All Forum Posts by: Frank Gallinelli

@Kyle Zaylor Thanks for the kind words! Glad you liked the book.

You've received some excellent advice here -- just want to underscore what has been implied in several of the comments:

Discard the idea that the property is "valued at 600k" and think about finding a purchase price that will allow you to earn an acceptable profit. Start with a realistic estimate of the property's value after it is repaired and rented: Gross potential income, minues allowance for vacancy and credit loss, minus operating expenses to give you the NOI. Find out what is a conservative cap rate for apartment buildings in your area and apply that to the NOI for your estimate of value after repair

Then make a realistic estimate of what it costs you to get the building to the point where it is re-habbed and at stabilized occupancy. Don't forget to include all of your carrying costs while working on the actual construction (real estate taxes, insurance, electricity, leasing commissions, debt service, etc.). This is the total you have into the deal, not counting the purchase price.

What the property is ultimately worth (per cap rate and NOI), minus your total costs above is the most you could pay for the property just to break even. Of course, breaking even is not what you want to do, so --as in the post before last -- to achieve a desired profit of $X you have to purchase the property at $X less than this break-even amount.

A third of a modest gain is better than 100% of a painful loss -- which what can happen if you try to over-leverage. Working with partners on a first deal is an opportunity not only to spread the risk around and minimize exposure to debt, but also a chance to learn from the experience of those partners.

As far as giving up part of your potential profit by having partners -- I've never forgottena lesson I learned a long, long time ago, when I was starting out. I tried to encourage a developer client of mine to really push a deal to the edge to maximize his profit. He said to me, "Son," (I didn't have gray hair back then) "Let's do this deal the way it is and move on to the next one. I never lost money making a profit."

And I never forgot that.

Carl - I re-ran your numbers and your calcs are all essentially correct. I agree with the earlier comment that your your property management estimate may be a bit high; if you are completely re-habbing the property, then the forward-looking repair estimate may be all right.

One consideration is that your property taxes will probably increase as a consequence of your re-hab.

I'm wondering of you've considered all of your potential opersating expenses -- lawn/snow, trash removal, electricity for common-area lighting. Perhaps you've incorporated these into your repair & maintenance estimate.

If this property were right out of the box (and if prop tax in fact did not increase) then your cap rate at 180k would be 15%. If you assumed a 3% increase in both rents an opex, then the cap rate would go up almost a half point per year.

You should do a bit of market research to see at what cap rate properties like this and in this market have sold for. If lower -- say 10% -- then you would be looking at a value close to 270k.

Your real profit, of course, is the difference between what you can sell it for after re-hab (net costs of sale such as commission, legal fees, conveyance tax and also cap gain tax) less what you have into it -- purchase price, rehab costs, and all carrying costs during re-hab (such as mortgage interest, prop tax, insurance). That's where the rubber will meet the road.

Frank

Follow-up to Johnny's comment about the negotiated lump-sum buyout: You can handle this issue up front as part of the lease. If the corporate tenant wants to close that store, you can have a provision that they pay the value of remaining rent stream discounted at the 10-year t-bill rate. This, I believe, is preferable to having the space vacant for a long period of time, even if they are continuing to pay the rent each month. You get a lump sum and you also get the space back to rent to a new tenant.

Jordan -

NNN property can be a very rewarding investment. Typically, the return is lower than on a property where you must get very actively involved in day-to-day management. -- but, on the other hand, there is also typically less volatility in your income stream because leases tend to be long-term and can be structured to insulate you from most operating expenses. An ideal lease would require the tenant to pay as additional rent the property taxes (or at lease all increases over a base), as well the property insurance.

An important consideration is the financial strength of the tenant. I would recommend getting a D&B report and trying to learn as much as you can about them and their history.

Commercial leases, especially for NNN properties, tend to be more complex than those for residential or small commercial and can contain provisions that may seem obscure but that can have critical consequences (for example, a "kick-out" clause that allows a retail tenant to terminate a lease if it fails to meet certain revenue goals). Have your lawyer examine the lease, and if possible ask for an estoppel certificate to confirm that everything is actually at it appears.

Frank

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you can follow me on twitter @fgallinelli

When we boomers were kids, I think we used to call them twerps (or was that something else?)

Hello Tony -- Rachel is quite right to say that comfort level plays a big part in decision to follow residential or commercial.

I've been asked that question lots of times, and wrote an article on the subject of few years back where I tried to list out many of the pros and cons. Here it is, and hope you find it helpful:

http://realdata.com/ls/residential-versus-commercial.shtml