28 Unit Apartment Complex

[Kyle R.]

Potentially purchasing a 28 unit complex and would like to get the forums insight. It was built in 1941, sits on half an acre. Seller owned for 10 years, selling due to cross country move. Asking price is $420,000. Property is located in the Carolina's. Please let me know if I'm missing anything.

• Collected rent was $137,000 in 2016.
• Maintenance expense was 11% of rent last year.
• Cash flow is $1,800/month.
• 10 tenants have lived on property for over 20 years. One has been there over 30 years.
• 90% average occupancy. Current occupancy is 97%.
• All utilities are billed to landlord (water/sewer, trash, electric, gas). Average yearly utility expense is $50K. Planning on implementing RUBS or raising rent over 1-3 years to begin billing tenants back for utilities.
• Rent is priced 10% above market. Not enough to cover utilities.
• All brick/masonry construction.
• One tenant lives on property rent free, but is responsible for cutting grass, cleaning breezeways, painting/cleaning units at turnover (landlord buys paint), and minor maintenance. Rent for this unit would be $500.
• Boiler was replaced in 2007. Roof was replaced in 2005.
• Water heaters are gas and tankless. Three instantaneous heaters are on the property, two of which run at all times. The third is a backup.
• City water/sewer, no septic tanks to worry about.
• Window AC units.

Concerns:

• While current manager has kept occupancy high over the last five years, he admits to not collecting security deposits. He claims tenants can't afford it at move in, so he bills them $25 monthly until the deposit is paid. However, most tenants don't pay the extra $25 and he doesn't evict for it. Only 20% of current tenants have a deposit.
• It's becoming difficult to find technicians to service the boiler room. May become costly to replace/fix. I have mixed feelings on the tankless water heaters as well. 
• Lead paint/asbestos. Neither of which have been discovered on property, but due to age, it's expected. Tenants required to sign disclosures.
• Minor cosmetic issues. Building could use a repaint, a few awnings need repair, and landscaping could use some help. Structurally it appears solid (contractor to verify).
• Expenses are 70% of income due to utilities.

[James C.]

Kyle,

At 1800 FCF/MO (21,600) you are looking at a 5% cap rate (21,600/420,000).

However at 70% expenses (30% Profit) it's 137,000 x .3 = 41,000/420,000 = 10%cap rate.

Capex is going to need to be higher than average to repair boiler and water heaters, those are probably coming sooner rather than later. I'd discount the asking price for these, if possible. Take repairs right off the top. Kind of sounds like the current owner knows that some big bills are coming due and wants out before they hit.

 If your tenants can't afford $25/mo for a security deposit, then $148 for RUBS won't fly either (50,000/12/28). I'd nail that down ASAP, since that is where you are looking for profit to replace the systems. The deal is going to be tough if you can't get back the mechanical costs.

Overall, if your net is 1800 (cap rate 5%) it's not good. If it's at a 10% cap it's better... but the mechanical stuff and it's cost recovery needs a good fine pencil point.

Good Luck,

Jim