I will not buy small property – period!
Why you may ask.
Because it’s too risky!
Two Basic Due Diligence Tasks
When buying an apartment building we have two basic tasks relative to the due diligence. One – we have to underwrite the rents very precisely. Two – we have to underwrite expenses very precisely.
This is the first and most important step. The value of multifamily is teed-up by its’ income, more specifically the NOI. The formula for the NOI is:
NOI = Income – Expenses
Therefore, in order to back into the value of what we are buying, we need to establish the NOI, which requires us to know both the income and the expenses. Understand – if you get the income wrong, everything else you do will be wrong, since the income is the starting point.
You have to price those rent to the cent, and that’s hard to do. More on that in a future article.
Let me put it to you this way:
When you go to a doctor, they tell you that your cholesterol needs to be in the range of x – y. If you fall in that range, you’re healthy. Otherwise, you have to look at it further.
Question – How does your doctor know what the “x and y” are in the x – y range?
Answer – Because scientists studied this issue and identified a range.
Multifamily Expenses are Easy
I should have clarified in the title that the expenses are easy IN LARGE MULTIFAMILY, and for the same reason it’s easy to know whether your cholesterol is normal. Statisticians study thousands of buildings and hundreds of thousands of units comparing each and every line-item of expenses in every major city and arrive at a range for each class and type of asset.
For instance, they know what the expenses should average in a master-metered community, and they know what those numbers should be in individually metered communities. They’ve cataloged expenses in high-rise verses low-rise buildings. They’ve identified the difference in costs of Class A versus Class B versus Class C buildings, etc.
All of this has been studied and cataloged so an apartment buyer like me has a very clear baseline. Naturally, there are variables with every asset, but we don’ typically see very much movement in either direction.
Why I Won’t Buy Small Buildings
Simple, the above information is n available for small assets, and therefore when it comes o underwriting OpEx it’s a bit of a crapshoot. I just don’t go there…
Hope this helps. Feel free to comment or reach out.