Property Analysis

[yaonchung]

Hi everyone,
I have come across a property and here are the numbers i am wondering if anyone would give me second opinion on the numbers.

Listing Price: 320,000
Type of Property: Single Family Home with Legal Downstair Suites. 3bd up, 2bd down.
I plan on using the double detach garage as storage. But can be rent out as well.

Rent: Upstair 1650, downstair 1250

Expenses
Utility: 625 (heat water power tv and internet)
Insurance: 125
Property Tax: 170
R&M: 145 (5%)
Vacancy Allowance: 218 (7.5%)
PM: 224

NOI: 1393

Let me know if these number look ok or I need any adjustment?

 

[Thomas Beyer]

Where is this ?

Rents sound a little high, unless in GTA or unless upgraded and large suites.

 

[yaonchung]

Sorry I forgot to mention Rent includes all utilities and cable and wifi. Would that be justified? If tenant responsible for utilities then upstair 1350-1400 downstair 1000-1050. I like to keep things simple for my tenants usually i just do flat rent includes all. This is in Drayton Valley

 

[Matt Crowley]

Hi Yaonchung,

I like the analysis you have put together here.

My quick assessment:
- are you achieving these rents in the market right now? These look a little above Edmonton average right now by my comparables. Makes me a little nervous. You know better than I do about Drayton Valley though.
- no marketing, accounting, bookkeeping, or legal budget
- PM is only 7.7% of gross rent. Maybe you are doing this yourself? I think it will be challenging to get a PM to operate for that, but perhaps you already have someone in mind
- utilities look very high to me. What are the comparables? My most excessive utility using suited homes cost an average of $400 / month. They get this billed back but I still think it is outrageous. 12 month average is under $300/mo for my suited homes in Edmonton.
- R&M: you are saving $1,740 / year. This is probably sufficient for a good-condition house. (You need to review your property inspection schedule here and make sure you understand the budget of upcoming expenses). What are the upcoming major expenses for the property? You have $870 to spend per year on each suite excluding the exterior. That is one appliance breakdown and some DIY paint per suite and that money is gone.
- vacancy: when I run my analysis, I assume I will have slightly less than one vacant suite per month per year. You have budgeted $2,616 / year for vacancy ($218 / month). This means you are budgeting for both suites to be vacant for about one month every year. In my mind this isn't very good management...but I don't know the Drayton Valley market the same way you do. Knowing the way I can manage a property, I would budget closer to $1,400 / year or $116 / month for this property. Obviously I can't answer this question for you.

Overall:

Even after making my own adjustments, I came up with a yield of 5.5%. Looks interesting. Maybe review the operating expense budget again and I would be interested in taking a closer look.

Might be a good property here.

Purchase 320,000

Rent
up 1,650
down 1,250
Rent 2,900

Vac 117
operating inc 2,783
Expenses
utility 475
insurance 125
prop tax 170
R&M 145
PM 334
acct/leg 60
mark 8
Expenses 1,317
NOI 1,466
yield 5.5%

 

[Ahilan Thurairajah]

Don't we need to add the cost of mortgage payment? Is the down payment is borrowed money or cash? I would consider the payment amount for these. If I still get a positive cash flow or if the area's potential growth justifies a short term negative cash flow, I would look closer.

 

[Matt Crowley]

^ Yes, ultimately you need to look at debt. I would never personally advice buying a negative cash flow property. I'll take my money to the TSX or another ECF to achieve similar equity leverage with much less downside risk.

In a preliminary property analysis, debt is meaningless. You need to look at yield. If your yield is < interest rate, don't buy. Period. Yield looks at the productive capacity of a property. It is the maximum number of heads of corn you can get from your field. No matter how much debt you borrow, you cannot grow more corn. (Corn = NOI)

When you punch out the cash flow forecast for the property, you are right. You need to add the mortgage payment in at that point. But, debt doesn't add any value. You pay tax on principal pay down too. But isn't interest tax deductible and that adds value? Nope. That is a bit like bragging about the taxed saved on the extra $400 / month marketing expense that was made for your house. You have created a cost and reduced the amount of take home money. You are taxed on less income because you made less. Zero advantage.

Comparing properties using some abstract LTV, say 80% (the minimum required in Canada for an income property), will distort your analysis results as well. As the mortgage rules change ie. amortization, interest rates, and LTV availability you will get different "cash flow" numbers and different ROI's. Properties may abstractly look much more attractive in a temporary low-interest rate environment with long amortizations (2015)...but in the long run, the property only has the ability to make 6%. If you use the cash flow per property method, you will not be able to compare properties across time.

With a yield analysis, you buy the property with the highest yield. Apply debt to that property to get a monthly cash flow amount that you are satisfied with. Take a very close look at your big-item repairs such as furnace, hot water tank, roof, and concrete as well.

At the end of the day, the above property "cash flows" $1,466 / month! Maybe that would make a catchy headline to sell a property to an investor...but someone who can calculate yield knows the property makes 6% yield. And there is zero B.S. about that.

 

[Ahilan Thurairajah]

This is much simpler than I would normally pre-screen. I learned something new today

 

[yaonchung]

Thank you for that yield analysis. That definitely make a lot of since that you don't want a yield that is lower than interest rate. The major industry in DV are primary oil & gas second by forestry Weyerhaeuser sawmill. With the downturn of oil & gas since late 2014, the rental market have seem alot of beating. That is why i am putting more on vacancy allowance. With oil & gas finally start picking up again even the oil price still at all time low. Evidence from hotels parking lot are actually being fill up as oppose to 1 or 2 car couple months ago. I believe it is due to the fact the cost cutting implemented by oil company at allow them to drill even at lower oil price, however i am not a expert in the area. That being say I am still very cautious.

I have not yet received the past utilities bill from the seller, hence i like to put a high end budget for it. What % should I budget for PM? is 12% reasonable? I do plan on manage myself as its only 3 min away from my house. but you are right in case if i were to relocate back to Edmonton I would need a property manager.

On the side note, what are some of typical cost associated with putting together a JV partnership?

 

[Matt Crowley]

The major industry in DV are primary oil & gas second by forestry Weyerhaeuser sawmill. With the downturn of oil & gas since late 2014, the rental market have seem alot of beating. That is why i am putting more on vacancy allowance.

Okay, that makes sense to me. I would do the same...it is surprising to see rents that high, to me at least.

As far as PM fees...I can't really tell you how much you need to pay yourself. But for purpose of analysis I usually try and put in the replacement cost of the PM in case I can't perform it anymore. I would try and find a DV property manager to provide an estimate. I would put that number in my analysis but offer a discounted PM rate to the investor as part of my value-add. That would go with the caveat that if I am relocated we will have to pay full cost PM.

Costs of setting up a JV... Honestly I have never incurred any costs in setting up a JV. That is because I have done all of them with family and close friends. That being said, I purchased Barry McQuire's Deal-Ready Docs and spent a fair amount of time learning them and making some of my own edits. Additional, I purchased REIN's JV package...I don't remember exactly what it was called but it was worth the money as well. It was available as a signing bonus at one time. The process that has been assembled is great and it works. We went through the process and signed the contracts. But it didn't cost anything. It just hasn't been necessary for me to invest in the time with a lawyer or go through the process of registering interests on title. Maybe someone else has some recommendations they could provide you on that topic.