Value Adds & Why They Need to be Part of Every Deal
I've compiled a short list of value add techniques that we have used on our properties, let me know if you have used these too!
If you have been involved in real estate, or any business for that matter, for any length of time, you have probably heard the term “value-add”. Maybe you knew right away that you were only looking for properties that you could follow this strategy or maybe you were wondering exactly what a value-add is. A value-add is when there is potential to increase the value of the property because of certain management or operational problems and/or the property is in need of physical improvement. The value add strategy is fairly common and comes down to increasing your income while decreasing your expenses, or at least doing one of those things. This is typically not a quick process but if you run the numbers many times you will see that it is a worthwhile strategy. This is partially because commercial real estates value is a function of its net operating income (NOI) - just another reason we focus on this sector of real estate vs others.
There are many different ways that you can increase the value of a property using this strategy. First let’s focus on increasing your property’s income. This can be done in many ways so I will just name a few.
- 1. Physically Improving Units: Improving your units will typically allow you to bring undervalued units up to market rent. Improvements could be anything from repainting the walls to replacing countertops, installing new appliances or renovating an entire unit. Be sure not to over improve a unit. Units should be improved to a point where you can command market rent while not being so nice that you should be asking for more per month than your market can sustain.
- 2. Improve Property Management: Entrusting your property to a manager is trusting someone with your investment. If your property manager is not keeping your units full and at market rent they are doing a disservice to you and your investors (if you have investors). Managers have the power to increase income in many different ways such as having short unit turns, evicting tenants early without losing too much rent, hiring the correct contractors and so on.
- 3. Curb Appeal: The first thing that your prospective tenants will see is the exterior of your property. You want a clean, kept and nice looking building(s) and grounds. The goal here is to make your property attractive and make people want to live there, give them a place that they can feel proud of being part of. Try to update anything that is dated or in bad shape such as signs, mailbox areas and trash areas. Keep an eye on paint, the parking lot, the landscaping, lawn and any other exterior common areas, such as pools, playgrounds, etc.
Decreasing your expenses can be just as important as increasing income, generally there are less tactics to follow, but most properties have some fat that can be trimmed off. Expenses should typically be about 49-55% of the Gross Scheduled Rent. Also realize that you can only reduce your expenses so much before your property will start to go downhill. The goal of course is to find the happy medium of a property that is running well and as efficient as possible.
- 1. RUBS System: RUBS or Ratio Utility Billing System is a system to have the tenants all pay for their share of the utilities. This is something that might not work in all areas, if the competition is not using the system it may be difficult to recruit new tenants and/or keep your tenants long term. The positives to this system are that the owner no longer pays the utilities (except for common areas) and typically usage will go down since the tenant is paying so this is a win-win for the owner and the environment! It is easiest to implement if each unit is submetered although there are other ways to go about this such as electronic metering. RUBS can be implemented for utilities including water, sewer, electric, gas and trash.
- 2. Management: Notice that management is on the income and expense side! Are you getting the best management deal that you can? Do you have multiple properties in a single area where economies of scale can save you a percent or more? Before you first sign your management contract it’s a good idea to shop around - see what companies in the area have the capabilities you are looking for and also who has the best price. Remember that you need to be able to trust your property with these people, that in turn is your money. There are times where you may want to pay a slightly more expensive manager because they are more capable and will save you money in the long run. Look for prices to vary based on location and the size of your property. Prices can range from 3% for large multifamily properties to around 10% smaller multifamily buildings and singles and duplexes. You might be able to negotiate other charges to save along the way too.
- 3. Find Ways to Save Water (only saves you $ if you’re paying for water of course): When installing new toilets or fixtures, be sure to use low flow options. A low flow toilet can save you over a gallon per flush, multiply this out by the number of units you have and your tenants and that can add up to a lot of water and a lot of money!
This list barely scratches the surface but hopefully it got you thinking about what value add opportunities you have at your properties or maybe how you can purchase a new property and increase its value. As I mentioned the value add approach will not only save you money but has other benefits like keeping your tenants happy with an apartment and living spaces that are in better shape that they can be proud to live in. Value adds have the power to keep your tenants longer which has a domino effect for making you money!