Helping analyze a multi family

[Jeremy Francis]

Hey BP! I know there are tons of "how to" and "what to look for" posts, but it helps me to see things from my own scenario. I want to analyze a property that I am looking at. It is a 12 unit property for $375k. It has a cap rate a little over 10% with average rent of 525$ per unit. The history shows rental occupancy average of 92%. Projected cash flow looks very good including expenses and extras like property management fees etc. It fits the "50%" rule. What other information should i be looking at before deciding to purchase a multi family and why would something like this be sitting on loopnet for 2 months?

Thank you!

[Sam Grooms]

Originally posted by @David Alvarado:

Like others mentioned some additional information surrounding the expenses would be helpful. The 50% rule can be misleading in some instances depending on the location, age, class of property, etc. I've seen many smaller properties in the Ohio market operate in the 55% - 65% range so that can throw numbers off. Also, depending on if it is an all expense paid property can skew numbers. Lastly, as Arlan mentioned, knowing what deferred maintenance there is would be useful. 

Exactly. Expenses aren't some magical percentage. If my rents jumped from $500 to $800, it's not like all of my expenses follow suit. Only use a "rule" for preliminary underwriting, to weed out deals and determine if further underwriting is warranted. 

I would never underwrite expenses lower than the averages. I buy 80's product, individually metered, individual hot water, individual HVAC. My only variance is between flat or pitched roof. I know that for my type of product, in my market (Phoenix), operating expenses are going to be $4,200-$4,300 per unit per year. Someone might have lower rents, so the 50% rule makes it seem like they have enough expenses, but when you look further, they're running it extremely lean at $3,400/unit/year. That's not sustainable, so I'll need to increase them, even if that means I'm up to 65% of gross income. I also know that anything under 9% economic loss (physical vacancy, loss to lease, bad debt, concessions, non rev units, etc) in my market isn't sustainable. Sure, they might be running at 5-6% right now, but that's because there's virtually no physical vacancy right now. Eventually, supply will catch up to demand, and occupancy will normalize. 

In the end, how most people are taught to buy, based on the 1% rule, 50% rule, cap rates etc, can get you into a lot of trouble. Those are all outputs, not inputs, and can be highly manipulated. They're OK to use as a filter, but then you need to actually underwrite a property to your required returns. You can then calculate your outputs (expense ratio, cap rate, etc), to see where you land compared to the market.