If you are an apartment owner curious about the value of your building or a real estate investor looking for a property to invest in, it is important that you know how to determine the value of an investment property. There are many factors that go into determining how much an investment property is worth and these include location, size and state of repair. In this blog post we will discuss all the different ways you can determine the value of your investment property!
The value of a property can be very subjective depending on the appraiser. There isn’t one correct answer on value, but there is a proper process. Today, we’re going to walk you through our proven process of determining the value of an apartment building based on three interdependent methods.
The Value of an Investment Property
The very first thing about value, is that it’s very subjective. If you hire five appraisers or five expert brokers to provide a property valuation or appraisal, these professionals are eventually going to generate various degrees of value for your property. So there isn’t one correct answer on proper values, but there is a correct process to determine it. There are also certain metrics that anyone who’s in the game of real estate investing should be using, which we will cover below.
Three Reasons Why It’s Important to Have an Accurate Property Valuation
In the market that we’re in today, we’re experiencing fluctuations in property values. So what your property was worth last year may not be worth the same this year. It could have either increased or decreased in value.
The consideration most apartment owners go through is deciding whether they should a) continue owning their property, b) sell their property, or c) refinance their mortgage. In order to answer this consideration, we need to know the amount of equity the property holds and the return on that equity.
If you’re considering selling your apartment building and if it’s priced accurately, then you have a higher chance of getting multiple offers. The market competes and you, the seller, will win! The reverse scenario (if it’s overpriced) means that the property’s listing will most likely expire (which is quite common), and no one ends up happy about it.
No investment property is the same. Every property has a different square footage, different bedroom count, different bathroom count, layout, and etc. Sometimes we have four different separate houses. Sometimes all the properties are stuck on top of each other. Other factors include its location, its parking, the type of rents that you acquire from the property, and the condition of the building.
If you’re a buyer, it’s important that you’re aware of the process because, let’s face it, you don’t ever want to overpay for a property and you need to make sure that the return on the investment is good enough for you to make a wise decision on your investment.
Who am I and why should you listen to me?
As an apartment owner and real estate broker, I have an extensive appraisal background. A lot of that had to do with working alongside the legendary Long Beach investor and appraiser, Mark Malan. He is an MAI, a distinguished Member of the Appraisal Institute. What’s important to note is that this is the highest designation that any commercial appraiser can receive. It takes years and years for them to achieve this designation. Luckily, I had the opportunity to learn alongside him. I’m grateful to have assisted him on every type of report that he was doing, whether it was for hospitals, golf courses, hotels, apartment buildings, and even houses. We did everything underneath the umbrella of multifamily and commercial property appraising.
We also did a lot of expert witness cases, in which the reports that we were pairing meant for court cases, determining the value between parties. We certainly use my experience to help our clients sell their properties and today we’re going to walk you through the same process.
We certainly cringe when one of our clients will call us and say, “Hey, I know you sell four unit buildings, but I can just pull a value off of Zillow and get an assessment on my apartment building?”. That’s the biggest no-no for anyone in the multifamily investing game.
If you have an investment property, an apartment building, or an income producing property, no auto-generated value by any automated algorithms out there can properly give you an accurate value or pricing. What ends up happening is these free estimate services from Zillow or RedFin come up with a valuation that is either way too low so all of a sudden you’re discounting your building because you took this self-generated value, or it’s way too high in your head and the property may not sell. It’s important that we don’t pull a number off of the internet based on the information that’s out there, because when it comes to income producing properties, there are multiple factors that need to be taken into consideration to help determine that value accurately.
Now we’re not trying to bash on Zillow. If you own a condo or house, that algorithm is good for a single family home because what they do is simply utilize the sales comparison method. However in the world of income-producing properties, apartment buildings and investments, we use the income approach to determine cap rate, gross rent, multiplier rent, etc. Those extra metrics are simple not being covered under Zillow (as of right now).
So for apartment owners, I know that the one thing every real estate broker trying to earn your business is offering you a free property valuation. Maybe you’re wondering what really goes on in this process. Our process involves a three part approach:
- Data Gathering
- Market Analysis
- Financial Analysis
Data Gathering Approach
1. When someone requests a property valuation from us, we ask for the following preliminary information:
- What is the property’s address?
- How many units does the property have?
- What is the bedroom and bathroom count?
- What are the rents for each unit?
2. After receiving this information, our team pulls the public profile of the property because it’s important that we cross-reference the information in public records to reflect accurate information such as its square footage. Oftentimes realtors will input a certain square footage for a building, but when we look through the records, there’s something else being reflected. Along with the property’s profile, we also pull up building reports on the property. We want to make sure that the bedroom count and bathroom count, along with everything is legal.
We know in our city of Long Beach that may not always be the case. So we have just taken those extra measures to make sure that we’re properly evaluating a property for our client.
3. We need to obtain a profit and loss statement on the current subject property (which is what we’re gonna be calling it from this point forward). Income is the number one determining factor for an income producing property. So the higher, the income the higher the value.
4. Next we look through all the comparable recent sales of properties that are nearby. In order to find comparable sales, there are a few different methods that we utilize. The most commonly used is the MLS (Multiple Listing Service) on websites such as CoStar and LoopNet, which realtors, agents, and brokers can access.
Some properties may be sold off- market, so they may not appear in the MLS, so if you have a good relationship with any title companies, you can ask them to show you properties that were sold off-market.
Proximity is always important. It’s also crucial to remember that the comparable sales must have the unit count and square footage similar to the subject property. All properties are not alike, so we try to find properties that are as similar as possible.
Note: It’s important that you’re aware of the area because property values may significantly be different depending on the location. For example in Long Beach, if you’re North of 7th Street, properties can have a certain value different from those located on the other side of 7th Street. Tenants here tend to pay more for apartments on the South side.
Now that we’re done with our data gathering portion of our valuation, part two is our Market Analysis. This means we need to leave the office and go out in the field to drive by the subject property along with all the comparable properties so that we can narrow our list down to the top five properties.
Realistically, once you’ve narrowed them down to the top five, you’re gonna get enough data from the market to determine the value of your subject property.
Getting out of the office and driving to the properties is critically important because you won’t get the best idea of any property’s value until you see it in person. The details online (such as the photos) may or may not be as accurate as reality.
1. We always need to get permission from the landlord and check out the subject property first.
2. Look for and write down some key features of the property. A few things you might consider:
- Take some measurements, such as the square footage of the property.
- What is the overall condition of the property?
- Are there any special highlights or amenities that may stand out?
- Inspect the electric meters. Explore the layout.
- What makes the property unique?
- What is the availability of parking? In some cities, parking is an important necessity and many tenants are willing to pay more for it. More income for the property means more value!
3. Now we’re gonna move on to check out the comparable sales and compare them to our subject property.
- What attributes, amenities, or features contributed to the values that these comparables were sold at?
- Is the property better or worse than our subject property?
- How similar are the comparables to the subject property?
Note: Most of the properties that we’re looking at, if not all of them are tenant occupied. So we need to be pretty careful and respect their space. Oftentimes I just take a look from the street because from the street I could tell if the building’s been painted or if any level of improvements have been done to the property.
A lot of factors that are considered when inspecting the subject property and comparables. At the end of it all, it comes down to the amount of income or potential income that the property is producing.
4. Narrow down the comparables to four or five properties based on: proximity and similarities to the subject property.
Important Note: You can’t do a financial analysis without doing the market analysis first, because the information output from the market analysis now becomes the input for my financial analysis.
So the cap rates, the gross rent multiplier, the price per door, and the price per square foot that we extracted from the Data Gathering and Market Analysis, are inputted straight into the Financial Analysis, which also contains our Sage 5-2-1 Formula.
It’s important to note that ultimately, the financial analysis is not absolute, meaning I am going to get a range of values off of the benchmarks that we like to use but ultimately it’s my experience and my background, as a CCIM that really determines the value. That’s why it’s absolutely crucial that you’re working with a true professional, especially if you’re still a new real estate investor.
1. We analyze the income of our subject property and compare it to our comparable properties. In reality it’s impossible to find buildings that all share the same income.
2. Next we look at the unit breakdown. The first metric that we use as part of our formula is price per unit. Please know that I’m not looking to find the average in my analysis. Why? Because the property that I’m evaluating might be better or worse than the average. So this just gives me one benchmark when determining value.
3. Then we go through the average Capitalization Rate for all the properties.
4. Next is the Gross Rent Multiplier, which is market-derived.
4. The last thing that we do is weight the data points of our comparables. Some comparables were favorable, however they were out of proximity. So we weigh them a little bit less. Some comparables were literally next door or in that same area, so we give them more credit.
Note: In the end, we’re going to come up with a wide range of figures and values. We’re gonna have values from the Sales Comparison Approach. We’re gonna have values from the Income Approach. It’s my job now to figure out what value is the most accurate. Sometimes the Sales Comparison Approach will give me a really high figure. Sometimes the Income Approach gives me a really low figure. That’s why we only use the data from the Financial Analysis as a benchmark when considering value.
So it’s up to me, as the professional, to figure out which price value I believe can
- sell this property,
- get accepted by the potential buyer, and
- be proven by an appraiser.
Analyzing the true value of a property is not easy nor is it black and white. Following our three-step approach or our Sage 5-2-1 formula only provides benchmark figures. Now it’s my job to take my experience, my background what the market has given me to come up with the value that I believe the market would pay. We don’t get a random number from the computer and go with it. There’s no right way to do it, but we certainly pride ourselves in being able to accurately determine property values, which helps us sell properties for 10% more and 10x faster than average.
I hope you learned something today. If you have any questions, feel free to reach out! Otherwise, I’ll see you next time.