Analyzing a Deal for Profitability

8 Replies

I am trying to get in to multi-family apartment investing (5+ units) and have been searching for a property that I could reposition. In a training program I did I was taught to estimate costs at 50% of gross income when analyzing the financials, but after looking through dozens of marketing packages I have only found 3 where reported expenses even approach 40% and most are around 30% or closer to 20% of the operating income. Is this 50% being too conservative? Those of you who have owned multi-family, what percent of operating income have your expenses been?

Most of the proformas I receive are in the high 30s and low 40s in terms of expense percentage. I would use 50% to stay conversative.  Numbers are getting tight in all markets, so, take your time in sifting through the proformas provided.

@Joseph Redd I have been doing the same type of Analysis and have run into the same issue. What I seem to be finding is that if you want to adjust your % just by looking at the data you could use Age of the property as one adjustment. 

I usually plot everything out and then tinker with the numbers to see what gets to break even and then what has the property making returns that I would expect just to understand what adjusts what and by how much. 

It's tricky and being new like I am assuming you are and I am, and it's a bit confusing when trying to understand the numbers of things. Something I did was build my own excel sheet from looking at several different investors who also give out advice. That way I could learn the calculations and equations that made it up. One of the many things I learned in that process was the Debt Coverage Ratio. Until I ran into that in one of the sheets I had I was clueless but now it helps quite a bit when I see that ratio as being considered low. 

Best of luck and hope the training pays off for you!

Don't just accept the pro forma numbers. Often times if you are buying a property with deferred maintenance that means their expenses were lower than they should have been, and thus their pro forma expense numbers are based on faulty information. You should not discount it entirely but you do need to dig deeper.

You said it yourself, they're marketing packages. They'll be misleading at best and just bullsht and lies at worst. If self-managed they won't include any property management costs. They won't include any likely increase taxes. They won't include any likely increase in insurance. The age of the property does affect expenses but don't use numbers like 20%. That's just crazy.

All, thanks for the responses. I guess it will just be more of a waiting game then, I just couldn't believe people were posting their properties with such misleading numbers and figured I must be doing something wrong! @James Dickens  and @John Brady , have you found there to be a significant difference between the older and newer property expenses that would justify adjusting the expense ratio depending on age or is it close enough that it should just be kept around a 50% estimation?

Hey Joseph, 

Based on what I have seen, I would say anything below 40% should be heavily scrutinized. In most cases, certain expenses that would be typical for a syndicator are not included (think property management expense) which can explain the low numbers. Additionally, taxes will increase with the assumption of the property. This should be included in your underwriting. I have very rarely seen anything below a 30% expense ratio on a pro-forma. The times I have seen this have been off-market properties that have not been touched by a broker. 

Sounds like you are getting after it. Good luck!

- JA