How to Evaluate Apartment Deals in Ten Minutes

You want to invest in multifamily properties, but with all the apartment buildings in your city, you could spend all your time looking at them, analyzing them, and comparing them without ever getting anywhere. You need a simple, effective way to analyze buildings to save you time and help you make judicious decisions. The following three guidelines are all you need to rule out unprofitable deals and narrow in on the best.

1. Cap Rate. Cap Rate is an abbreviation for capitalization rate. It’s the return on investment on a percentage basis if you paid all cash. The formula for Cap Rate is NOI (Net Operating Income, which is simply your revenue minus your expenses) divided by the purchase price. Here’s an example: You have a property with a NOI of $50,000 per year. You paid $500,000 for the property, so the property has a Cap Rate of 10%. It’s wise to look for properties that have a Cap Rate of at least 10%.

2. Price Per Door. The price per door is simple to calculate. Just divide the price of the property by the number of units. As a general rule, if the price per door is less than $25,000, it will probably have an acceptable Cap Rate and cash flow. The price per door also tells you the class of property you’re dealing with and whether or not it’s a deal for you. However, it isn’t wise to look only at the price per door without analyzing the other two guidelines. You may miss out on some key information that could help you make a good decision.

3. Unit Mix. The unit mix is the percentage of units that are one bedroom, two bedroom, and three bedroom. A property that has more two bedrooms than one bedrooms will have higher rent or higher revenue per door. Between a property that is 80% one bedrooms and another that is 80% two bedrooms, the property with more two-bedroom units will have higher revenues and most likely a higher Cap Rate. Some people say they like to have more two-bedroom units than three-bedroom units because the three-bedrooms attract children. One bedroom units bring single people or couples. Two bedrooms are typically for roommates and small families.

Once you have collected the above information, you’ll be able to cut to the heart of the deal and weed out properties that don’t meet your needs.

Pros & Cons of “All Bills Paid” Apartments

One of the decisions you as an investor will make when you own an apartment building is whether or not to advertise the apartments as “All Bills Paid. ” In an “All Bills Paid” apartment building, there’s only one bill for each tenant that includes rent and all utilities. That means that you as the owner are responsible for taking care of the utilities. What are the pros and cons of this scenario?

Pros

Easier to Rent. “All Bills Paid” apartments are easier to rent because tenants enjoy the convenience of not having to worry about utility bills. They’re also easier to rent because the tenants don’t have to come up with a credit check or a deposit for utility companies.

Simplified Accounting. The owner only pays one check each month to the utilities company for the entire building.

Potential to Increase NOI. If you calculate conservatively on utilities usage, you could potentially increase your NOI (net operating income) with “All Bills Paid.” If you’re charging $250 on top of rent for utilities, but utilities actually cost you $200, you have increased your NOI.

Cons

Could be Costly to the Owner. When tenants aren’t monitoring their own utility bills, they’re less judicious about conserving energy. If electricity is “free,” they won’t worry about leaving the air conditioning on while they’re away for the day. Meanwhile, the building’s electricity usage is climbing, and you will end up footing the bill.

Friction Among Tenants. If you have to raise rents because utilities prices have increased, some tenants may complain that they have been conserving energy while other tenants have been wasting it. Usually, the tenants will work this out among themselves, but the property manager will likely hear about it.

Considerations

If you are concerned that an increase in utility charges or excessive usage by tenants will hurt your bottom line, you could add a clause to the contract that says if the utility bill exceeds a certain amount, the property manager reserves the right to bill back the tenant. This increases tenants’ awareness of energy consumption.

If your building is set up with a single electricity meter, you can put a monitor on the individual units to measure usage. You can outsource this service to a company that monitors usage every month. This can be helpful in determining which tenants are overusing energy.

“All Bills Paid” apartment buildings are Class C buildings . If you own an older building and wish to simplify your accounting, attract new tenants, and potentially increase your net operating income, consider converting to “All Bills Paid.”