8-unit Deal Analysis.. Is it a good buy?

Question

I'm currently looking at an 8-unit building in a C- neighborhood and trying to justify it. One of the bigger concerns for me from a snowballing perspective is that since I have to put 30% down it is going to significantly eat into my available cash for other investments. The other concern is the current leases and the timeline to raise rents. Here is the information.

8 one bedroom units currently renting at $500 each with all utilities included (My PM thinks they can rent for 650-675 with hot water and heating included. I think that the current owner is even paying all of the individual heating and electricity meter bills)

The heating is one system with radiators in the units. The hot water is one central water heater. Both systems are more than 10 years old. Heating the units and providing hot water is a significant cost (pro forma around 5k annually, but I'm thinking closer to 6k or 7k).

This building does have coin op laundry and claims 1k annual from that on pro forma... I'll just call that icing on the cake.

Taxes 5k annually, insurance 3.5k (pro forma.. i'm not sure why its so high), and management/repairs/capEx/vacancy @ 33%

One thing that has me totally confused is the water usage. In this area water is not sub metered so the owner pays that bill. The city is claiming monthly bills around $150, which for an 8-unit that is 7/8 rented makes no sense to me unless people are using the place as a glorified storage unit in most of the units. I usually budget 40-45 a month on water/sewer per unit.

What do yall think of the deal? What price would you pay for this place considering the 30% downpayment requirement (Seller wants over 200k per the MLS listing). I considered that I could get it for lower on account of the lower rents and then get it reappraised in 6 months with the higher unit rents and do a cashout refi based on the higher value of the property due to higher rents since its technically a commercial property or at least a commercial loan. I'm expecting to need to replace the furnace and water heater in the next 10-15 years (I'll have a better idea when I tour the property).

Bill Manassero · Answer

@John Barkow It looks like it could be a decent investment but I first would phone survey the area. Call similar fourplexes, duplexes, etc. to find out what actual rents are and find out how many cover all utilities. If you could off-load the utilities back to tenants that would help tremendously. The easiest way would be through a RUBS program (if allowed in your area).

A little more costly, but worth it in the long run, would be converting to separate meters for the units. You could covert to all-electric at first and have the tenants only cover electric. You could lose the radiators/boiler and go with electric side board heating, too. Later, you could introduce RUBS or a shared water bill program.

Anthony Dooley · Answer

Where to begin....

You need to know what they will rent for, not asking the PM's opinion. Assume that you cannot get more rent. Do not expect the pro forma to be accurate. It is pie in the sky. Tax records are public. Talk to the assessor/ collector about the taxes. You can get insurance quotes for free, don't guess. Don't base the value on the asking price. Base the value on NOI, Cap Rate, and cash flow. There will be a high turn over in this type of product, so the cap rate should be double digits. I assume you know how to calculate this. If not, please learn more before buying.

Jeff Smith · Answer

I think a key question that you'll have to work with the property manager more on is how they are justifying the increase from $500 to $650. Does the market in the area justify that increase and do you have to do any upgrades to make that happen? When will the existing leases expire and how do you think the tenants will respond to the increase? You can start by laying out the lease expirations and switching them to the full amount to help in your evaluation on the income statement. I have a couple of fourplexes and it took about twice as long as the property manager said in order to get the rents up to where the local market had them. You'll just need to ensure your strategy is sound and not wishful thinking by the property manager, though they should be incentivized to make the increase.

You can also eventually look into making the tenants pay for a portion of the utilities. On my fourplexes, I pay for a base cost up to a certain volume of water and then split the gallons over that amount to the tenants. It isn't much in cost to them, but it has made them a little more cautious about the water usage and they report back to the manager if there is a leak.

Jack Barkow · Answer

The water apparently is higher.. maybe 3-400/mo

There isn’t any rehab to be done from what i saw the units were well cared for and in great shape (I saw 3/8). So it’s either raise rents or this is what you get.

Financing would be 20 year ARM for a commercial loan. My understanding is that is the norm. Rate would probably start at 5.5-6%.

@Jay Helms yes I’m mostly curious if other investors would do this deal. Obviously I’m not going to offer the full asking price of 250k, but just in general if other people would do the deal if they get an accepted offer at say 200k or something lower.

Jay Helms · Answer

@John Barkow - are you asking what do we think of your analysis or would we do this deal based on your provided analysis?

Lana Lee · Answer

Our duplex uses $100 to 130 of water. Yours sounds strange.

John Acheson · Answer

What's your interest rate for commercial financing? Can you raise the rents after some rehab and better debt with a 80+ credit score entity and 720+ personal credit score guarantee? If you own your home you can HELOC in instead of paying high interest since you may not have a seasoned LLC for commercial financing.

Peter S. · Answer

Hey John, the water bill doesn't look abnormal. You have an 8-plex with all one bedrooms, so your tenant base is probably a single person or couple with possibly a child. If the tenants are seniors, they might not waste as much water as younger tenants. On my 6-plex's the water bill is around 150/month but i have a few 2 bedroom units so more people.

Insurance around 3.5k is average too. I think for my 6-plex's i'm paying a little over 3k, and for my 9-plex around 4k. So if you average it out, you are probably on the money with that. You can of course lower coverage, get a higher deductible, get actual cash value instead of replacement cost (not advisable) to lower your premium, but the numbers don't jump out as if something was wrong.

The gas bill for heating hot water and heat in winter is also not a crazy number, I think anywhere from 4k-5k/year if managed properly and gas prices stay at current levels. The key is managed properly, you need to make sure windows are not open during winter season and if tenants do air out their units they turn off their thermostats.

Anthony Dooley · Answer

I would take the city at their word on the water historical data. I like to get 10% cash on cash. A 10 Cap is pretty good if you don't mind the hassles. This is not an appreciation play or value add. It should cash flow well, which will help you fund other deals.

Jack Barkow · Answer

@Anthony Dooley It is a modest 10 cap at the 650/mo price point. Otherwise it is a 5.5..

One of the main things that I'm struggling with is the water bill for the property. 8 units and the city is telling me that the bill is usually around 150 and its been around that for a long time. My other 4-plex gets billed more than that per month from the city so either I have a leak there or this 8-plex is very under-utilized.

I know that I have more due diligence work to do. I was just looking for some general feedback. The only pro forma I didn't take the time to look into was the insurance cost.

Do you have a formula that you use based on the NOI, Cap Rate, and cash flow for making an offer or do you just play with the purchase price number until those items meet your target numbers?

8-unit Deal Analysis.. Is it a good buy?

8-unit Deal Analysis.. Is it a good buy?

Most Popular Reply

11 Replies