The numbers may look good, but it is a terrible investment.

General Real Estate Investing
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The numbers may look good, but it is a terrible investment.

Tom Goans
Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes

My opinion, what is yours?

If you have difficulty renting or selling, great numbers are meaningless. The numbers may look good, but it is a terrible investment.

Many times, I have been presented with investment opportunities by “wholesalers” and real estate agents with high returns on investment ... according to the numbers they assumed. The investments were terrible risks and losers.

Example 1. I was presented an investment opportunity to buy. The “wholesaler” gave me the numbers he compiled. This included assuming a monthly rent amount of $1,200.00. This was the only way to get a positive annual cash flow.

The problem, the average annual income for the primary target is $46,000. In my opinion, the rent amount in the proposal is too high and too much of a burden for the target markets. My Opinion. I prefer to make deposits, not be a burden and have high turnovers.

In my opinion, the target market is the first and primary consideration when analyzing an investment and running the numbers. I feel you must back into the analysis to prepare the numbers for analysis. If you have difficulty renting or selling, great numbers are meaningless.

Example 2. A real estate agent presented what he considered an excellent purchase. It was a large number of residential lots within a several years old subdivision. The problem and why the present developer could not sell the lots? The lot price far exceeded the local market and what the target market could afford or would pay. The real estate agent defended the price by stating the amount the developer paid for the land. Then he said that it is industry standard to multiply this amount by 4 to determine the lot price. This is backwards in my opinion. The first consideration is the target market, demographics, and the target market’s desire and trends. All is ignored by what the real estate agent considered the industry standard.

It is my opinion that if the target cannot afford the property, does not want the property, the trend is moving in a different way, you will find it extremely difficult to rent or sell the real estate investment. In fact, it is no longer an investment, it is a liability.

Example 3. The largest foreclosure ever recorded in El Paso County was when a local developer defaulted on a large development loan. The numbers looked good when the business plan was written. It looked good to the lender. Yet, there were NO BUYERS. In fact, this same developer lost several development properties to foreclosure, went broke, and closed the real estate office.

Numbers come second when analyzing an investment. Manipulating numbers to make the investment work is dangerous to success. The target market and market trends are critical to success.

My opinion, what is yours?

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  • Rafael Norat
    Investor · Lodi, NJ · Member since 2013 · 487 posts · 179 votes
    13y

    Tom,

    Great points. I does seem backwards and kind of a brute force method to use pre-determined formulas without understanding the specific customer base you're looking to draw from.

    What methods do you use in analyzing the target market for such cases?

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y

    As a broker and an investor, I have a couple of opinions...lol. The first is that comps should come first and I think that is what you are referring to as the market. However, comps are based on numbers.

    In both your examples I think the numbers were made to fit the "sell" as opposed to numbers which supported comparable sales. It does not sound like either deal had a adequate CMA performed. Had this been the case, the numbers would speak for themselves.

    Anytime I'm evaluating a buy for myself as an investor or as an agent for a client investor I take that property out of the neighborhood and let the neighborhood convince me.

    Too often I hear "new investors" raving about a short sale they were able to take off the market and what a great deal it is because it's in a great neighborhood and other homes sold for "X". When I ask what the rental market is like for that area, they look at me like I'm speaking a foreign language...probably because I am. They don't speak "cash flow". But...but they've purchased this great property with all this equity... to use as a rental.

    If there are no recent comps that support your use of the property it's at the wrong price.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y

    There are thousands of properties that are underwater or have been foreclosed the past 10 years. Each was supported by neighborhood comparable prices, as is usually contained in an appraisal.

    Across the country there are many neighborhoods where the comparable sales and the subject property of an appraisal and comparable sales are now worth less than just 3 years ago, and especially 7 years ago.

    During the past 10 years, thousands of appraisers and real estate agents were fined and/or lost their license because of fraud.

    This is why I have never put value in an appraisal or comparables included with an investment opportunity package.

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y

    I only went by your examples and neither of those in my opinion seemed to represent comps ..." The lot price far exceeded the local market and what the target market could afford or would pay. The real estate agent defended the price by stating the amount the developer paid for the land"

    Comparables have everything to do with the local market, you indicated the price exceeded the local market. What does what the developer paid for the land have to do with comparables showing what the market would support?"

    You should definitely stay away from fraudulent wholesalers and agents, and do include incompetent ones to that as well. But not all agents fall into that bunch. There's good and bad in every industry.

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  • Ryan Logsdon
    SFR Investor · Los Angeles, CA · Member since 2013 · 134 posts · 16 votes
    13y

    Tom Goans I don't believe a single number I read when I look through a deal these days.

    My dad and I were looking into a deal that was pitched to us on a self-storage business. The numbers looked great until my dad came into town and found new competitors opening up shop, and tons of deferred maintenance on the buildings.

    If the numbers are good, one of my rules of thumb is to ask myself... "is the broker probably in a position to buy this himself? ...then why are they passing it up?"

    Another question I like, "if this was mine, would I sell it and give up that cash flow?"

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  • Ryan Logsdon
    SFR Investor · Los Angeles, CA · Member since 2013 · 134 posts · 16 votes
    13y

    Some people don't even proof the numbers they send. Last week, an agent faked his numbers. Using his numbers, the properties were cash flowing 28%. Heck! Sign me up! ...Oh wait, fake numbers.

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  • Mary B.
    Real Estate Investor · Lansdowne, PA · Member since 2013 · 1k+ posts · 656 votes
    13y

    If the suggestion of a significantly higher rent doesn't work for the area then the numbers are wrong. There can't be both because if the numbers really work the deal will work. Now often times the wholesaler or realtors numbers aren't working because its incomplete and one sided(in the seller's favor). Full due diligence is very necessary. Remember good investment deals must be a winning situation for all parties involved and the numbers will certainly show if it is or isn't.

    Kudos,
    Mary

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  • Karen MargraveBusiness Member
    Moderator
    Realtor, General Contractor, and Developer · Redding, CA · Member since 2009 · 7k+ posts · 4k+ votes
    13y

    Eliza Blue Once again, it's important to remember that ALL real estate is LOCAL. Comps don't mean anything if there are none. There are many areas of the country where the crash hit extremely hard, and there are NO properties that have sold other than the REOs. Now that those are off the market, and being fixed up and put back on the market, those sales will begin to build a foundation for comps.

    As for land values, there are areas in Orange County that justify multi million dollar homes. The neighborhoods have no sales of newer homes to justify the price for any new homes being built, until that happens, and there are comps of sold homes. The only sales are lots with small 800 sq. ft. or so houses on them, and the sales price is $800,000 more or less. Those sales are for the land, because there is no land available for sale on which to build. Therefore; the value of the land, as set by the prices being paid for the junk houses definitely is factored in to any appraisals.

    Whenever someone is trying to place value on a property, it's important to understand the local market, and economy. Just as Tom Goans mentioned the mini storage units being built. Someone unfamiliar with the area wouldn't know that, and may end up losing big money.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y

    The great thing Ryan is you exposed the problem without losing any money or sleep. Your red-flag radar is better tuned for future investments.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y

    Ryan, you brought up another red flag that comes to my mind when a property has been for sale for more than 1 month. In every market, there is liquid money seeking investments. Why has this "deal" been passed on?

    If the property is listed with a real estate agent, you can bet the active, liquid investors were called the first couple of days.

    This should be a critical consideration for all investors.

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  • Bill B.Pro Member
    Camarillo, CA · Member since 2013 · 217 posts · 86 votes
    13y

    Tom Goans

    I'm preparing my own checklists and analysis documents. The following are going to be prominent on the TOP of first page. Thank you for posting them.

    I'll be spending the next few days researching how I want to accomplish this. The most obvious being to:

    1. use MLS data for sold property from at least three realtors that includes: list price, sales price, days on market, cumulative days on market, beds, baths, to see sales trends/DOM
    2. walk a LOT of property that is currently for sale
    3. drive by a LOT of recent sales with comp sales info in hand
    4. spend a LOT of time MONITORING (not just looking at) Craigslist to determine rents
    5. reviewing sites like www.rentometer.com to check/validate what I saw on Craigslist
    6. reading the local paper for several months regarding local trends and events
    7. and reviewing the target market on sites like http://www.neighborhoodscout.com.
    8. THEN I can start reviewing proposed deals and start working numbers.

    May I ask your opinion on the thoughts in the previous points? Anything screaming to be added, changed, or deleted?

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y

    Karen Margrave Agreed. Comps are but one of many tools to be used to determine whether or not to proceed. It's where I start because if there are "good and reliable" numbers it gives me a basis for which direction I proceed.

    For me as an investor I primarily purchase SFR 4-2 foreclosures, in great working class neighborhoods. I've always started by running the numbers. I buy to hold so it doesn't matter so much to me the solds, as much as the cash flow.

    As an agent, I take the same approach. I need to know how the local neighborhood is performing before I take a listing or agree to submit a bid for a buyer. Lol...often this tells me more about what type of client I'm going to be dealing with and if I even want to do business.

    It's a waste of time to list a property priced too high because a seller refuses to give weight to the comparables. Even if I lose the listing... at the end of the day I've provided an accurate depiction of what the market will bear.

    And yes, of course in the situation where there are no comps or the comparables are not recent enough other factors must be considered.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y
    Originally posted by Bill B.:
    Tom Goans

    I'm preparing my own checklists and analysis documents. The following are going to be prominent on the TOP of first page. Thank you for posting them.

    I'll be spending the next few days researching how I want to accomplish this. The most obvious being to:

    1. use MLS data for sold property from at least three realtors that includes: list price, sales price, days on market, cumulative days on market, beds, baths, to see sales trends/DOM
    2. walk a LOT of property that is currently for sale
    3. drive by a LOT of recent sales with comp sales info in hand
    4. spend a LOT of time MONITORING (not just looking at) Craigslist to determine rents
    5. reviewing sites like www.rentometer.com to check/validate what I saw on Craigslist
    6. reading the local paper for several months regarding local trends and events
    7. and reviewing the target market on sites like http://www.neighborhoodscout.com.
    8. THEN I can start reviewing proposed deals and start working numbers.

    May I ask your opinion on the thoughts in the previous points? Anything screaming to be added, changed, or deleted?

    Bill,

    I agree with your list. My spreadsheet will list both for sale and sold properties as well as the other information you mentioned. This gives me an overview of the competition, what is the dream asking price, what is the real sold price, and how active and desireable the neighborhood is.

    Focus on the target market, its buying power, trends, demographics, etc. are even more important.

    For example, once again, the federal government announced they WILL be reducing the size of active troops. Any town that has income from a military base will very likely be affected in just a few short years.

    When the troops were deployed overseas a few years ago, the area near a base in Colorado went from less than 5 percent vacancy to 15 percent. The target market is now gone. The great numbers no longer apply.

    Focusing on the target market with a heads up approach could be a wise part of the investment consideration.

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  • Bill B.Pro Member
    Camarillo, CA · Member since 2013 · 217 posts · 86 votes
    13y

    Tom Goans Thank you!!

    0Reply
  • Karen MargraveBusiness Member
    Moderator
    Realtor, General Contractor, and Developer · Redding, CA · Member since 2009 · 7k+ posts · 4k+ votes
    13y

    Eliza Blue Sounds like you've got it down, and will do well. When I used to work real estate; and sellers wanted to list for more than I knew a property would sell for by a considerable amount, I'd say, do you want to list or sell your property? That usually cinched a listing for a marketable price, or I passed. Who needs a bunch of overpriced listings? It makes the agent look bad.

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y

    Thanks Karen Margrave due to "doing well"...lol I've had to change my business model from finding gems to lease out using bank financing to taking the cash I would be required to put down (now 30%) to the auctions. I'm not complaining... I just see it as growing pains.

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  • Robert Steele
    Investor · Lucas, TX · Member since 2010 · 620 posts · 352 votes
    13y

    Eliza Blue I think you are missing Tom Goans point. It doesn't matter what the comps say if the market participants cannot afford it. The market can often fool itself. Look at all the markets that blew up after the last bubble. It doesn't help you much when you are upside down 30% by saying "but the comps said it was a fair price".

    If demographics say that in any given local market the median house price is $500K but the median income is $25K and the recent sales comps support the $500K asking price (because people making $25K a year are using 0% down NINJA loans) would you still feel confident that it's a good buy because the comps say so?

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  • Ryan Logsdon
    SFR Investor · Los Angeles, CA · Member since 2013 · 134 posts · 16 votes
    13y

    Tom Goans

    I couldn't agree more, my friend.

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  • Wendell De Guzman
    Investor · Chicago, IL · Member since 2013 · 2k+ posts · 1k+ votes
    13y

    Tom Goans, I agree with you 100%.
    I tell beginning real estate investors, "You can buy and sell houses in any market, but how you buy and sell will depend on the market." What the market can pay is what determines the numbers.

    When I started in real estate investing, I followed the "70% rule" when acquiring a house to wholesale/rehab. That is what the "gurus" said. After making 50 offers and not getting an offer accepted, I decided to find out what my market (at that time - 2003) was willing to pay for.

    The gurus were wrong. The 70% rule was too conservative. I increased it to 75% and I got offers accepted and I was able to wholesale deals.

    So to your point, the numbers may seem good but the question is "Good for whom?" or "Good for what market?"

    Lesson is therefore: Learn the market first and invest by the numbers second.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y

    In my example of troop population being reduced, today’s great numbers may be tomorrows (almost that quickly) disaster leaving the investor with a vacancy, overhead, and penniless.

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y

    Robert Steele No, I'm not actually I'm in agreement with him. He makes the point that "the numbers could look good but it could still be a terrible deal" I don't deny that.

    I'm simply stating in the two examples he gave I didn't consider either of those to be good comps which were reliable. And to my point I start with reliable comps and use that as a basis to go forward or not.

    I think we all agree that we all use numbers and ultimately comparables of some sort. All comps are not the same nor are the sources who provide them.

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  • Ann Watkins
    Real Estate Broker · Houston, TX · Member since 2013 · 187 posts · 111 votes
    13y
    Originally posted by Robert Steele:
    If demographics say that in any given local market the median house price is $500K but the median income is $25K and the recent sales comps support the $500K asking price (because people making $25K a year are using 0% down NINJA loans) would you still feel confident that it's a good buy because the comps say so?

    To your question, I'm at a lost. NINJA loans or not...and I don't even know what that is...lol but where would someone making only $25k a year qualify for a $500k property regardless of the type of financing?

    I've heard of some creative financing but that to me would only work if it was a cash deal where they were only financing a balance well within their $25k income, credit and DTI. And I doubt $25k a year would be sufficient to handle the upkeep and maintenance on half a milly in house.

    If the market supported a $500k value based on recent sales then something or someone is supporting that market. It cannot be someone grossing $13/hr. Assuming you're not referring to outright mortgage fraud.

    As an investor I'm always looking at neighborhoods to find a good deal in, as a realtor I use other realtors, my existing investors, anyone underwater in a current property, delinquent taxes, the MLS, etc to make this happen. In other words, again...I don't rely on any one thing to make a buying decision.

    You all have been around a lot longer than me, I'm willing to listen to anyone who's willing to fill in the blanks for me. So enlighten me...no snark intended, I'm truly here to learn and grow.

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  • Tom Goans
    OP
    Real Estate Investor · Englewood, CO · Member since 2013 · 988 posts · 258 votes
    13y

    Eliza, I think you missed Robert's point.

    You may want to reread and analyze your posts from a different perspective.

    0Reply
  • Robert Steele
    Investor · Lucas, TX · Member since 2010 · 620 posts · 352 votes
    13y
    Originally posted by Eliza Blue:
    Originally posted by Robert Steele:
    If demographics say that in any given local market the median house price is $500K but the median income is $25K and the recent sales comps support the $500K asking price (because people making $25K a year are using 0% down NINJA loans) would you still feel confident that it's a good buy because the comps say so?

    To your question, I'm at a lost. NINJA loans or not...and I don't even know what that is...lol but where would someone making only $25k a year qualify for a $500k property regardless of the type of financing?

    That was an extreme example just to exemplify the point.

    Oh, and NINJA loans are No Income, No Job or Assets. These loans did exist during the last housing bubble.

    Just for the record I did hear stories of people on $30K income qualifying for $600K loans. Easy to do when you don't need to prove income to qualify for the mortgage.

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