Some Straight Talk about Rents Part II
by Tom on November 10, 2008
in Uncategorized
We ran part one of this series last week from my friend Jeff Brown. Here’s the second part of it. Enjoy!
Real estate investors’ life blood is slam dunk knowledge of neighborhood rents. If they don’t know, or worse, think they do and are wrong, not much good happens. In fact, mistakes in what an income property can realistically produce in, ah, income, can lead to what Grandpa used to call unintended consequences. He liked to sugar coat bad news whenever possible.
Monday’s post talked about discovering rents/vacancy rates for a property in a neighborhood. Let’s add to that today by fillin’ in some potential comparative flaws.
By having the rents reliably documented in a given neighborhood, you’ve established a solid baseline from which you can now make informed decisions. Still, if you don’t include the following, you’re not outa the woods yet, and could still find yourself scratchin’ your head after the fact.
What’d he say?
Let’s say you’ve established rents for 2/2 bath units with 800-900 square feet. Operation clipboard yielded bunches of info on this unit. You have 14 to compare. The range of rents however, have you a little confused. Why is there a difference from low to high of over 15%?
I dunno, let’s look at the replay Coach.
Here’s what you’ll no doubt discover. The units rentin’ for $1,000 look the same as the ones goin’ for $1,175 — from the outside — especially to the dufus who just drove by. But the latter have 2 full baths instead of 1.5, and their kitchens sport dishwashers, which aren’t in the cheaper unit. If you’re a tenant and can afford the extra $175, are you gonna grab the bigger second bathroom plus a dishwasher to boot? If there’s estrogen in the equation you are. Oh, and did I neglect mentioning the granite tiled kitchen countertops? Bingo.
Knowing these differences is crucial to understanding the various neighborhood rents — anywhere. This goes for differences in parking too — both in quantity, quality, and location. One building offers 2 off street spaces per unit, the other just 1. Then there’s covered vs uncovered. Does the property you’re thinkin’ of buying have garages? Woo hoo! Garages are the gold standard.
One unit has a wall air conditioner and a wall heater, the other central heat and air. How’s the floor plan? Women especially are sensitive to what I’ve termed ‘I Love Lucy’ kitchens and floor plans in general. All these things, and the list is loooonger, affect the ultimate price for which you’ll be able to rent any particular unit in any neighborhood.
This is how more experienced real estate investors add value. They accomplish it by addressing what’s known as functional obsolescence. You know, a carport turned into a garage. An I Love Lucy kitchen quickly/cheaply morphed into the 21st century. Forced air heat & a/c added, especially in areas where they’re either expected or the weather dictates. One of my all time favorites was when a client, back in the late 90’s called up all excited, breathlessly tellin’ me about a great find he’d made on a couple fourplexes on separate but contiguous lots. When I asked what made them so good, he said the price was way lower than what I’d sold him months ago just around the corner.
I smiled. Knew exactly the units to which he was referring.
I said, ‘Hey Mike, before ya go off halfcocked, go out there again and check to see how many gas and electric meters there are for each fourplex.’ Yer catchin’ the drift here, aren’t ya? 
Of course the prices were way below everything else. The owner paid all the power and gas for his tenants. In a 6% capitalization market, that meant a price reduction of at least $80,000 or so.
Oh. Never mind. It’s always the little things, isn’t it?
The central concept here is to understand what makes one unit more valuable to a tenant than the one across the street. The amateur drives by, quickly checks Craig’s List, or worse, asks the agent who sold them their home, what the rents should be. The pro looks at units, judges them if you will, much the same way a farmer looks at livestock at an auction. In other words, he wants to know exactly what he’s gettin’ for his money.
And the congregations said…..Duh.
If you were eyein’ a fourplex, and your personal operation clipboard showed that $30,000 would raise the rents on each unit by $200 monthly, what would ya do? Well, it depends, you answer cagily. Fair enough. Let’s say you can buy it for the market capitalization rate of 6% in that area. Now would ya do it? Would ya?
I’ll be puttin’ the real life answer in the comments section no later than end of day Thursday. I’d love to see what you come up with and your reasoning.
Meanwhile, back at the BawldRanch, where the heck have ya been? You can find me by clickin’ on the Contact BawldGuy doohicky. I love talkin’ with new folks. It’s like a fix. That’s ‘cuz I’m like, addicted to this stuff. Have a good one.
