Calculating the Value of a Renovation

[Michael Vazza]

One of the first things you want to look at of course is the market. If units in your market that have recently renovated are renting for a few hundred dollars more than yours, then this should be an immediately simple and good indication you may be leaving money on the table and should consider renovations. You need to know what your market’s rents are and how you stack-up against them.

As far as the financials, the main process I look at is whether or not the ‘return on cost’ is greater than a property’s yield. For return on cost let’s say that I am looking at a remodel that has a cost of $20,000 overall to complete the project and add value for a unit. If in my market I can be confident that these renovated units will push my rent from $1,200/month to $1,500/month. Then the first part of my return on cost calculation is simply the $300 difference x 12 months which equals = $3,600. This is the added value (return) that I can expect. To finish the equation, we divide the $3,600 of added value by the $20,000 cost of the renovation - $3,600/$20,000. This gives an overall return on cost of 18%.

If my current yield on a property is 5% and the ‘return on cost’ of carrying through with a project is 18%, then it makes sense to complete renovations to pull up the properties returns. If the ‘return on cost’ is not as substantial - maybe 5.5% then it’s not going to drastically pull up my overall yield on the property and I most likely wouldn’t want to go through the headache and time of accomplishing the renovation. Any ROC below the yield would be dismissed as it wouldn't add value. 

Anytime the return on cost is substantially higher than your current yield on the property – then it will make sense to seriously consider renovations to add value to the property. 

What other calculations or metrics are other investors/managers using when considering renovations?