All Forum Posts by: Dustin Beam

They ask a similar question at the end of each podcast. :)

This thread is still relevant, but just and FYI that you can find a lot of opinions on that question from people who have been successful at this game. It is a good question though. 

1. Save cashflow from first investment plus personal income and buy or

2. Buy at a good price and cash out refinance and buy or

3. Partner with someone and buy or

4. Flip for capital and buy or

5. Probably many others but I'm runnign out of thoughts haha

I agree though about saving and buying. I once reverse engineered my goals and realized traditional saving 20% down and purchasing was not going to cut it...at least at the pace I wanted (and frankly and probably not at all). 

So I started thinking about what I was going to need to do to get the ball rolling faster. I ended up selling my original property in a 1031 exchange after getting almost everything fixed up. I never actually wanted to sell them, but if I wanted to grow faster I needed to. 

Used that money to buy my current investments. I found, what I consider, a really good deal. Made some repairs and now think I can do a cash out refinance to pull out all/most of my money to make another purchase. I'm still in discussions with banks about that, so not certain, but I feel confident in it. With a little luck, I hope I can do the same with my next purchase. 

If I can do that, doors should start opening for me I would have never expected had I held on to that first purchase. That's the hope/goal anyway. But the point is that there are several ways to grow! 

I've never petitioned for one, but by previous apartments and current townhouses have a USPS owned exterior box system. Tenants go get a key from the post office and the post office repairs the boxes when needed. I imagine the USPS won't want to, but it might be worth seeing if they would. 

 Pro formas are garbage lol. No doubt. 

And sure, you can find different CAP rate properties in the same market. But again, CAP rates applied to a specific property don't really make sense. It does not project profit, just like you are saying about a roof or boiler. A whole other separate analysis should be done for that. I would say, for me, if I'm looking at a property w/ deferred maintenance, this is what I'd want to see for the CAP: NOI/[purchase price + price to fix deferred maintenance + what my effort is worth to do that work in dollars] = market CAP rate. In that scenario, I'd be buying at less than market of an average propety, but taking into account the time and effort to fix the deferred maintenance. Basically getting the property at a discount because I SHOULD be getting it at a discount.

Agreed on your last point. I'm not a savvy, experienced commercial investor, but unless the buyer expects appreciation then I don't see why you would ever buy a low cap property that is a well oiled machine. But of course, yesterday I would have not been able to give you any explanation why you would buy a low cap property at all lol. I at least see one way (a mismanaged low cap property) that a good profit could be earned. "Economical Flipping" commercial property in a low CAP area actually makes more sense than a high cap area. Something that never occurred to me until this morning.

 That's somewhat fair to play the long game and ignore the fair market value. Still not a buying philosophy I would get on board with, but agree it makes more sense the longer you keep it (in most time situations where appreciation is inevitable with enough time lapse).

Mine in bold.

I had a long post typed out, but I think we have a different idea of how CAP rates are used and there is no use going back and forth on this. It seems like you're implying it's used to evaluate a deal. I'm saying it's used to establish "comps" for a given class of property in a given area/time.

Buying a property at 4.x% CAP when that market says it's 6-7% seems foolish unless a major play could be had to make that up. The numbers you provide show that the buyer will make virtually no money (outside of cashflow difference) by going through the trouble of raising rents, turnovers, etc. I wouldn't do that, but it's JMO.

 Right, I understand that. 

And your buyer is doing exactly what I was saying. He/she will increase the NOI to a point that it hopefully is cashflowing regardless if financed, and then if he/she sells, I bet they don't sell at the new CAP rate (based on purchase), but I bet they sell at the market CAP rat for a nice return. They bought at what appears to be a terrible purchase, but they identified how it was mismanaged, thus will improve the value of the property immensely.

From what I understand, CAP rate is a market force. So it fluctuates across the board, but not per property. Meaning, CAP rate does not fluctuate per property. Instead, your sale price fluctuates based on your income. Now I realize someone could be selling at a higher or lower CAP rate than the market force is justifying, but ultimately CAP rates are independent of any given property.

The point I was making is that while I understood that if NOI increased X amount, the property value increased accordingly based on whatever the market CAP rates are in that given area and time. What I was not able to comprehend, is how people were buying in a 5 CAP. I mean, that's 5% profit on investment if you pay all cash. If you're not paying cash, the PITI would eat up that 5% almost assuredly leaving you without cash flow. The part I neglected was how much more attractive a mismanaged property is in a low CAP market than it is in a high CAP market, depending on goals.

One reason this mental hurdle was hard for me is that I'm still relatively new and really focusing on cash flow. So I had this barrier where I kept pointing to cash flow and thinking "there's no way those CAP rates work unless it appreciates!". But I was wrong. I would still say I can't see how buying at those low CAP rates work if it's already running like a top and it doesn't appreciate. But I can see the light on how attractive a mismanaged property can be if mismanaged in a low CAP market on a 3-5 year "flip".

Hello beautiful people of BP, 

Today is one of those days that made me feel dumb. But the good news, I finally "get" something instead of just knowing about it. 

For a long while, I felt that way about Return On Equity calcs. I knew how to run the calc, but I didn't really know what it truly meant. That's another discussion, if  you're new, and don't understand what ROE really means, learn it. 

But to my dumb-me point. Today's aha moment is about CAP rates. I've long understood how CAP rates work, and how larger commercial properties are governed by market CAP rates. What I could never wrap my head around for some reason (open mind but thick skull) was how people....and WHY people would buy at these seemingly insane low CAP rates. And there probably are multitudes of reasons. But one reason became obvious to me today.

At low CAP rates, operational improvements are more valuable than ever. Not cashflow, though. For cashflow purposes, reorganizing a multifamily to perform better is always worth what it's worth. For instance, if you can save, or earn, an extra $50k per year by improving the operation, it's worth exactly $50k (ignoring taxes and such).

But here's the real kicker, in an 8 CAP market, that $50k extra per year increases the sale price by $625k. Not bad. In a 4 CAP market, it raised the price to $1.25M. Fantastic. So buying the same property in the 4 CAP market would make the buyer (on the tail end) more money in the low CAP market than it would have made in the 8 CAP.

There are obviously other considerations like you should cash-flow better when purchasing in the higher CAP rate market (or time line). And it really applies to shorter term holds vs long term holds. However, identifying mismanaged, under market rent properties in a low CAP market is more valuable than finding them in buyers high CAP market.

And if I'm wrong, mods feel free to delete this thread haha. My face does not prefer eggs. :)