The Four Secrets of Real Estate Investing
There are a lot of questions out there from people who are interested in investing in commercial real estate. Whether it’s multi-family housing like apartments or duplexes, or office and retail space; the questions almost always follow four main points. We’re going to cover those four basic questions in hopes that when we’re done, you’ll have a better idea of properties to invest in.
1. Does it cash flow? This is a pretty simple and straight forward question, but one a lot of people don’t think about initially. If you’re going to invest in a property, it has to generate revenue, or cash flow. This is very important because you’re going to need cash flow to pay the mortgage and cover expenses. Here’s where it can get sticky. If you have an investment property like a duplex it cash flows as long as there are two renters. But what happens when one moves out? Does it still cash flow? What if both sides are vacant? Now it’s definitely not cash flowing. Be very careful about scale and cover, because you’re going to need cash flow over a long period of time.
2. Can it service the debt? You buy a duplex for $200,000. You put 20% down and you finance $180,000. Can the monthly revenue service the debt? If it doesn’t service the debt, don’t buy it. Many people see these properties and think, “I’ll be different. I’ll raise the rents and will increase the revenue.” But it doesn’t always work out like that. Go into every deal saying, “I will not be any better at controlling expenses or growing revenue than the last investor” and you’ll have conservative numbers.
3. What’s your exit strategy on this deal? I would argue you should never, ever get into a deal until you figure out how you’re going to exit first. Who is going to buy this deal with you after you’ve improved the NOI? Is it a family investor? Is it a large corporation or REIT who’s buying large apartment complexes in the Midwest? Whoever it is, know what the exit is, and plan for that exit. What does this mean? It means if you know the exit for an apartment complex will likely be an individual investor in 5 to 10 years, don’t rehab all the apartments at once. You want to leave opportunities for NOI improvement in the future. Maybe you spend $5,000 a door on six units and raise the rents on those units resulting in an increase in NOI. Leave the other units alone, and let the new investor know what you did, how much you spent, and what they can expect to gain on their improvement plan, as well. That’s planning for your exit.
4. Is it worth the hassle? If you have a duplex renting for $1,400 a month, the mortgage is $1,000 a month, the expenses are $200 a month, plus you need a $100 a month reserve for future repairs and improvements. That means you’re making a whopping $100 a month and $1,200 a year. But remember, you’re not accounting for what your time’s worth. It may not be worth the hassle. You may be able to find better ways to invest $1,200 a year, and it doesn’t include dealing with a headache and needy tenants. It’s a little deal, and it just isn’t worth it.
In conclusion, four questions to ask yourself before you decide to move forward with a commercial real estate deal.
- Does it cash flow?
- Can it service the debt?
- Is there an exit?
- Is it worth the hassle?
If you need help finding the perfect investment property that answers all of those questions, we’d love to talk to you. Email chris@stokesherzog.com and we’ll get together to help you with all of your commercial real estate needs.
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Stokes Herzog Realty LLC is Eau Claire, Wisconsin’s commercial real estate brokerage firm. Our team of professionals represent tenants, landlords, buyers and sellers in every facet of commercial real estate. Throughout the State of Wisconsin, Stokes Herzog Realty LLC specializes in tenant representation, property acquisition, surplus disposition, leasing services and investment sales. We look forward to working with you!