Should we close on this 4 unit?

[Allison Escovedo]

We are under contract for a 4 unit apartment complex in Taft for $170k.

Each unit rents for $575. Currently, there is 50% vacancy. It was advertised as fully occupied. I talked with one of the tenants who has lived there for 10 years. She says it has been vacant since October, although sellers financials say it has only been vacant for one month. She only speaks Spanish, so I could've misinterpreted her but I'm 90% sure that's what she said. She also said the other units on the block are cheaper and do not require a deposit. She said that the current owner would sometimes take 20 days to respond to maintenance requests (she is the acting property manager) and at one point they didn't have hot water for a month. So there is definitely room for us to do a better job landlording.

They are all farm workers, so the work is seasonal and I'm concerned with the drought we are facing now in California we will be seeing a slow down of farm development and thus a loss of farm worker jobs. Taft is a town of 10,000 oil/ag workers, but it also has a community college and a prison, about 1 hour from Bakersfield. 

Accounting for 10% vacancy, prop management (10% of income), insurance (.5%/year), prop tax (1.34%), maintenance (1%), water, garbage, sewer ($250 per month) in our analysis originally we have monthly CF per door of $125 with cap rate 7.58% and Cash ROI 11.76%. If we lowered the rents to $535, monthly CF per door is $92.50 and cap rate is 6.70% and cash ROI is 8.71%. But with the vacancy rate at 50% currently, we are going to ask for a reduction in the purchase price. Any advice/ thoughts/ insights would be extremely helpful as this is our first deal and we don't want to TOTALLY screw up! Thank you :)

[Michael D.]

You're about to lose a bunch of money on this building. Trust me. In my mind, the numbers are horrible, there's likely a ton of deferred maintenance, it's been poorly managed, etc. The two vacancies are likely your best tenants.

The reality is that right now there is about $1150/mo in scheduled income, because two units are rented. If the other two units were easy to rent, then they wouldn't be vacant. Don't pay the seller for all the work YOU are going to put into it. You pay for the building as it is now, which is crappy.

Let's say it was completely fixed up, you've done all the work, spent all the money to fix it up, and gotten new tenants (probably 4 new ones, to be honest). Then you'll have a building which is still only bringing in around $2300, which is probably an annual net of $14,000 or so. In which case it's worth $140k at a 10% cap rate, and that's AFTER all the hard work and headache. You don't need to pay the seller for all the hard work you're going to have to do.

You're going to have to put $50k into this project. Offer them $120k and if they don't take it, just walk away. Sadly, if you walk away you won't know how lucky you got. But if you take it, you'll regret it.