. Yes, appreciation is not something I want to count on unless it's pure Bay Area play but even that is speculation in today's market.

@Marcy Moyer , Sacramento, Chico or Stockton are still recovering from last housing crash so going there with an expectation of appreciation or stability is like playing with a fire.. wouldn't you agree? I would say you just lucked out on your 200k investments - aren't most people who bought before the tech boom and some after. Yes, I have neighbors who are in the same boat as you and even my own primary home (now a rental) bought right before the crash has more than1M in equity. So I agree on your points.. but I am looking for Cash flow.

@Jeff Zimmerman , Good point, but what if we get hit with one of those capex items before the timeline? It's a "C" class property which has potential for CapEx but little on the rent upside.

Thanks all for chiming in. Lot of great points. Appreciate your time!

Figure out when you want to jump on this train pictured below if ever. If you ask Jay or Marcy, they might say as soon as you can afford it or make the numbers work. California is mostly for bigger picture investors, always has been and always will be. Whether that investor is considered lucky, speculator, or smart...the history and overall results ( total profits, flow+ equity gains) are likely mostly the same. Good luck! 

@Rich Lopes Just to second what @Chris Seveney says, you won’t get a 30 year fixed-rate. You’re far more like to get it fixed for either 5 or 7 years. Amortization schedules can range from 15-25 years. I’d bet a donut you could find someone willing to do 25 years if you made 15 phone calls. But if you’re analyzing deals like this *assuming* it’s a 30 year fixed rate you need to start talking to lenders. Terms vary from lender to lender and the mortgage difference on a 20 vs. 25 year amortization table can make a big difference: roughly $800/month on a $1M loan.

$625/mo rents anywhere in CA seems very low. Where, exactly, is this? I’m in far northern CA (by Redding) and we can get more than that in rents for MF. Redding has a crappy economy and little job growth. So I’d look closely at your rents. But I agree with others - CA tends not to be good for cash flow, which is why we flip here but plow our profit into buy and holds out of state. We’re also starting some new builds because inventory is so low here and suddenly everyone is flipping houses and paying too much for them. So look again at your rents. Maybe there’s a value add opportunity there. 

totally agree @Jay Hinrichs - as someone living at the tip of the northern Central Valley those rents seem way too low. Not saying this part of the state is a good investment, but I’d look for possible rent increases. 

@Matt R. Very interesting chart...simple but very telling. Thanks for sharing.

@Bonnie Low , This is close to Stockton to be exact. Those rents are probably low and the comps show almost $200 - $300 more than that, but without value add I don't see a reason why the current/future tenants would want to pay more. But that's just my opinion - may be they would. 

@Andrew Johnson @Chris Seveney , right, I haven't talk to many lenders but I spoke to WF few months back and they said they should be able to do 7 yr fixed with 30 yr Amortization. I also did a quick google search and I came across at least 2 who are saying they do 30 yr amortization. One is a local Fremont based and one seems to be the national lender. 

@Matt R. , Thanks! That chart is very interesting, and I have looked at it before but you can't predict much from that, as you know every bull market is different.

I recommend looking in markets with above average cap rates in landlord & business friendly environments with above average job and population growth.  You didn't specify the exact city in Northern CA but cap rates there are likely to be 4-5% and with financing at 4.5% the cash flow is going to be low to non-existent. In my experience, people buying in these markets are buying and hoping for appreciation which is very speculative. 

Originally posted by @Rich Lopes :

@Bonnie Low , This is close to Stockton to be exact. Those rents are probably low and the comps show almost $200 - $300 more than that, but without value add I don't see a reason why the current/future tenants would want to pay more. But that's just my opinion - may be they would. 

@Andrew Johnson @Chris Seveney , right, I haven't talk to many lenders but I spoke to WF few months back and they said they should be able to do 7 yr fixed with 30 yr Amortization. I also did a quick google search and I came across at least 2 who are saying they do 30 yr amortization. One is a local Fremont based and one seems to be the national lender. 

@Matt R., Thanks! That chart is very interesting, and I have looked at it before but you can't predict much from that, as you know every bull market is different.

 I hear ya. That historical chart could apply to the top 3 to 4 cities in Cali perhaps.  If you believe CoreLogic, the top 3 cities in the nation for total profits ( cash flow + equity gains) since 2000 are LA, SF and San Diego too if that helps. I have not seen any reasons that this would change in any significant way longer term. Good luck! 

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