Are my numbers to conservative?? And, what should be included when calculating a cap rate?

[Matt McCourry]

Hello Multi-Family investors!

I am posting my struggles here because Multi-Family is my primary interest and I own 4 units (2 student housing duplexes) and want to grow my portfolio.  However, outside of student housing, I can't find a decent deal at an 8% cap to save my life!!!

Therefore, could somebody please weigh in on how they calculate their cap-rate and if mine is too conservative???

Heres the way I calculate it,

(Gross Scheduled Rent) - (Vacancy rate (at least 5-6%)) = Operating Income

(Operating Income) - (Repairs & Maintenance + Utilities + Taxes + Insurance + Management Fees (at least 8%) + Replacement reserve (capX)) = NOI

Then I simply divide the asking price by the NOI (Asking Price / NOI) to get the cap rate.

I can't find anything above 5 or 6 % at best, am I doing something wrong or does the MLS just suck that bad??

I am in the Myrtle Beach market BTW....

Thanks Guys!

-Matt

[Roy N.]

@Matt McCourry

First off, 1-4 units are considered residential, not multifamily/multiunit and are priced based upon comparative sales and not on income.  I cannot tell what size buildings you are evaluating ... there are references to existing duplexes, but nothing else.

Secondly CAP is one of the simplest, yet most misused ratios in real estate {I won't get on my soap box this time}. Give Ben Leybovich's blog post here a read, but even more so, read Brian Burkes comments on the blog.

Your CAPEx reserve is not an operating expense, it is a reserve and is deducted from NOI.

Instead of looking for a specific CAP rate which will get you in trouble, you should be carrying out a discounted cash flow analysis over your {initial} hold period and determine the IRR or MIRR ... use these to anchor your underwriting, then look at things like Cash-on-Cash return to help determine the composition (some might say, quality) of the return.

Frank Gallnelli's "What Every Real Estate Investor Needs to Know About Cash Flow" is a good primer to get you started.   @J Scott also has a couple of blog posts here on BP which will walk your through some of the basics of discounted cash flow analysis.