How to Analyze Properties Fast
- November 16, 2018
- Posted by: Jim Pellerin
- Categories: Analyze, Buy, Rent and Hold
How to Analyze Properties Fast.
In this presentation, we are going to talk about how to analyze lots of deals fast. How you can analyze about a dozen or so properties without ever having to leave your office. Sound good? No more driving around. No more meetings with lots of Realtors.
You really want to do your analysis FIRST and then go out and look at the properties that make sense from a financial perspective.
The secret to a fast analysis is using something called the gross rent multiplier (GRM). The GRM is a simple calculation and all you really need are two things … the list price divided by the total rents.
For example, let’s say you have a property that’s worth $300,000 and you know the annual rents are going to be $20,000 per year. You divide $300,000 by $20,000 and you come up with the GRM of 15.
The list price and rents are the two things required and both are readily available in most For Sale property listings that are rentals. If there’s a listing that’s For Sale and they’re trying to sell it as an investment property, they’ll usually have the rents in there.
If they don’t have the rent listed and you’re looking at a single-family home that you’re trying to purchase and make it available for rent, you’ll have to determine what the rents are for that area.
With the GRM, you’re making a lot of assumptions about expenses, including your financing costs, which is really your main expense when doing any kind of analysis as an investment property.
You’ll need to figure out what a good GMR is for that area, whatever that number is going to be. It will be dependent on what your rents are.
You can’t have a GRM where rents are based on $1700 when really the rents are only $1,400 or $1,500.
You also want to look at the financial conditions and financing conditions will vary depending on where you are in the market. Years ago, I used to be able to get a mortgage for 3%, 4% or 5%. Today (at the time of writing) I can get a mortgage for 2.5%.
Many years ago, mortgage rates were much higher.
You really must look at your financing conditions to determine what a good GRM is and then also look at the property conditions.
A property that’s older will require more repairs, which will affect your risk expenses.
The key is to do you find out a good GRM for your area based on
financing conditions and property conditions.
The lower the GRM the better. For example, a GRM of 16 is not good. A GRM of 10 is good. Again, it’s relative to the area.
Let’s look at an example. If you recall in video #1, we did a simple analysis.
The property is for sale for $320,000 but can be purchased for $300,000.
The monthly rent is $1,700, which is the top rent for this property and the annual taxes are $3,000 and the insurance is about $600.
Here’s what our numbers look like. This was actually the analysis where I’ve included maintenance and management fees. And if you recall once we did that it had a negative cashflow of $840.
If you add up all these expenses now, you’re going to get $1,770 per month expenses. That’s why when we looked at our rents of $1,700 – $1,770, that’s actually a net monthly cashflow of -$70 x 12, which equals your $840 annual negative cash flow.
So, we now know that the monthly expenses are $1,770. Let’s look at a comparison of our GRM.
The rent is $1,500, assuming we can only get 1500 a month for this property. The purchase price is $300,000.
$300,000 / $18,000 ($1,500 x 12 months per year)
The GRM is 16.7 and it won’t cash flow.
As we just saw, $1,500 (rent) – $1,770 (expenses) leave us with a negative cash flow of $270.
So, what if we were able to get $2,000 per month for this property? … which as we said earlier is unreasonable, but let’s just assume we are looking at this property in another neighborhood.
Again, the asking price is $300,000. The annual rents are $2,000 x 12 = $24,000). The GRM is $300,000/$24,000=12.5
And $2,000 – $1,770 = $230 so it does cash flow, but does it look good for your area?
And again, we’re making assumption on expenses.
Another example … what if we can get $2,500 per month rent for this property?
The asking price is still $300,000.
$300,000 / ($2,500 x 12=$30,000) = a GRM of 10
It will cashflow with 20% down: $2,500-$1,70=$730
…I’ll look at a property like that all day long
Another metric people like to use, that I hear all the time is something called the Cap Rate.
Cap rate is really a simple calculation as well …
Net Income / Price
The problem with this is that we don’t really know what the net income is because …
Net Income = Gross Income – Expenses
Well expenses aren’t usually shared in most listings. If they are shared, they’re usually under estimated or they even leave out some expenses as we saw in one of our previous examples where we left out maintenance fees and vacancy fees.
… so, the problem with Cap Rate is that it’s very subjective.
I hear people talking all the time saying a property has a good cap rate of 10 or 12.
To me, if people are quoting cap rate, you must really do your own calculation to determine what the cap rate really is.
Cap Rate is usually used to compare properties with other properties in the same area.
Again, you’ll hear something like “oh, it’s got a cap rate for 12, which is really good for that area.
But you know what? … Who cares?
My only concern when I’m looking at rental properties is cash flow and cash on cash return.
Cash on cash return is simply the cash return you get on your cash investment.
Let’s look an example:
Investment = $60,000, Profit = $200 x 12 = $2,400
Cash on Cash return = $2,400 / $60,000 which equals 4% per year.
My approach is that I always invest for cash flow and not appreciation. Appreciation is speculative and it’s really the gravy. If it does appreciate that’s good.
When you buy a property, you have to make sure you’re not pulling money out of your pocket to cover a negative cash flow.
You really must do a good cash flow estimate once you get into the detailed analysis … once you’ve gone through your initial GRM assessment … and potentially your cap rate calculation.
Speed analysis using GRM (Price/Rents)
You could almost do these in your head.
Property #1. GRM= 16 – do not purchase.
Property #2. GRM=12.5 – requires more evaluation.
Property #3. GRM=10 – absolutely look at this
Property #4. GRM=16.7 – do not purchase
Property #5. GRM=15 – probably wouldn’t look at it
Property #6. GRM=12 – a bit more evaluation
Property #7. GRM=15.4 – probably not
A good GMR is still relative and you also need to look at the existing mortgage payments and the condition of the property
Figure out what a good GRM is based on your complete financial analysis, which includes all your expenses and your current financing costs.
Use GRM as a quick analysis to weed out any bad investments. Once you have a property that has a good GRM, then you can go into a detailed analysis.