how does this deal look? 20 units.

Question

I own a 4plex one street over from the property in question.

I met with the owner the other day at the property. There is 20 units total, 9 in one building all 1 bed 1 baths rent for around $500. 8 in another building that are efficiency units, there is 1 bathroom for every 2 units (shared bathrooms) rent is 400-450. Then there is 1 duplex and one single family, those 3 units rent for $500. Very interesting property to say the least.

Owner pays all utilities, they are not metered separately. He gave me online access to all the utility accounts as well as insurance accounts so I could see his actual expenses. All utilities were around 20k per year, insurance 11k, taxes 12k.

he currently only has 15 units rented. He claims he is super busy and does not have time to run the property anymore, he has a property manager in place but they are ripping him off and putting in BAD tenants. He wants to get out ASAP.

The property is being poorly cared for, the tenants that I saw were not the type of tenants anyone wants, drugs etc.

My 4plex around the corner is all 1 beds and I get $560 per unit with them paying all utilities excluding water. Good solid tenants with jobs and decent credit.

He owes 420k to the bank, I dont think it is worth it for that.

What do you guys think?

Patrick L. · Answer

Well if that's what you're used to then you should quickly identify this deal as terrible. When you factor in all expenses it's a really low CAP and it doesn't take a financial genius to figure that out and if it's in a bad area then it's even worse. It sounds like a poor mix of units, especially with the shared bathrooms. My guess is in order to get decent low turn over tenants into you'd need to turn 8 units with shared bathrooms into 4 one bedrooms that have one bath per unit.....otherwise you'll just end up with the lowest of the low that have nowhere else to go. I think leaving those units you'll end up with the same high vacancy and make ready expenses that has the current landlord burnt out on the property. So you end up with 16 units in the end that you can rent for $500/each or $8k total. You take out 50% for expenses and the $20k utilities and you're looking at $28k/yr. Figure out what return you're looking for and you can see what you can pay. If you want 10% then you'd have to be all in at $280k with your rehab. It's pretty obvious the seller overpaid for the property and is looking for someone to take his mistake off his hands.

Mike Wallace · Answer

Yeah you are right Patrick, its a bad deal. The seller even told me he would love to mail the keys into the bank and let them have it but he signed a personal guarantee for the loan. He originally paid 600k 10 years a go. I am young and have some money that is just sitting around, I self manage all my property and I want more. Just hard to find people willing to sell in my area for a reasonable price.

Bill Jacobsen · Answer

Sorry, I was just using a cap rate relevant in my area. If I had known the property was in Detroit I may have used a higher rate. Pick your cap rate. Two points to remember: 1. If using the 50% rule, add the cost of utilities unless you would plan to re meter. 2. When valuing the vacancies use a higher cap rate. Double or more. This property may not be a deal unless you can do a short-sell. Bill

Mike Wallace · Answer

this deal is in the metro detroit area. Bill that is a hirrible cap for this area. Just so you can get an idea I am used to paying 25k a unit where literally zero improvements need to be made and is rent ready.

Bill Jacobsen · Answer

I think the biggest positive is that you have property in the neighborhood and can apply your knowledge to this. If I were to throw out some numbers I would guess the seller needs about $13,000 + the $420K to clear this property. I would also guess that it needs a minimum of $5k per unit for deferred maintenance. This puts the price at $533,000. If I didn't make a mistake the maximum rent could be $9,600 per month or $115,200 gross rents. If you use the 50% expense ratio + 17% for utilities you have a 67% expense ratio. Utilities might even be low since there were some vacancies. Since there are 5 vacancies I would reduce the gross rents by 25%. I don't like to pay full price for vacancies. Based on this the NOI would be estimated at $28,512. Cap rate would be $28,512 divided by $533,000 or a 5.3% CAP rate. There is something you can pay for the vacancies. Use a valid cap rate for your area. I would suggest about 50%. That makes the total $475,200 or $375,200 for the purchase. I used a 7% cap rate for this estimate. Good Luck. Bill

Jason Nevaril · Answer

From California the "efficiency" units seem unique. Not something that's seems like it would be great for potential upside in resale value. What is the demographics of the tenants? College students? Single individuals? Rent also seems high for shared bathrooms

Mike Wallace · Answer

edit: insurance is 4k per year. seems low?