I often get asked my opinion on apartment investment scenarios …and the askers seem to expect there is a single correct answer.  Portland multifamily is clearly the belle of the ball for commercial real estate investments locally.  We’re highly regarded nationally as well. We’re even seeing a growing transition of equities from stocks to real estate.  But within multifamily investing there is a wide variety of approaches investors can take to align their acquisitions with their risk profile, timing, whether they want to focus more on cash flow or overall growth, etc.

How should “Jerry the plumber” invest?

Jerry is a 50 year old who owns a successful plumbing business.  In addition to his own home Jerry has 8 other single family residences that are rentals.  He currently manages and maintains all the properties himself.  They have significant equity in them.

How should “Barry the bond holder” invest?

Barry is a retired businessman who has well over a million in bonds that pay anywhere from 2-4% per year.  He’s conservative, (he’s into bonds after all!) but he’s also concerned about inflation.  Monthly cashflow is very important as that is a major source of income.

How should “Jacob, the mid-30′s dynamo” invest?

Jacob is young enough that he doesn’t even think about cashflow…his focus is on the big chunks of equity that come upon sale so he can exchange into a larger property.  His current goal is to own as many doors and expand his holdings as fast as possible, even if that means a shorter hold period.  He doesn’t see himself as a risktaker…he times markets and buys at the bottom, although he does use higher leverage than most apartment guys.

How should “Dylan the daytrader” invest?

Dylan is a highly successful daytrader who understands the stockmarket and has made a killing in it.  He’s concerned that the volatility index of the market is increasing and that the European (and local) debt problems may reduce values.  He wants to put $1 million into multifamily, but he doesn’t know the first thing about asset management of real estate.

While these names are obviously made up, the profiles are similar to actual savvy investors I’ve met.  Please check back to follow the series as we explore the challenges and possible solutions for each of these scenarios.  If you want to me to assist you in developing a custom solution crafted to your specific economic circumstances, contact me, Rick Bean, at: 503.577.1034 or rick@rosecitycre.com.

 

To be a genius in 5 years make smart real estate investments today. To minimize risk a conservative investor should consider:

• Buying a multifamily investment with no debt, or very low Loan to Value debt.
• If any debt is part of the deal make sure it is positive leverage! (Finance rate percentage is lower that Cap Rate.)
• Buy in a city who’s in “Recovery Mode”.

Use Portland as an example of a Recovery Mode city:

• Apartment prices per unit will be low
• Absorption is high…no worries that rapid building will drop revenues
• High barriers to entry (That’s PDX alright!)
• Rents starting to rise (PDX!)
• High occupancy rates (Portland is above 95%.)

When a conservative investor buys in the Recovery cycle they are buying in at the bottom of the market.  Buying in with little or no debt assures them that they can make much higher

I have chosen a boutique approach because I believe each investor deserves to have a strategy custom tailored for their needs.  If you would prefer individual attention rather than “shoehorning”…contact me at Rose City Commercial Real Estate: rick@rosecitycre.com or 503.577.1034.

returns than the bond market…and have their profits paid monthly from cash flow.  Because they have taken a very conservative acquisition strategy and used good timing, they are substantially sheltered from the pain of a further downturn. Even the combination of a reduction in occupancy and reduction revenues is not likely to impact them because of their superior Debt Service Coverage Ratio. Since they are buying in a Recovery market the inertia is for increased revenues and profits.

At the end of the year they will shelter their taxes with depreciation.  When they go to sell…their gains can be rolled over using a 1031 Exchange.  I know of an investor with several thousand multifamily units  that started out with a triplex in Eugene.  He made a nice return on the plex…but 36 years later the taxes still are deferred.  Now that’s a good deal…but I digress.

The Ultraconservative Approach: How to Invest

A truly conservative approach to multifamily investing would be an all cash purchase.  Let’s say you bought a 15 unit property that the listing agent said was a steal at a 7.5 Cap and $1,000,000.  For the right seller we might be able to offer $850,00 cash, conditioned only on books and records and physical inspection contingencies.  A 30 day close  has great value…particularly if the Seller is motivated.

Remember…this isn’t a sexy deal…as a conservative investor you’re more focused on:

• Avoidance of equity loss.
• Stability
• Cash flow.
• Preferential tax treatment on profits.

To achieve these you’re willing to give up some long term appreciation. (After all: you had your money in a bond that guaranteed a loss of buying power.)

The Cap rate is the ratio of the first year operational revenues- operational expenses compared to the sale price.  This allows us to see what kind of revenue generating machine we’re looking at without clouding the picture with capital expenses and financing costs.  In our example, after paying all of the operational expenses $75,000 (7.50% of the offering price, or 8.82% of the price paid) is left for profit, capital expenses and loan payments. We call this NOI or Net Operating Income.

Since we paid cash there is no loan to deal with.  The listing agent didn’t mention a capital reserve in his proforma…or he might have put in $150/unit per year in.  We don’t believe him.  As conservative investors we will set aside $350 per unit for a replacement reserve.  We will also pre-fund at closing an operating reserve to the tune of $10,000 and a replacement reserve at $15,000.  This will increase the original equity requirement to almost $900,000 due to closing costs, etc.

YIELD:   Our increased reserve fund payments took care of our capital expenses, but reduced NOI by to $5,025.  That left us a $69,750 year 1 return on a $900,000 investment or 7.75%. Please note that we can take depreciation based on a 27.5 year basis…so we have tax sheltered a significant portion of our profits.   Because we bought in at the lower end of the market we can expect an increase in cash flow over the next few years.    

Are you a conservative investor? Call Rose City Commercial Real Estate today at: 503.577.1034 oe e-mail me at: rick@rosecitycre.com.

 

 

 

 

One of the metrics to look at when picking an area for a long term investment is the affordability index.  And by that I don’t mean looking soley at how much the median income is in an area…I mean:

Average Rent/Median Household Income = Affordability Index.  (What portion of your pay goes to rent?)

It’s great that some investment counselors track Median Household Income (MHI), but without the context of average rent for that area we really don’t have a way to evaluate areas that have long-term rent expansion capability.  An obvious example is New York City.  Clearly the MHI is higher there, but so are average rents.  New York has an affordabilty Index of 57.2%.  That means that between half and two thirds of the household income goes for rent.  I suggest that while NYC has posted impressive rent gains for all property types, that the pace of those increase is likely to wane…how much more than 57% of your income could you afford to pay for rent?   Years ago I had an employee that considered himself to be a real tout, a master horse race handicapper.  Mark would always tell me:  “Rick, there are horses that run fast, and horses that run long…but aint no horse that runs fast and long.”

Highly Ranked Portland

With Average Rents at $825 and Median Household Incomes at $57,757, Portland’s Affordability Index is 16.8%.  That’s fifth in the nation.  Portland-Beaverton-Vancouver “Asking Rents” jumped an average of of 3.1% in the fourth quarter of last year compared to a year earlier.   Full disclosure:  Oklahoma City had the nations best ratio at 12.3%…but the catch is that if you move there …every morning you wake up in Oklahoma.

With room for long term rents to expand and a great area to live in, isn’t this a great time to invest in Portland area multifamily properties?

Look at current and future job growth as key factors when evaluating a market for multifamily purchases.  To research opportunities I have traveled to  Reno, Albuquerque, Phoenix, Seattle,  and Los Vegas.  Without exception job creation/population growth seemed to be the common fundamentals that told the tale.  It seems that folks would move to hell if they could get a job.

That’s why I’m so strong on Portland.  We’ve seen good job growth on a consistent basis here for years and the promise of the future is for the pattern to continue or accelerate. 

For those that are dour about the current multifamily market…remember that while Cap Rates are decompressing currently, there are many properties that were purchased at the average 8.3 Cap in 2002. They would now  trade at a 6.50 Cap.  Do the math: 8.3 divided by 6.5 equals a 28% increase in value even if NOI only stayed constant.  The truth is that this market enjoyed significant increases over that period and many Portland multifamily investors have huge sums of redeployable equity, and this is the time to act.

Contact me for equity redeployment information now at: rick@rosecitycre.com