April 26, 2022 • 3 min read • Real Estate

Every real estate investor knows that there is inherent risk in any investment. However, when it comes to purchasing multifamily properties, investors need to be especially vigilant about preventing unexpected pitfalls. Our previous article outlined how to get started with real estate investing. Here, we outline some of our top considerations for multifamily investing.

Location

Location serves as a starting point in our top-down decision-making process. The more specific one can be in their search criteria, the higher the likelihood of their success. Targeted focus on just a handful of areas can help increase buyer/brand awareness and broker and lender relationships. Here is a list of questions to consider when determining the right location:

a) Population: What towns, cities, and states have witnessed a net increase in population? What are the demographics of those migrators? Investors can look for population and other data from the Census Bureau and county websites. Migration trends can be found in the Census Bureau data, and from local transporting companies, including Uhaul. One thing to keep in mind: higher-density areas tend to have pockets of higher crime. Having a thorough understanding of an area's characteristics makes for prudent decision-making.

b) Employment: What is the job-growth trend in this specific area? What are the top industries, and what are their respective growth rates? Our criteria include a focus on cities with growing employment in healthcare, financials, software, and technology.

c) Demographics: In our research, we identified the largest age group as the Baby Boomer generation, followed by Millennials. We specifically follow migration trends of these two age groups. Digging deeper, we set specific criteria based on a mile radius related to household income, median age, and level of education.

d) Geography: Geography analysis is where our data stops, and our people interject. Our Yieldwink motto—“data-driven, people executed”—comes in handy on this criteria. The geographic composition of a city can play a large role in its economic trajectory. Why are New York City property values (almost) always rising? Geography. The limitations of New York City’s size force new development to move one way—up. Consider Phoenix, AZ, and Salt Lake City, UT. Surrounded by rough terrain, the direction of future development for these cities can be assumed.

We tie these four main identifiers together to determine our location preferences. Once we hone-in on specific locations, we further dissect these metrics to identify mile radius to narrow our focus. For example, we identified Millennials as being a growing age group in Salt Lake City, UT. Based on this information, we determine school ratings and compare median incomes to home prices to determine a sweet spot for where Millennials are likely to move after having children. Salt Lake City witnessed one of the fastest-growing rent and property value increases across the nation.

Financials

Once we lock in our location preferences, we can start analyzing deals. For every multifamily property that we analyze, we perform a quick financial analysis based on the cap rate of the investment.  

Cap Rate = Net Operating Income (NOI) / Purchase Price

NOI can be determined by subtracting a property’s operating expenses (excluding mortgage costs) from its gross rental income. Once computed, the NOI will be divided into the purchase price of the investment—this number will determine the property’s cap rate percentage. 

In today’s market, depending on the area, we have witnessed cap rates hover from 3% to 7%. Typically, the “hotter” the market, the lower the cap rate, as competition from buyers will drive up the denominator (purchase price). Depending on the type of purchase (core plus versus value-add), we prefer our going-in cap rate to be 5.5%+.

As a quick analysis, we use the following fast estimates in our calculations:

a) (Gross Income) X (.54*) = NOI 

*We multiply the gross income by .54, as we expect operating expenses to be approximately 46% of gross income (100 - 46= 54).

b) We take the NOI and divide it by .055 (5.5% is used as a base going-in cap rate). The result will give us our valuation for this property based on a 5.5% cap rate. If the asking price is much higher than this number, we may likely pass, unless we see this property as a value-add opportunity.

Property Condition

This factor may be of the utmost importance, as a bad structure can create a money pit for your investment. It is imperative to have an inspector walk through the property to identify faults. Here are a few factors to consider:

a.)   Age: For a variety of reasons, including plumbing, mechanical, foundational, and etc., we prefer our properties to be built after 1970. Prior to 1970, home builders used galvanized steel in their plumbing construction. Galvanized steel is known to rot, which can be a large cost to new property owners. Scoping plumbing lines is a must for properties aged prior to the 1970s.

b.)   Roof: Roofs are a major cost to large multifamily properties. Always consider the last year of roof replacement. Certain types of roofing material are known to last longer than others—a good question to ask your inspector.

c.)   Heating/Mechanical/Plumbing: Ask your inspector to pay specific attention to these costly items, especially in older developments.

Now that you know the top three factors to consider when investing in multifamily real estate, it’s important to keep these things in mind as you make your decision. Remember, population and financial stability are key, but don’t forget about the property itself. Stay up-to-date with our blog for more insights into the world of real estate investment at www.yieldwink.com/education. You can also sign-up for automated updates via our sign-up form located at the top of this page.

 

Follow us on: