what are the key metrics when consideirng an apartment complex deal?

Question

My college town investor specialist agent is trying to convince me to move on a 12 unit deal near a major college university campus. In fact it is prime location where kids can walk to class and restaurants. It is 100% occupied and pre-leased for next year with some increases in rent. She feels the units are somewhat under rented at current rates. At the current proposed price the complex struggle to break even on a cash flow basis at best putting 20% down with a 20 year mortgage and 35% expense ratio. This would require a 150k investment so the cash on cash return is pitiful in my mind. Is this as awful as it seems to me? I am new but interested in apartment complex investing but I would think it's all about cash flow that increases the longer you hold?

In terms of the "one 1% rule" is anything below that something to walk away from without any further consideration?

Giovanni Isaksen · Answer

@Brent Rogers Don't know what market your 'college town investor specialist agent' is in but college towns can be great sources of steady rental income, especially if the local colleges have educational tracks catering to the growing demand for STEM jobs and are in a market where those jobs are available. Not that colleges focusing on industries like healthcare aren't seeing good enrollment and job prospects but the STEM jobs tend to create higher incomes and therefore higher potential rents.

The return hurdles all depend on your holding period and source of funds. If you're raising money from domestic investors or North American private equity it's really tough to find deals that pencil. If you have money from Asia or your own personal wealth, AND are a long term holder, current caps and  rates of return are of less concern because over a 20 or 30 year hold you are sure to do well. Bottom line is you can preach 10-12 year holds all you want and your NA investors will nod their heads and swear they're in it for the long term but in five years in they're all going to be wanting their money back.

I'm talking to investors from Asia whose investment horizon is fifty years or more and that changes what you're willing to pay significantly. To me the key is to make sure that the property is at least cash flow neutral from day 1 including all the reserves for future CapEx, otherwise you will be dieing the death of a thousand cuts.

If you have a specific deal you're looking at I'd be happy to help you evaluate it in terms of your investment goals.

Good hunting-

Giovanni

Brent Rogers · Answer

Thanks for the helpful responses.  Here is a little more info in response to your questions:

Why am I buying and what am I trying to achieve?  I had to retire early from corporate executive role due to health reasons.  I have a fair amount of capital in stocks and similar investments but feel like that investment train is slowing down and could possibly correct negatively so I am looking to diversify into real estate.  I enjoy real estate as well and "the property hunt" keeps me busy.  Bottom line is I have time and some money and I'm learning.

I bought my first SF property a few months ago and would like to diversify another 150 - 200k from equities to real estate.  I am more interested in cash flow than future sale gains but a blend of both is acceptable.  I woud like to hold my properties 10 - 15 years unless circumstances changed.

The first property I bought at this SEC university for 270k is a 5BR that currently rents for $2750/month and should provide 15-17% cash on cash returns not counting equity from future sale.  However I seem to have entered the game on the tail end of the good deals in this area.  Even my college property investor specialist is telling me I might want to look at other nearby tier one college towns that still have these opportunities.  Her firm also does property management for me at 7% which is very good  from what I have learned.

The apartment deal is actually 8 units and is being offered is as follows:

7 1BRs currently renting between $600-$700

1 3BR renting for $1200

All pre-leased for 2015-2106 school year with rent roll total of $5750/month which is a $250 increase over current.

She feels rent could easily increase to $6150 - $6300.

Asking price is $713,000.

I feel like $625k is fair price but it does not sound like that will fly.  I think that should be my top end unless I am missing something.

The positives on this property are the location and the probability that it will stay 100% rented as everything walking distance to class stays rented unless you require a ridiculous rent.  There are a few newer and nicer 1BR places around campus going for $1,000 / month.  Leases are for one year even if students are only there for nine months.

Thoughts?

Joe Fairless · Answer

@brent

@Brent Rogers one thing to consider is renting out the beds to college students vs. renting out the unit. I haven't done that but I'm sure someone on BP has and would have some good insight for you.

But, on the surface based on the #s you provided, it doesn't look good but there are a lot of other variables to consider.

Shane Pearlman · Answer

It all starts with your personal investment plan. Why are you buying? Cashflow today, equity growth? How involved do you want to be? All these things play into the equation. With that said:

You can buy a property that doesn't have great returns today, reposition the property and grow cashflow and equity. It is my personal approach to real estate. It requires opportunity and sufficient reward to merit the risk. Your description doesn't quite paint much upside. Also 35% expense ratio could be legit if the building is in great shape in a high rent area, but for a long term hold including CapEx, you might want to double check those expense numbers.

For multifamily, even in good blue chip areas, I personally look for a minimum of 7% combined annualized return since I get that with minimal risk today. Unless you know something specific about the area or the property which changes the return, pass.

If you have specific questions on investing in university student housing, I know that @Jeff Greenberg is in the middle of a substantial deal and has been digging deep into that market.

what are the key metrics when consideirng an apartment complex deal?

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