How are people buying?

Question

Amber Gonion · Answer

We are here in Minneapolis and most larger properties CoC are a little better than what you are describing. Though many properties here are in fact listed at prices that make no sense if you are going to take over and manage them same way. The deals we are finding are the ones where are able to add value through rehab, management, adding pet rents, garage rental, creative income sources such as vending, internet, short term rentals, etc. We tell our investors that rarely is anyone selling a preforming property we need to keep looking at every property with open eyes for what it could be not for what it is. If you are able to gain a couple of points on CoC and then speculate on neighborhood appreciation some of these make sense. We are fortunate enough to have some cash buyers that purchase rehab and refinance after stabilization and repeat.

I agree though there are plenty of properties out there being bought with rose colored glasses that may never make a decent return.

I agree though there are plenty of properties out there being bought with rose colored glasses that may never make a decent return.

Dan Handford · Answer

@Ivette Bravo You can't always just look at the CoCR. You need to be looking at IRR as well. Now with that said...a 2% CoCR is hard for many investors that are looking for better annual returns right away but there are some investors out there that really are looking more for the tax advantages than anything else. Offsetting other passive income with larger apartment assets is a real game changer for high net worth individuals.

@Michael Lee Great tip on looking in Craigslist for renting ads and then calling them to see if they are interested in selling. This won't work that well for larger complexes but the smaller mom and pop ones would work great I would think.

@Amber Gonion I agree. You must find deals with value add strategy. It is hard to find a property that is underperforming that you can take over and manage it the same way to make a return. Initially the cash on cash will not make sense but if you can buy the property and implement a proper value add strategy business plan that many times it will begin the cash flow better.

@John Sayers in this market you definitely have to network. You must be networking with other investors, brokers, wholesalers, etc. The more people you have looking for properties the higher the chance you will find one that works for you and your investors.

@Jordan Moorhead if you have not done any deals then sometimes partnering with someone else will allow a broker or seller to take you more seriously. I agree that you should never look at the listing price to determine if something is going to work or not. You have to do your own underwriting and make offers based on what your investors are expecting for returns.

Jordan Moorhead · Answer

@Ivette Bravo you have to be patient and persistent. If you haven't done any deals it can sometimes be hard to get people to take you seriously.

If you keep looking and keep making offers based on numbers that work you'll find something. Too many see the list price and say "the numbers don't work" and never even try. Deals don't get done by staring at Loopnet, they get done by networking with active investors and brokers and making offers. Get creative and get to networking!

Josh Collins · Answer

@Ivette Bravo - I am hoping these people are buying because they can force appreciation through rehab or raise rents.  Others are banking on the market being hotter than the cashflow and therefore wanting in because they think appreciation is their investment method of choice.  Think of it this way, if you put 20% down on a $1M property ($200k) and rents go up 10% over the next 3 years, you could double your money in 3 years with zero cashflow.  You might ask, how if the rents only went up 10%.  Well, that 10% rent increase is mostly likely free and clear due to expenses staying the same.  (Okay, I'm making generalizations, but I'm making some assumptions for ease of following.  The numbers I'm using could be taken literally with respect to each other, as in, the difference between rent going up and expenses going up is equal to the net increase of rents going up 10%.)   I'm guessing this is the thought process of institutional investors and also other investors who don't need immediate cashflow.  So if the profits go up 10% (which is just $9K/ year), the value of the property might go up approximately 18% using a 5% CAP rate ($180k).  Therefore, you double your money (assuming you can still sell the property with a 2% CoC return, of course) in 3 years.  But wait there is more: depreciation can help offset other income from other properties not to mention your tenants are paying off your mortgage.  In 3 years, on a $800K loan at 5.5%, that's a return of $71,700 of loan paydown.

So you add up the loan paydown and appreciation you get a return of $251,700 over 3 years or roughly a $83,900/yr for a 41.95% return on your initial $200K investment.

Okay, so this is super simplistic, but let's say it doesn't appreciate at all and you have a 0% CoC return and all you get is the loan paydown.  That is $71,700 over 3 years on your $200K investment or $23,900/yr for a 11.95% ROI.  Still not horrible.  You certainly would want some sort of slush fund for expensive stuff that could go wrong up front but assuming you budget for it, the rental income should pay for the repairs over time once reserves are built up.

So this is how some people might be buying these properties.  Banking on the loan paydown and hoping for appreciation.  As you can see, it's not a horrible strategy.  But if rents go down for some reason, you could be in a world of hurt.

(My numbers were based on a $1M purchase of a  5-plex that rents out for $1500/mo before raising rents and the expenses eat up all the rental income.)

John Sayers · Answer

Amber's note resonates for me; "keep looking at every property with open eyes for what it could be not for what it is." From what I hear from active participants (and read) for those doing deals in the DFW metro region, it is hard, but not impossible. Off market sources seem more key than listed ones, and for sure some sourcing creativity. Of course, one's network connections are super important is such a market where rational and irrational seem to cross paths.

Michael Lee · Answer

Hello Ivette!  I have living in or just outside of Dallas all of my life.  I'm currently 61 years old and have mostly construction experience.  I was also had a Broker license in Texas for about 30 years. I believe that most are looking hard and taking less profit on the deals they get.  It's a numbers game that requires many offers and also requires a little luck.  I agree that you must be conservative but to get anything may require that you be a little more liberal.  Look in Craigslist and even call renters and ask if they are thinking about maybe selling.  Be as creative as you can.  Be more creative with video.

Good luck to you!

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