36 unit in suburb of Columbus, Oh

[Bill McCartney]

First, a little about me. My wife and I have had a few really good years with our business so I took the profits and spent the last year building a small portfolio of 21 units in Columbus and Newark, OH. We have quite a few SFH, a couple of duplexes, a quad and 2 weeks ago closed on my first 6 unit. Most of the units are C's but have a few B's. I didn't really know what I was doing so I started out using all cash thinking it was the safest route but recently started using both owner and bank financing to leverage the cash I have left. I have really only bought home run's. Earlier this year, I bought a foreclosure for 50K for cash, put 2K into it, then it appraised for 100K so right now I'm doing a cash out refi and getting back 70K. Oh, and it rents for $1500/mo!

That is how most of my portfolio is. Not including maintenance (which I mostly do myself and has been averaging just $175 per month) or capex, anything over 46% occupancy covers all of my costs. I read somewhere on here that not including management costs, not paying out for maintenance and not including capex and calling what you have left profit is not really profit. Got it but not sure what else to call it! My wife has been managing our business and now all of my time goes to real estate so if you want to call it a job, I'm ok with that. The longest I've had a unit sit vacant is 10 days. I take good care of the units and the word is out. I have a waiting list from current tenants' friends and relatives.

At any rate, it takes A LOT of time to find those deals. I've probably looked at close to 250 deals in the last year. And I bought up every one that fit the criteria I was looking for. The good deals have been much harder to come by in the last few months and I think finding 21 more units like the ones I have will take a lot of effort. 42 more would take forever.

Which finally brings me to the reason for my post. I told you what my strategy has been to date. This is quite a bit different and so I'm looking for some advice.

The off market deal:

36 units asking $825,000. 2 buildings with 18 units each. Built in the early 70's. All brick. Tenants pay all utilities. Radiant electric heat in floors in one building and gas furnaces in another. All single pane, older windows. Roofs 8 years old. Cast iron plumbing. One building is gas and as I understood it, is concrete floors and walls as firebarrier. I imagine this would be a pain when it comes to plumbing repairs. The other building is electric and is stick built.

23 1 BR units averaged @ $397 per month.

1 1 BR unit converted into laundry @ $0 per month.

12 2 BR units averaged @ $427 per month.

Gross $14,255

Expenses (owner claimed) $2000 - I will be managing the building myself and doing most of the maintenance.

Taxes $916

Insurance $566

Net $10,773

Mortgage $5536

Cash flow $5237

Owner is willing to carry financing. 10% down. 5 years at 6.5% then jumps to 8% in the hope I'll get traditional financing within that time.

The building is probably the lowest rents in the entire city (I wouldn't call it a town, but it's a pretty small city). The building manager told me this was because it wasn't a very nice area and attracting higher paying tenants was a problem. As it turns out, it has been poorly managed for quite a while. They have the lowest rent and attract the type of tenant that can only afford the lowest rent. Which in turn drives out the decent tenants so they have to further reduce rent to attract more low paying tenants. The good news is they have very few vacancies. The bad news is when I started asking around, most people with options would prefer not to live there because management "either doesn't see or doesn't want to see" what goes on there. The area is pretty nice, however. To me, I see that as opportunity. If I run out the drugs, low lifes and trouble makers and turn around the reputation, in a few years I can get rents to where they should be which would add about $4000 per month in revenue.

So there's the deal. This would be a big step for me. My gut says jump in with both feet like I always do. But there's a part of my brain that is making me nervous (or could be my friends and family who all work real jobs and don't have a penny saved that want to give me investment advice....) It would be nice because I'd have 36 units in one place. But that is putting a lot of eggs in one basket. And if I do this deal, it will probably be the last one I do for a while as it will eat up a lot of the cash I have left.

What do you guys think? Is this a deal you'd do? Thanks in advance!

[Michael Gansberg]

@Bill McCartney, interesting property. I've had experiences in properties somewhat similar to this- a problematic ten unit brick building in my primary stomping ground of Troy, NY, comes to mind. The tenants were extremely challenging when I acquired it, and after several years, we managed to increase the quality of the tenant base somewhat, but not as much as we'd hoped- the building's reputation preceded us, unfortunately.

Then things changed quite suddenly and I think this story is relevant to your potential acquisition. So for that and for amusement's sake, I'll give a snippet- I was on vacation, and got a text at 11 PM from management. I knew that good news wouldn't follow. Turned out one of our tenants had burned their apartment down- total loss of property, was fortunate in that it was largely contained to one apartment(cigarette in the kitchen garbage can, then out to dinner, those fools.) My manager said to me, "It's so strange, they were 2 months behind on rent, and they just paid their renter's insurance this morning!" I replied, "Odd isn't the right word, let's go with "suspicious."" 

So we decided(or really, it was decided for us) that we'd completely rehab the apartment. And we went with excellent finishes- I thought, why not update this baby? And when we did, we also raised the rent by 15%, and got the best tenant we'd ever had in that building. So a eureka moment followed- why not do the same upgrades to the remaining 9 units as they turned over? Over the next year, we modernized(re-did kitchens and baths, essentially) about 7 apartments, raised the rents on those apartments by 15%, and the tenant base changed almost immediately. The building became a desirable place to live, occupancy(which had been 80% at best) zoomed to almost 100%, with very short turnover times in between move-outs. Problem tenants? Nope, no more. (side note- after rehabbing the apartment completely, the tenant texted us and asked if they could have their apartment back- not that they tried to become current on their back rent or anything like that. Oh, the humanity.)

You have a thornier situation, I think, as 36 units is more challenging than 10, and rehabbing a substantial fraction of those units will be expensive. What leapt out at me was the electric heating- my guess is that exerts substantial downward pressure on the rents there. Residents know how expensive that can be, and insulation requirements in the 70s were much lower than they are today- throw in the single pane windows, and oofah! That place has gotta be expensive to heat. I'd look into the possibility of installing heat pumps with electric heating elements for very cold days(one per unit, hopefully, in the units which currently have electric heat) these can be installed in the window much like typical air conditioners and they will function as air conditioners in the summer- some can be installed through the wall. This might be your most inexpensive path to lower heating bills for residents. As a contractor, you probably know more about this stuff than I do. Maybe look into some better insulation. And upgrade the units aggressively and en masse- if you can manage to change the building's reputation rapidly, you'll be able to raise rents sharply and quickly. 

I think under-rented situations offer the most promise for stellar returns, especially when those low rents are a direct result of poor management, inefficient building systems, and poorly finished apartments, as those problems are generally fixable. 

MG