Evaluating deals in Denver: what's a realistic NOI?

[Bill Coleman]

I have been analyzing condo and townhome deals for the last couple months in Denver metro and I am having a really hard time making the numbers work. I am looking for a little advice from some seasoned pros as to what is a reasonable NOI before and after debt service. I am afraid that I am setting my expectations too high and might be tossing out perfectly good deals because of unrealistic expectations.

For instance, I found a condo for $60k (list price), $200/yr taxes, $184 HOA, 10% vacancy, 10% management co, and $60/mo insurance. I am estimating rents at $760/mo. If I ignore debt service (assume I buy cash), then my NOI is $208/month.

Is that good for this market? Seems like a ton of risk and work for $200/month. I feel like I want $500/month minimum NOI to make me feel like I am getting compensated for my risk and hard work.

[Bill S.]

Personally I don't see too much in Denver that excites me as a long term hold from a cash flow perspective. I would say this about your analysis. 10% vacancy is twice what the market is. Currently we are running about 5%. I would say you can probably do better on the average if you have a good manager. 10% for PM is on the low side since lots of PMs want 10% per month plus first month's rent for finding tenants. I know there are those that do it cheaper but in general you are going to pay in others ways IMO. If you self manage you can donate your management time to your property and that puts some more cash in your pocket. Is your insurance based on a quote? I have seen insurance on condos in that price range about $300 per year. Might want to check it out.

If you want a better rate of return you have to find units that have so many non-owner occupied that they don't qualify for FHA backed loans. Then you are only competing with other investors but we all know there are plenty of those to go around.

Condos and Apartment buildings really scare me. There is so much new building going on (I read 18,000 new units under construction with 10,000 to come to market in the next year - normal is considered around 4-6K units). I foresee rent growth coming to an end and higher vacancy rates. That said, new projects are being planned each day so until people actually see the market contract I doubt there will be any slow down in building.

SFH (something with a yard) I think has some potential. Something like 60% of the building permits are for apartments - "normally" it's about 25% so I still think there is room for growth there. Things close to downtown or along light rail are high on my list. I would only buy if I got full coverage of debt service with none of my money. In those cases I would have some serious equity going in. Given that, I would buy with the idea of flipping it within the next 2 years. BTW those deals aren't in the MLS.

Right now the Denver market is in rapid appreciation. S&P Case-Shiller home price index up about 9% last year for all of the metro area and we have past our previous high index value from 2006. We are one of only one or two Cities to get to that point so far. Who knows how that's going to play out. Perhaps like SoCal in days of old where it lasted for years, perhaps like Phoenix not so long ago, or even somewhere in between. My crystal ball is a little foggy. It appears that most people are betting on continued growth in rents and property values. The 2% rule is a fairly tail here and the 1% rule (same as 2% just different number) is hard to find. It's my observation that most buyers are willing to breakeven with debt service or even go a bit in the hole since the appreciation (value and rents) is so good.

I know investors from the Coasts come to Denver and laugh at the low values and low rents for all classes and types of properties.

Fortunes are made during times like these. They can also be lost if you remember just a few years back.