Good cap rate for selling short term rentals?

Question

I have a small portfolio of six rental units. Five of them are run as furnished short-term rentals, and one is a long-term rental. I'm interested in listing all six for sale. I'd like to know if you think this is an attractive deal. Details below.

Operationally, the business is run tight. It's almost 100% automated. As soon as we get a new booking, our software notifies our cleaner so that he can put it on his schedule. We have automated messaging, restocking, etc. It works well. We've managed to maintain a 4.8+ star rating on our listings.

The location is outside of the city of Detroit. Great access to highways and central to the metropolitan area.

I wanted to provide a picture that shows some of our work, so that it may help illustrate the level of quality. Picture is here.

The Net Operating Income of the business is $140,685.00. I feel confident with that number after going through our financial data. Next, I want to settle on a cap rate. Online I see that most businesses for sale in my area are in the 7.5% cap range or they don't include financials at all. A 9% cap rate puts the listing price at $1,563,166.00. Would this be considered an attractive cap rate? Too high, too low?

Anthony McEvoy · Answer

Hello @David McCracken - while I understand your approach, I don't often agree with the valuation.  Of course, if you can get someone to pay what you want... AWESOME!  I often suggest sellers put themselves in the buyer's position.  In other words, analyze the portfolio as if you were buying it and what is the maximum you would buy your own portfolio for based on the information you know.  What would the monthly payment on a loan of $1.25 Million (assuming 20% down) in that area and how does that compare to approximately $11.7k NOI?  Is there any room for growth with these properties?  Is there any deferred maintenance or capital expenditures coming up?

Another aspect I think about with my short term rental analysis is all of the exit strategies from being a short term rental.  I look at the other comps in the area if I had to sell.  What if I had to convert it to a long term rental... can I make a 12 month lease financially work?

I would love to view the listing when you are ready!

Dan Maciejewski · Answer

Most SFRs that are selling to become STR in my area are selling at around a pro-forma 9% cap rate in my area.  I think that would be a great deal, especially if you're selling the business and not just the properties.  And especially if the prevailing cap rate is lower than that in your area.  To sweeten the deal, you could offer a 30-90 day period where you walk the new owner through running the business.

If you were in my area and selling 6 SFRs with a proven 140k NOI, you should have no problem selling that at that price.

I use cap rates to evaluate all investments.  I think it's perfectly fine to use a cap rate for a SFR, even though it's a "commercial" metric.  If I'm looking at a 6-unit MFR, or 6 individual SFRs, I want to know which is better in one number!  And cap rate will/should include individual lawn service and other things for each SFR, so it should be useful.

Anthony McEvoy · Answer

@David McCracken - after rereading my post, I should better clarify.  I am good with people using cap rates but should not ONLY use the cap rate.  That is where I struggle with some sellers who are hard noised about sticking to a cap rate.  Similar to many metrics, it is best if not only looked at in a vacuum but at times it is a good basis or starting point.

I'll connect with you directly!

David McCracken · Answer

Hi @Anthony McEvoy, thanks for the reply. No problem to disagree on the valuation. One thing that I love about cap rates is that it removes the financing variable. It becomes difficult to compare deals when some are cash, some are 10% down, 20% down, this interest rate, that interest rate. There are not any short-term rental portfolios that have ever been sold in my area. The cap rate valuation gives me a method to valuate my business based on comparable businesses in the area.

The biggest growth opportunity is one unit is still a long-term rental. It was freshly remodeled along with the others. All it needs is furniture to see a big boost in income. These are all licensed rentals. The remodeling was done with permits by licensed professionals. Everything inside is new. Flooring, cabinets, appliances, bathroom fixtures, etc. Roofs and furnaces are in good shape. AC units are brand new.

Long-term works fantastic in that area. The demand is high and supply is low. I spent a lot of time working on the rentals myself. Every day multiple people would ask us when the properties would be ready for rent.

I'd be happy to shoot the listing your way. Let me know a good email. Otherwise, I'll send it to you here.

Kevin Morgan · Answer

A lender will not underwrite this deal using the NOI you generate.  They will use market data which will not include STR.  Therefore, your buyer can't get this financed using a traditional source of financing.  This will greatly reduce demand and the price.  It's tricky, I'm in the same position.  If these are houses, they will be appraised using local comps as per usual.  Again, not STR comps.  That being said, an all cash buyer with experience with SFHs as STRs might take a bite of this apple...

Feras Majeed · Answer

Why are you selling this? Sounds like an awesome set up you have there..

Good cap rate for selling short term rentals?

Most Popular Reply