Archive for November, 2011
Components of a Quality Commercial Property Analysis Spreadsheet
Investing in commercial real estate is a numbers game. Nothing will make crunching the numbers easier than a well-designed spreadsheet. There are several investor uses for spreadsheets. The two most common are used for financial analysis and property management. Today we’ll look at what goes into a good financial analysis worksheet.
Of course as with any computer calculation, if garbage goes in, garbage comes out. A good spreadsheet will greatly simplify the calculations you need to make but you still need realistic data to input into the spreadsheet.
You could take the time to build your own spreadsheet based on Excel but there are plenty of low cost and no cost versions available online. What you need when selecting one is to know how the most effective ones work.
Commercial property analysis spreadsheets should be composed of 8 to 10 integrated sheets. The first sheet requires you to input data into these five major categories:
- Property address
- Gross income
- Purchase cost
- Debt service
Top Real Estate Search Engines Explained
Using a browser to search for potential real estate investments has certainly put a wealth of information at the fingertips of investors. Maybe even too much information. Load a search term like “houses for sale Minneapolis” into Google and you get back more than 4 million hits. All of these listings are dynamic with changes constantly being made. Making it impossible for an investor to sort through all of this information and stay current.
What you want to do is become familiar with how the major real estate search engines differentiated themselves. This enables you to begin your search on the website intended to deliver results closest to your investing criteria. This article explains how five of the most used real estate search engines are unique.
1. Zillow maintains a database of approximately 100 million homes across the U.S. In 2011, Zillow averaged over 19 million unique site visitors per month. Zestimate® and Rent Zestimate are it’s two most unique features. While Zestimate is no substitution for an appraisal, it’s a good starting place for researching a property’s market value. The accuracy of the property value depends on the amount of information available. The secret formula relies on a combination of data input by the listing agent and appraiser as well as data from public records. One of the most influential factors are the number of recent transactions in the neighborhood. The more transactions, the more accurate the estimate. Examining the “value range” gives you an idea of the accuracy of the data. A wider “value range’” indicates a less accurate value estimate. Also useful is the historical price change chart that shows how the house value has changed over time. The Rent Zestimate is similar but based on local rental data. It’s no substitute for a local rent survey but is a good starting place for landlords needing to establish fair market rents.
2. Realtor.com is primarily a consumer website. However, it’s the most visited consumer real estate website with 6 million visitors each month. The site is composed exclusively of listings from the MLS. It updates once each day – Monday through Friday during the evening hours. It takes between 24 and 48 hours before updates appear online.
3. Truila has about 5.5 million unique visitors each month. It’s similar to most real estate search engines in that it provides basic sales and rental data. What makes it unique is some of the neighborhood data it provides. An example of available data are crime statistics down to the street level. Additionally, the site has applications you can use to extract the neighborhood data you want to automatically display with your own marketing materials.
4. RealtyTrac averages more than 3 million unique visitors each month. This website specializes in foreclosure related properties and is the most quoted authority on the subject. It tracks substantial information in all three stages of the foreclosure process – pre-foreclosure, foreclosure, and bank owned properties. It also provides tools and other data related to individual foreclosure houses. These include an estimated value of the property, sales data for surrounding properties, information regarding other financial encumbrances on the property, and MLS listed properties in the vicinity.
5. Citydata.com is not directly a real estate website. However, it is useful to investors seeking demographic information for specific cities. The website is widely followed with over 11 million monthly visitors. The available demographic data is extensive including income, race, school test scores, hospitals, car accidents, property tax assessments, and cell phone towers.
6. Loopnet is the leading commercial real estate website with more than 5 million registered users and 2.7 million monthly visitors. The website makes it possible to search and compare not only current commercial listings but also properties not listed for sale or lease. Along with traditional information about building and lot size, it also provides information regarding owners, tenants and historical sales, leasing, and mortgage information. The comparables tool alone contains more than 35 variables.
Be a Contrarian Investor – Not a Speculator
We’ve all heard the soundest investing advice there is – buy low, sell high. However, how many of us actually do exactly that? Not many. Most people follow the trend of the day. They latch onto the same thing everyone else is doing.
Did you lose money in the dot.com bubble or have an investment house foreclosed on in this current real estate slump? If you did, you were more than likely speculating prices would continue going up long after they reached an unsustainable level. Same thing if you now find yourself with rental properties that you have to supplement the rental income to make loan payments. You bought too high.
A contrarian investor is a true buy low, sell high investor. He or she looks for value where others don’t see any. A key characteristic you need in today’s real estate investment is the ability for the property to throw off money. The cash flow needs to fully cover any loans against it and have positive cash flow. It needs to be reliable cash flow. It can’t be a fluke that the current tenant is willing to pay an above market rent but if they leave, the property will become a cash sucking black hole.
That’s always important and especially important in today’s market because you probably need to hold onto to the property for a while. But low prices today make it a great time for those willing to go against the trend of sitting on the sideline waiting for prices to head back up so they can again buy near the top.
Of course, the question on everyone’s mind is which direction will real estate prices go over the next few months? However, that’s the wrong question to be asking right now. Whether prices slip a little more or start going back up as inflation takes hold doesn’t matter much right now. Prices are near the bottom. Long-term they will go up.
Prices being near the bottom make this the right time for a contrarian investment. Interest rates are at historical lows but won’t remain there for long. There’s a glut of properties on the market. Sellers seriously consider any offer they can get. While unemployment remains unacceptably high, it has started improving. Unemployment is the hinge-pin to the real estate market recovery.
I’m not saying you should rush out and grab up just anything on the market. As always, you need to perform your due diligence. Mainly you want a property with positive cash flow and that you’ll have no trouble keeping occupied.
On the commercial side, that might be a retail space on main street where the current owner has already made a rent concession to keep tenants in place and viable. The seller knows he or she can’t demand a premium price after making rent concessions. What you want to do is combine a low purchase price with a low cost loan. If that produces a solid positive cash flow, you have a workable contrarian investment.
Owner Financing – A Strategy for the Seller to Cash Out
There is no doubt that obtaining a bank loan is very difficult in today’s economy. As a result, more and more real estate investors are seeking seller-financing. That option doesn’t always work when the seller has a near-term need for the cash, unless they are aware that the secondary market for real estate secured promissory notes is currently robust.
What that means to sophisticated investors is they can educate sellers about the secondary market, with a plan for the seller to finance the purchase and soon sell the note for cash on the secondary market. These are not hard moneylenders. These are investors looking for secure investment alternatives away from Wall Street.
There are more than 77 million baby boomers ready to retire but have seen their retirement accounts devastated by the stock markets repeatedly over the last 20 years. They have are terrified that if they leave their money on Wall Street, it will completely disappear. They have moved it into saving accounts and money markets paying 1.5% interest. The interest rates are so low they don’t keep up with inflation. Real estate promissory notes paying 8% to 14% are very attractive to these people.
This secondary market has been around for many years. Historically, seller-financers have been reluctant to use it because private lenders demanded big discounts to purchase the notes. Today, these discounts are significantly minimized or eliminated when the note is structured to be highly sellable. Also, the large influx of new money into the market means these secondary market investors are now competing with each other for the best notes.
The time value of money is a major consideration to the secondary market. Inflation means that the monthly payments they will receive in the future will have less purchasing power. The way this is partially offset is by structuring the note for the shortest repayment period as possible.
Clearly, the interest rate is a big concern to these investors. Right now, the low Federal Reserve interest rates work in your favor. It’s because investors can’t make more than a couple of percent in savings accounts that they want to invest in real estate notes.
However, it’s possible for the interest rate to be too high. There are state usury laws that must be complied with. And investors know that the higher the interest rate the more likely the lender is to default.
A third important consideration is the relationship of the loan to the real estate securing it. You want the note to be in the first lien position. Also, the lower the loan to value of the property the more attractive the note becomes. Secondary market investors also like to see a solid history of payments being made. You maximize the attractiveness of the note with a combination of a high down payment and having the seller hold the note for a period of time to season it to show a reliable history of payments.
A well structured note that investors will ask little or no discount to purchase includes:
- An interest rate between 8% and 14%.
- A repayment period between 3 and 10 years (this can include a balloon payment).
- An established payment history – 36 months is ideal but they will consider 9 months as a good start.
- The higher the equity the borrower has the better – low loan to value ratio.
- A smaller balloon payment at the end of the loan increases the probability refinancing will be found.
Advanced Ways to Lower the Risk for a Wrap Around Mortgage
The biggest hurdle to convincing a seller to grant a wrap around mortgage are the associated risks. Previous blogs have discussed common ways of reducing these risks. These include using a third party escrow to distribute the wrap around payments. In this blog, we’ll look at more advanced ways of lowering the risks.
This first technique works well when the underlying mortgage is relatively well aged. Let’s say a 30-year mortgage with only 10 years left to pay. If the seller is willing to, they can apply the entire wrap around payment towards the first mortgage. The idea is paying off the first mortgage quickly to move the wrap mortgage into the first lien position. This lowers the seller’s risk that a foreclosure will take place and the first mortgage will sell the house for much less than the value of the wrapped mortgage. This would essentially rob the seller of their profit.
Let’s say the mortgage with only 10 years remaining started out at $70,000 with an interest rate of 5.5%. The monthly payment is $397.45. At the end of 20 years, there is a $38,642.49 balance owing.
The wrap around mortgage is $140,000 at 7.5% interest. The monthly payment is $978.90. That leaves an extra $581.45 monthly the seller can apply towards paying off the first mortgage. The first mortgage will be paid off in 42 months or 3.5 years. Each additional payment adds more security so that in the event of a foreclosure there will be more profit left for the seller after the auction sale.
Paying off the first loan early is a good financial move for the seller for another reason. Shortening the remaining 10 years to 3.5 years enables the seller to collect the higher interest rate on the $38,642.49 for 6.5 years after the first loan is paid off. The buyer doesn’t receive any credit for the early pay off of the first loan.
Another area of risk the seller is concerned with is the ‘”due on sale” clause in the first mortgage. It’s highly unlikely the lender will call the loan due as long as the payments are being made. Why would they if the money is loaned out at 5.5% and today’s rates are at 4%. However, this can be a reason for a seller to balk at offering a wrap around mortgage. The solution is as simple as including a due on sale clause in the wrap mortgage. It triggers in the event the first mortgage is called. The buyer is immediately forced to find new financing.