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Real Estate Investment Economics Wednesday, March 30, 2016 12:53 PM Cash Flow Equation Scheduled receipt -vacancy & collection losses +unscheduled income =Actual receipts -operating expenses =Net operating income -capital reserves -debt service = CASH FLOW Scheduled Receipts Total income you would receive if ALL units were rented at FULL price Vacancy and Collection Losses Money no received as a result of  Unit used for employee housing  Units used as model  Unit vacant: unable to rent  Unit discounts, concessions  Unit rented but resident not current with rental payment Unscheduled Income Income that is much less dependable, such as that received form  Clubhouse rental  Vending machines  Laundry facilities  Carport/garage fees  Pet fees Operating Expenses - Cost of doing business…  Office Supplies  Personnel expenses  Utilities  Marketing  Maintenance Debt service Money used to repay bank, mortgage company, or other lender for money preciously borrowed Capital Reserves Money set aside on a regular basis, which accumulates in order to finance major rehabilitation and construction projects such as:  Roof replacement  Appliance replacement  Flooring replacement  Additional physical amenities - pool, clubhouse Cash Flow The amount of money available to return to investors Setting Rent Levels Owner's objectives  Positive cash flow  Increased value  Financing leverage Consideration for income groups  Low income o Pay 30% of their income  Limited income o Must be careful not to be too much more expensive than the competition or you will lose these people  Adequate income o Just be competitive  Ample income o Provide a lot of services and amenities Methods for setting rents  Comparison to competition  What the market will bear  Per square foot Per Square Foot  Determine the total amount of income needed per month (80,000)  Determine the total square footage of rentable space (110,000)  Rent per sq ft = 80,000/110,000 ($0.73 per sq ft)  800 sq ft apt = $584; 1200 sq ft apt = $876 Subjective considerations  Layout o Certain layouts are more desirable  Amenities o More bathrooms, washer and dryer, dishwasher  View  Level  Status o Top floors can be seen as a higher status  Demand o If you have less one type of unit you may be able to charge more for it Rent adjustments  Downward adjustment o Lowering the rent can lower the value of the property o Methods  Coupons  Concessions  Deficiency discount  "bruised" apartments  Upward adjustments o Vacancies  Physical vacancy  Empty units  Economic vacancy  Units used for model units or employee housing  Less than Procee 5% d 5-8% Cautio n More than Wait 8% o Concessions  None Procee d 1 month Cautio n 2 months Wait + o Delinquencies  Less than Procee 1% d 1-2% Cautio n More than Wait 2% o New construction in the area  Little Procee d Some Cautio n Much Wait  Tips for raising rent o Once a year o Graduated rents  $17 increase for 6 months then $33 o Odd amounts  People are more likely to think it is for repairs and costs o Adjust for desirability o Fix up before increase o Charge for improvements o Offer an improvement package o Lead time  Let tenants know in advance o Test on vacancies Insurance in the apartment industry Purchased by the owner but administered by the manager Terms  Deductible o What you have to pay prior to insurance funds  Co-payment  Replacement value vs actual cash value o You want to be insured for Replacement value What is covered  Fire damage  Vandalism or malicious mischief  Loss of rental income  Mechanical equipment  Plate glass  Business furnishings  Business equipment  Natural disasters  General liability o Damage  Employment practices and liability  Errors and omission o Not embezzlement or fraud just honest mistakes  Hired auto o Employee was injured in a vehicle doing work  Host and liquor liability  Fire liability  Crime coverage  Multi-property coverage o Can save money  Workers compensation o Covers medical expenses and salary of employees injured on the job o Obtain certificate of insurance form contractors and subcontractors DOCUMENT EVERYTHING How to handle property losses  Protect the residents o Have arrangements ready  At a local hotel, red cross  Protect the property from further damage  Restoration contractors o Have numbers ready before something happens Working with the media  Follow company policy o Generally someone from corporate will handle interactions with the media (risk management specialist)  Do not volunteer information  Do not admit liability Remind residents that they need their own insurance coverage Budgets Types  Net operating income (NOI) budget  Cash flow budget  Monthly budget o Tracks regularly occurring income and expenses  Quarterly budget o Tracks seasonal costs  Annual budget o Overview of entire operation for investors  Major expenditures budget  Capital reserves budget Preparing a budget  Realistic figures  Seasonality  Acceptable variances Income categories  Apartment income o Regular income  Other scheduled income o Parking and pet fees  Vending income o Washers and dryers  Non-scheduled income o Clubhouse rental Expense categories  Utilities  Services  Supplies  Payroll/related expenses  Advertising  Management  Legal  Insurance  Real estate taxes  Repairs/maintenance Age makes maintenance fees increase The first 4 years wont have much Once you get to the 5th year your maintenance budget should increase by 7% each year Managers should have a business plan in addition to a budget  Owners objectives  Property analysis  Resident profile  Area assessment  Market analysis  Financial analysis  Internal/external forces  Business alternatives