The Money Mustache Community
Learning, Sharing, and Teaching => Ask a Mustachian => Topic started by: Letj on April 22, 2014, 05:19:43 PM
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so I am a bit nervous today. I have been offered a portfolio of rentals by someone looking to exit the Landlording business due to age. All the properties combined generate a monthly cash flow of $54K and all are currently occupied. Most of the properties are owned outright by the seller but there are about 12 that still have mortgages on them that exceed 2% of the monthly rent. These are all single family homes so the tenant pays utilities. The properties are primarily located in low income neighborhoods that are unlikely to see much appreciation. I need advice from the experts on here on how to approach the deal. I am afraid that my usual way of evaluating real estate rental (2% of acquisition costs) may be considered an insult and I don't want to turn off the seller. Help me work out a strategy on how to approach this deal and how to deal with the seller. What would be your minimum and maximum offer to this seller? If the seller holds a note for the equivalent of 20% of the purchase price, would I be able to have the other 80% financed in full by a bank? I don't typically seek financing when I purchase but this time I will. I generally purchase in cash and try to cash out later. Any advice would really be appreciated. Please help; I am meeting with the seller on Thursday.
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Tons of caveats with this situations...
The first thing on mind mind is getting records of past finances rather than taking their word for it.
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I already did the due diligence and the rental income looks accurate. The only thing left to do is to review the bank records which the owner will provide if we go into contract.
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I think you need to remove the urgency from this situation. That is a lot of property to buy (12+ units in one shot?) in a hurry.
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Is that $54k an actual cashflow figure, net of all expenses including maintenance and mortgage payments? Or is it net operating income? Or is it ignoring long-term maintenance reserves?
I'd start by assuming a desired cap rate for the whole portfolio, and use that to arrive at purchase price. So if I wanted a 5% cap rate for properties that net $54k per month == $648k per year, that would mean I should pay no more than $12.96 million. If you think about it, this is also what the seller should be looking for: enough money to at least buy an annuity that would replace their real estate profit.
This is obviously a ballpark, within 20-30%. Next you'd need to determine what rate you'd get on financing, because that will eat into your profit and may force you to seek a higher cap rate.
I have no idea how bank financing would work on this, but I do know that a lot of investment property mortgages these days are requiring 25% down. They also don't want to see evidence that any part of the down payment is a loan. Talk to a mortgage broker.
At some point you should look for individual properties in the portfolio you don't like, and make sure there's enough money to be made on the deal that you could sell off the ones you don't like for a small loss and still come ahead generally.
I think you need to remove the urgency from this situation. That is a lot of property to buy (12+ units in one shot?) in a hurry.
I agree here, unless it's because the seller is desperate and that means you have a deal on your hands. The high risk of assembling a deal this quickly had better be paired with enormous reward for pulling it off.
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What other rentals do you already own? Do you have any experience with this type of property?
Getting individual loans on these will be impossible. You probably cannot assume the seller's mortgages on the 12 financed properties. The seller may have to finance for you, unless you can find someone willing to portfolio lend. There are a couple of lenders coming into the market such as Blackstone (B 2 R) that will cross-collateralize, but their terms are not favorable.
And you should be looking at a double digit cap rate for this type of property, but I think you may already know that.
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I already own several dozens of similar type property in the same area and I am very familiar with the area. It's a portfolio of 50 properties and the $54K is gross before debt service and all expenses.
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I have no idea, nor knowledge on this topic. But it seems very rushed for what you want. What bank would even lend to you this obscene amount to make this deal happen? Maybe figure out your cap and determine if you can even stand a chance to afford maintaining such a portfolio plus any risks and vacancies..
I think if we chant ARS 3 times, he will magically appear to offer some sage advise on real estate...
Arebelspy, Arebelspy, Arebelspy!
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In that case you could start with the 50% rule and assume a NOI of $26k/month == $312k/year.
I agree with Another Reader that I personally would want a very high cap rate for this kind of deal, but I don't know if that's customary for this sort of thing. If you could get a 10% cap rate that would be just over $3 million. But start with figuring out financing options... if all you can get is a portfolio lender that charges 12%, you'll probably need at least a 15% cap rate to make any money.
If I were the seller I doubt you'd be able to make me an offer that would be worthwhile, I'd be better off finding individual buyers, or paying someone (perhaps you?) to find them for me. Would you be able to help him unload the properties in exchange for some form of compensation, perhaps a really good deal on 2 or 3 of them?
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In that case you could start with the 50% rule and assume a NOI of $26k/month == $312k/year.
I agree with Another Reader that I personally would want a very high cap rate for this kind of deal, but I don't know if that's customary for this sort of thing. If you could get a 10% cap rate that would be just over $3 million. But start with figuring out financing options... if all you can get is a portfolio lender that charges 12%, you'll probably need at least a 15% cap rate to make any money.
If I were the seller I doubt you'd be able to make me an offer that would be worthwhile, I'd be better off finding individual buyers, or paying someone (perhaps you?) to find them for me. Would you be able to help him unload the properties in exchange for some form of compensation, perhaps a really good deal on 2 or 3 of them?
These properties can only be off loaded to another investor; they are located in a depressed low income area and not many people who would buy in this location would qualify for the loan.
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Sounds like this guy approached you as the most likely buyer. You own and successfully operate the neighboring properties. I would ask him what he suggests about the financing. I suspect he already knows he is going to have to finance the portfolio himself if he wants to get close to his price.
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+1 to everything AR said.
Banks aren't going to touch this (50 properties? Enjoy getting appraisals on all that, if you could finance it.). You'll need seller financing.
All of the questions you ask are too generic for us to answer with more than a "it depends." And what it really depends on is the seller's situation. You need to talk with them and build rapport and find out a lot more about why they're selling, what the financing on the properties is currently, what they are looking to get out of the deal, etc.
It'll be a really fun conversation - I love that part of it.
It's the crucial thing to figuring out where to go - how can you help the seller?
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Sounds like this guy approached you as the most likely buyer. You own and successfully operate the neighboring properties. I would ask him what he suggests about the financing. I suspect he already knows he is going to have to finance the portfolio himself if he wants to get close to his price.
He is asking a ridiculous $5MM.
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+1 to everything AR said.
Banks aren't going to touch this (50 properties? Enjoy getting appraisals on all that, if you could finance it.). You'll need seller financing.
All of the questions you ask are too generic for us to answer with more than a "it depends." And what it really depends on is the seller's situation. You need to talk with them and build rapport and find out a lot more about why they're selling, what the financing on the properties is currently, what they are looking to get out of the deal, etc.
It'll be a really fun conversation - I love that part of it.
It's the crucial thing to figuring out where to go - how can you help the seller?
The seller owns most of the properties outright and he is not desperate but he is now ready to retire and the children are not interested in taking over.
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So that meets the 1% rule, barely. If they're in good shape (no deferred maintenance), and you can talk him down a little, and you can get it for little to no money out of pocket, it seems worth pursuing.
I'm guessing you'll need to cultivate the relationship and work it for six months or a year. If he's not desperate, you may not be able to reach something that makes sense yet, but as he gets to know you, he may soften with what he's looking for or to get out of it.
That's just my guess based on similar situations, again though, it depends. It'll all come down to those conversations with the seller on what they want/need.
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Management of 50 separate SFRs will be your biggest hassle, and something you need to start game planning right now.
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You want to buy it for $2.7MM based on the 2 percent and he wants to sell it for $5.5MM. It's going to be an interesting conversation.
You are already managing dozens, so you will have to ramp up, but I suspect you have some effective systems in place already.
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You want to buy it for $2.7MM based on the 2 percent and he wants to sell it for $5.5MM. It's going to be an interesting conversation.
Right, but that 2.7M would be cash (which I'm assuming isn't possible in this scenario), so letj could go higher depending on the financing.
I agree that it will be an interesting conversation. Fun even. :)
I think if we chant ARS 3 times, he will magically appear to offer some sage advise on real estate...
Arebelspy, Arebelspy, Arebelspy!
lol. There are several people on here (Another Reader, tryan, a few others) who have much more experience and knowledge than I do when it comes to real estate, and I defer to them (or at least argue with them for a bit, and then defer ;) ) and look to them for advice.
It just so happens I'm usually the first to post. Definitely doesn't make me the most knowledgeable. :)
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The OP might be better off assembling a similar 50 property portfolio over a few years on his own. Seller financing has value, but not enough to double the price. Unless bought right, the acquisition might be dilutive, and a drag on the existing portfolio.
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Seller financing has value, but not enough to double the price. Unless bought right, the acquisition might be dilutive, and a drag on the existing portfolio.
Good point.
If the OP put nothing down and was about to hit a 1.3% rent to purchase price ratio or better and the properties were in good shape, I'd think the biggest risk would be a drag on time - even if they provide a lower return than the rest of the portfolio, it's more or less free money if it's 100% financed (or close). The biggest drag would be the extra time for the lower return. With 50 more units, they'd have to support hiring an extra person, IMO. Tough to do that and be 100% financed and cash flow, but it's certainly possible.
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So... it's a slow day on the farm...reading through old posts... wondering what happened with this deal? Is the OP still around? Care to share the outcome?