Would you consider this 10plex and if so, at what price?

Question

I am a new investor and have two properties (3/2 SFR in middle class neighborhood and a  2/1 1/2 duplex in low income neighborhood) in the Lafayette, LA metro area.

I am interested in apartment complexes because of the cashflow and not having to deal with 100% vacancies.

I came across a 10 plex for sale (C property)in a small town about 25 minutes away.  I've currently got it under contract for $176k, but the financials are very weak.

Seller bought it in 2004 and spent 2004 - 2007 rehabbing it.  He gutted it and put in all new plumbing, electrical, fixtures, sheet rock, flooring, appliances, etc.  The building is in great shape and two apartments remain unfinished.

There are 8 2/1 apts and 2 1/1 apts.  The apartments that are left to be finished are a 1 bedroom that needs cosmetics (about $3k) and a 2 bedroom that has had plumbing installed, but still needs sheetrock and everything else.

Since that time he has had it on the market starting at $340k until I put an offer on it at $180k.

I requested to see all the financial information from 2009 - now.  I only received 2010 and 2011 data because it was self-managed before that point and he isn't forthcoming with the data.

In 2010, there were only 2 apts rented and the property lost money.  I have been told that the property management company he was using at the time is not very responsive to low-income properties. The property manager broke off from that company in Dec 2011 and since that time has filled 7 units (one of which moved out last month).

There has also been problems with loitering and a lot of police calls to the property for disturbances.  But, the property manager said that they have worked out an agreement with the police (the station is two blocks down) and they have stopped the loitering and things have gotten better in the last few months.

Since this year, the property is taking in an average of $3000 per month.  To attract tenants, they offered all bills paid on 3 of the 2 bed. and they are charging $550 a month.  Property Manager said the electricity deposit in the town is $300 and that people can't afford all of that up front.  There is also section 8 tenant in 1 paying $460, and another tenant paying $375 without electricity.  Then, there is a one bedroom renting all bills paid for $450.

There are not a lot of apts in this town, but the ones that I called on rent a 2 bed. for $550 - $650 w/o electricity and have a waiting list.

The seller is motivated as he had grand schemes to rehab this place and make a killing and it hasn't happened.  He has had it under contract over the years a few times, but the price was too high.

I still think the price is too high and I am nervous because the property has lost money every year from what I can tell from his tax return (retained earnings of -85k since 2004).

I have also had a hard time doing the deal analysis, since their seems to have been such poor management and the financial data is all over the place.

Here are the facts:

Purchase Price currently : 176K
Property taxes (after adj.) $1300
Property Insurance (incl Liability) $3000
Gross Rents (using current model and only 6 rented) $34910
NOI: $17,200 (as best I can figure.  this includes $100/mo per apt for electricity, 10% management, 75% finders fee and turnover every 8 months), $200/mo water, 10% maintenance.
Mortgage with 20% down at 6.5% for 20 years = $1050

Sorry this has been so long.  Thanks for your help and advice...

Natalie Kondratenko · Answer

Wow!  Thanks for all of your responses!

To answer a few questions:
1. My current property manager mostly manages low-income and would be my property manager if I decided to buy this.  However, this is outside of his area and although he is willing to do it, he says it is risky because of all of the unknowns for both of us.
2. I haven't priced the rehabs because I wanted to see if it made sense with just 8 units.  The 2 units that need rehab have been in the same condition for at least 2 years.  The seller never finished them since he wasn't able to rent out the other 8 consistently.  Ballpark for the 1 bedroom is $3000.  My dad and my husband would do the work, so mainly it would just be the materials.  The other apartment needs everything and my property manager said he thought it would be at least $10k to get it finished.
3.  I have spoken to the Police about this property and the area.  They said that there are a lot of calls to the property - that they are disturbances/fights outside mainly.  They said there has been no reports of drugs or drug activity there.
The area in general is low-income, very poor, etc.  There is not a lot of job growth and the population has decreased slightly (1%) over the past 10 years.

I have decided to pass on this as it is outside my area and most importantly, my property manager's area and therefore too risky.

Max Drizin · Answer

Ok so the revision thing is weird.  Caveats: everything in here is probably wrong, I pulled most of the information from the first post, it has full rental with 10% vacancy.  In it's current state, I wouldn't show this to an investor or a bank.  Don't kill me please.

Five-year pro forma

Max Drizin · Answer

I have to agree with Brian.  The 50% rule is a great system when you see a property and some rents, and nothing else.  I can go visit a property, get some information from the agent or the seller, and not pester them too much if I'm just looking.  My goal is always to get enough information to see if I want to look further.

If I was a seller, I would hate to have to give out every bit of financial information to every remotely-interested buyer, it just isn't worth the hassle.  90% of people will just waste my time.

With that mindset, I can go to a seller and ask the purchase price, or I can estimate everything from what's listed in the MLS or on Craigslist.  I really don't want to have to call/deal with people if I don't have to, so I try my best to make the most informed decision.

But I'm digressing, as always.  Since we have all of the expenses, or at least enough to do the rest ourselves, we shouldn't be using 50%.  We should be plugging in the numbers as they are and seeing how it is.  I'll have an edited post with a pro forma in a minute.

Brian Morgan · Answer

I am going to give this one more shot because I think this goes beyond just this deal.

To answer your question. No, I do not bid $0 for the property, but I also don't give them the benefit of full vacancy for having done none of the work, as your numbers do.

That's exactly what the 50% rule is... A Magic Trick to make your cash flow disappear! This forum greatly exaggerates and promotes the 50% rule as some sort of Golden formula to value Multi unit property. I concede, that it is a good basic tool to get an idea of property value when there is absolutely no other information available.

However, In this case, We had two years of data! Are we supposed to just throw that out for the sake of using the 50% rule? There was $12,000 in utilities! There is no way to factor in that type of extreme number using the 50% rule.

Please, when seriously looking at multi property, take the extra step and do the math! It takes an extra 2 minutes and in this case would have been the difference between cash flow and an alligator.

Uwe, I'm not trying to bash. I an merely pointing out to you and other potential onlookers that you could potentially be giving away thousands of dollars!

In this case alone, using both our NOI's @ a standard 10% cap rate, we were over $130K apart on purchase value!

Mitch Stephen · Answer

I start looking at deals when there's a 25% ROI. I start buying somewhere above that. It does make a difference if I feel like I can turn the prperty around and create a larger spread from something the current owner is not doing or if the current owner is not managing the property right. Can I raise rents? Can a seperate meters on a place that has one meter fore the entire complex? Can I cut expensies?Can I increase the occupancy rate due to my superior marketing savvy? Can I weed out the trash tenants and make the place a better place to live where people will pay more and stay longer?

--Mitch Stephen--

Uwe S. · Answer

Right choice in this case Natalie.
Fighting outside of propertie is not right area for an good investor.

You will find an other one.

-Uwe

Jeffrey K. · Answer

I would pass on this.  Unless you do low-income stuff for a living you could be in for a 10 unit world or hurt.  Who is going to manage this?  Can you find any places in a better part of town even if they makes less money on paper?  How much is the rehab and how many bids do you have?

Joel Owens · Answer

The key here is the AREA.You say it's in town.

I wouldn't count the rents in a better area of town.You have already said they have waiting lists and rents are higher in better parts of town.

If I was a renter I would pay more to be in a safe place as well.When you have low income tenants you have more turnover,problems,and damage.

Many of these tenants are unstable sometimes mentally and job wise.Their life isn't stable so neither is their income.

I am not saying this to be the case with all low income tenants but based on averages this is the case many times.

You can price in the risk for this property.I wouldn't pay 178,000 based on what you said just because of the area you describe.Plus the other units you have to dump in immediate cash to get them rent ready.

On the utilities if they are not separately metered then don't spend the money if tenants are used to utilities included.They will just go down the street.You have to get right down to the heart of WHY this property has had so many problems in addition to just it's location over the years.

Have you pulled a crime report for that complex?? Violent versus non violent crimes and frequency of occurance.

I would want to know in a 1 mile ring radius what the crime looks like as well.You will see a trend of an areas stabilized,going down fast,or coming back up on the mend.

When you go to resell you will have to sell at a very high cap to get high risk investors to purchase the property from you.

Uwe S. · Answer

Brian,

I see one mistake on your post, what you bid if a propertie vacant? $0? No I guess.
You must calculate with normal market and after your result you must decide if the deal is it worth.

Possible CAP of 15% is good and even more so with 20% downpayment. Natalie must decide with their DD if deal is okay or not. Numbers looking good for me but donÂ´t know the neighborhood so only "maybe" for me.

-Uwe

Would you consider this 10plex and if so, at what price?

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