0:21 good afternoon and welcome to people making money one of the way to wow shows in fact the third of the three weekly way to wow shows I'm your host Kevin bemel and we're here every Wednesday at 12 30 p.m Western time or Pacific Time 3 30 p.m eastern time and an hour in for mountain and Central and we discuss career matters how to advance yourself professionally as well as issues of money management and wealth building and financial planning and today we're going
0:56 to be kind of in that last category wealth building we're going to talk about a subject that I spent a lot of time teaching back when I was a an instructor at UCLA extension and I taught a real estate investment analysis and I'm going to show you a way to quickly analyze an investment property it's a one-page Excel spreadsheet that allows you to input all of the essential information
1:33 about a prospective investment or perhaps a property you already own that you want to analyze to make decisions about and then it's set up in such a way that if you change one input it'll automatically update all of the other numbers on the spreadsheet if necessary so I've mentioned this for the last couple of days because I feel I owe a debt of gratitude to a man by the name of William golden so Professor golden was I think the first instructor I had
2:12 at UCLA extension um back gosh a lot of years ago back in 1984 or 85 I believe it was and I took his course um real estate investment analysis back then and he was the one who taught me and I'm sure hundreds if not thousands of students uh this same technique now I have since made some alterations to it over the years to fit how I look at properties and how I explain them to my
2:47 clients but the original basis for it all was with Professor golden and many years after I had his class he had retired and I actually got selected to take over teaching that class and uh it it it really was an honor for me to be able to um in a lesser way step into the shoes of someone that I consider one of the great business teachers that I've ever had in my career so I I checked earlier today
3:24 to see if I could find any information on Professor golden whether he is even still alive or not and I I wasn't able to find anything but uh if any of you uh who are who watch this or are watching it happen to know Professor William golden um UCLA extension instructor um and and if he's still around or or or you know what's happened to him if you wouldn't mind contacting me and telling me I I sure would like to know um and and especially if he is still
3:59 with us um be able to um directly thank him for for the impact the positive impact he had on my career so having said that I want to jump right into the the subject for today analyzing investment property and typically if you're buying a new property let's bring this over here you're going to get what's called a setup or information package they go by lots of different names Brokers tend to
4:35 call them setups this is one that I downloaded um a while back from a um a website called Loop net it's it's a almost like a multiple listing service for commercial properties it has properties for sale as well as for lease Nationwide and it gives you basic information about a property in this case it's a small apartment building in West Los Angeles not not too far from where I live and so that you can you
5:11 know start breaking it down and understanding uh if this is a uh you know an investment that um you will find uh of Interest so um like a typical uh package um and by the way um anyone can access uh loopnet it it's it's not like a residential um uh multiple listing service where you have to be a member it's it's more like realtor.com where anyone can go on there and use it so um and and I I did um I did look this
5:48 property up again um earlier today it is still on loopnet although now it's showing that it's it's under contract so there's an offer on it it doesn't say what the the contract price is so I'm just going to go ahead and analyze it as the information is here so right away you see first of all the lead listing broker is uh Tyler Leeson he's with Marcus and milichap Marcus and millichap is one of the biggest commercial property Brokers here in the United States okay and here's here's the address 2495 Corinth Avenue in Los Angeles California it's an eight
6:25 unit apartment building they're asking 4.6 million dollars or 575 000 per unit and ostensibly they're offering at a four four point four two percent cap rate now um especially with cap rates I would take any cap rate in a a setup at with with somewhat of a grain of salt um it it's it's difficult to know um how solid the numbers are on which this cap rate is based and for those of you who don't know what a cap rate is
7:00 it's short for capitalization rate I'm going to talk about that in in a few minutes um but in any event um oftentimes the way properties are performed um in in setups is it is it necessarily reflective of of how the market is actually operating and so it will make the cap rate higher than it actually then then what you're actually go what you would actually experience if you bought the property for the asking price based on how you're you're actually able
7:36 to operate it so so here's a picture of the property they've got it outlined here and you can see there's another multi-residential building next door it looks to me like condos although I suppose it could be an apartment building and here's uh what looks like a house next door although you see it extends all the way back to the end of the lot so those look like garages back there maybe and this is probably some kind of small multi-family as well maybe a duplex maybe three units something like that so it's it's an apartment area a multi-family unit area and you can
8:11 tell that from the picture I mean if you were if you were to drive the area that's likely what you'll find okay so and here's here's some information so um it offers um uh exclusively two-bedroom townhome town home floor plans so townhome being a two-story unit okay control pedestrian access and parking garage now you used to see the term gated garage or security building I don't think you'll ever see those terms used today by a reputable real
8:46 estate agent because of security building means a building where you have actual security guards guarding the building and you're not going to have that at an eight unit apartment building what you what you have really is controlled access because if you're familiar with these you know where you go on the phone or you go on the on the the console and you you know you ring the person's apartment and they hit a button and it buzzes and it unlocks the door and then you go nobody is there to stop someone in from sneaking behind somebody else pretending like they're a resident or whatever so these are not Security Buildings and and
9:21 um neither is is gated parking so gated parking is is exactly that it's parking that has a gate that opens and shuts to let people in if there's another car coming in right behind a car that that goes in legitimately there's nothing that says that that car who followed quickly has any business being there um but anyway so that's why you see these kind of terms excellent West Los Angeles location that's true assumable Chase loan at 3.68 interest rate so this is a great feature you can take over a
9:56 loan at this low interest rate because if you had to get a new loan today and I'm going to show you that in the analysis you'll see the investment at least at the asking price doesn't make a whole lot of sense now I've looked through this package and I cannot find um anywhere where it says how much that loan balance is unfortunately so if you you know it's just scrolling through here so um uh you know I I don't know what it is one would assume that um it's it's a uh you know it's it's
10:31 it's it's it's not anything like um in terms of percentages what you would normally borrow to buy an apartment building but perhaps so um one thing we could do is we could look at the public records and see what the original loan amount is um and and that might be um that might be a a way of finding out um and then based on how many years that loan has been in place we could perhaps estimate what the loan balance is it's a it's a shame that for whatever reason the broker um didn't put that in so attractive amenities package including in-unit
11:07 laundry private balcony rooftop patios that's good okay close proximity to plethora of corporate offices for fortunate economies that is the case in West Los Angeles okay that's one of the the reasons and and I'm not going to go through the executive summary um I do want to point out though that you will note here it says Los Angeles can Los Angeles is it should be apostrophe s at least according to shrunken white continued strong rental metrics including a 2022 vacancy rate of just 3.5 percent and year-over-year rent growth of 4.5 percent okay provide a new
11:44 owner with the opportunity to take advantage of the substantial demand for rental units in the area Okay so this tells you that um and and I I there's no date oh so it's saying the date created was was May 26th so I'm going to show you some other data in a few minutes that that demonstrates that while this is probably true um um it means nothing in terms of um investing in this building because past you know historic experience
12:23 means nothing about future events necessarily okay all right so then going on looking at the setup here's it's saying Financial summary actual 2022 it's saying the gross rental income was a little over 304 000 per month they're saying the vacancy loss was a little over nine thousand and I'm going to go through what these different terms mean their operating expenses were about ninety two thousand dollars leaving a what's called a net operating income of about two hundred three thousand dollars okay so there you go now this is the property tax here this is all
12:58 informational information available through the public records okay and um um it was built in 2006 the parking ratio is 1.67 spaces per thousand square feet um which doesn't really mean anything um because um parking ratios for multi-family are usually on a per unit basis so let's see the building size is 9600 square feet and so um quickly doing um doing the parking ratio where's my
13:35 online calculator here it is okay so we've got um 9.6 in other words 9.6 000 square feet uh times 1.67 spaces per thousand there's 16 parking spaces in the building which is two per unit which is what you would expect for uh two bedroom apartments in in Los Angeles okay and gives unit a unit amenities washer and dryer Grant countertops hardwood floors stainless steel appliances okay great each unit is 1100
14:12 square feet two bedrooms two bathrooms and um you know that's that's that's pretty typical there must be a powder room downstairs probably and then upstairs there's two bedrooms with a bathroom each or something like that 1100 square feet not super large units but not small either kind of you know medium-sized units okay I I I just noticed this um you know walk score very walkable 75 I assume that's on a scale of a hundred bike score very bite very bikable 83.
14:47 um I don't know I I I have it recently but I used to bike around this area quite a bit I I don't know I know where they get that very bikeable score there you you get a very likely to be hit by a car when you're on a bikeable score when you're on a bike score but anyway um and here it's talking about um how close it is to uh public transportation which I don't imagine too many people use um in West Los Angeles frankly nor commuter rail um here it is to the um uh distance to airports um and this is the property tax
15:22 information the zoning La uh Los Angeles R3 Zone it doesn't really mean anything because it's a fully built out building but it but the current building appears to comply with uh the zoning okay and so here's just a little map inset um and um uh let's see do they is this correct yes it looks like this is it looks like North is at the top okay so um this is right near where the um uh the 405 freeway which is the North
15:58 South Freeway and and Interstate 10 uh which is an East-West freeway intersect you can see they're showing it right there um so this is a West Los Angeles um location it is not a prime West Los Angeles location but it's it's a you know it's a good location okay and here's some additional photographs so you can see here's you know here's a front view this one must be one of the roof decks here's the um here's the parking garage um here's uh what looks like the the
16:33 entrance and the stairway up to um probably a couple of the units here's a little interior shot you can see the wood floors um they look to me to be laminate floors um which which is which is you know pretty typical for what you would expect to find in a building built in 2006 okay here's another interior view this must be the living room okay I mean they're they're not fancy but they look you know pretty nice here's your granite countertops and all that so and then here is um a plat map of of the area and and
17:10 it's it's a it's one block or I'm sorry not one block one lot off of the corner um and both of these streets appear to be residential streets I'm I'm pretty sure that I'm pretty sure they are okay based on my knowledge of the area so this is this is the setup and this is the basic information that you will typically find on a property that you may be considering uh purchasing okay so I'm going to stop the sharing on this and then now go to um the analysis so here we go
17:45 oh actually before I go to that I'm going to go to this because that way I can stay on the analysis okay so this is an article um that I found um getting ready for today's show um Los Angeles apartment rents continue to dip to dip in um to continue to dip in 2023 okay so that's what I was saying in this setup it was talking about rental growth that's going on in Los Angeles um however based on this article that I think was published in okay so this
18:21 article was published in oh it was just published today according to this West Side today okay so um it's saying I thought I thought I read that it had been uh oh you know here it is yeah okay so um by staff report April 29th okay so it's it's um uh May June July it's about three months old okay but this is certainly more up to date than 2022 which is what was addressed in the setup okay so um data from realtor.com and and um seems to verify the downward Trend in
18:58 Los Angeles apartment rents continues as reported by the realdeal.com in March median rents Los Angeles Long Beach and Anaheim Metro Air decreased by point eight percent year over year um additionally month-to-one comparisons shown that Los Angeles rents dropped by about point nine percent from February to March okay so rents appear to be on a slide in Los Los Angeles now does that mean that they're sliding in this particular neighborhood not necessarily however getting that kind of a micro
19:33 analysis of a neighborhood can be very difficult and um if if rents are sliding in other parts of Los Angeles the phenomenon we'll typically see is as people move and and are looking for a new place to rent they may be attracted to a lower cost area in order to save money and so that's going to eventually drag down other other neighborhoods in the same city okay here's the other thing I wanted to point out okay so it says
20:09 during the pandemic vacancy rates were under 4.4 percent in Los Angeles if you recall in the setup it said that the vacancy rate in 2022 was 3.5 percent so it was a little bit lower than the the um then the overall vacancy rate in Los Angeles however in the first quarter of 2023 vacancy rates returned to pre-pandemic levels of four and a half to five point eight percent in other words vacancy rates are increasing now that would make sense if rents are
20:45 decreasing which it appears they are that's usually due to the fact that vacancy rates are increasing and owners are having to lower their rents at least a little bit in order to attract tenants okay so the idea that um your you you know the vacancy rate for this building will be the same here in now in 2023 as it was in 20202 is probably not a correct uh assumption okay so when you're doing this kind of quick analysis just you know getting a quick article
21:21 like this from a you know a reliable course in west side today is is a reliable source okay they're not you know they're not biased by being an apartment association or a tenant association they're just kind of giving information about what goes on in Los Angeles excuse me so um you know it's it's it's reasonable to rely on it in doing an initial um invest an initial analysis of of a property okay so now let's get into the analysis itself
21:58 here we go let me move this over into the center all right so this is the one page um I'm not sure why that there move that low well there it goes okay this is the one page spreadsheet that I mentioned at the start of the show okay so here you can see everything you need to know about a property on literally one spreadsheet okay now um I'm gonna start out by just defining
22:34 some terms um for those of you who are experienced in investing in real estate and in in in in real and in you know all the terminology and stuff you know this is going to be you know honestly a little bit too basic for you so you might want to skip ahead a little bit um and and and get into you know the the numerical analysis directly um and and but for those of you who are somewhat new to real estate investing I do want to take a few minutes to go over some of the terminology that I'm using so that you can understand what it all
23:10 means okay so this analysis is is um divided into three sections three vertical sections the first vertical section I call the asset summary now an asset is something of value for example a piece of real estate is an asset okay and and when we're dealing with the asset we're talking about the value or price of a property um affected by any debt or loans that are on the property and that leaves us
23:45 what with What's called the equity in the property and you see that right here so here's the price which is 4.6 million dollars okay here's a loan on the property okay and when we sub that the loan is money we borrowed to buy the property what we're left with or what we have to invest in the property is the equity so if you're buying a property you're down payment is your Equity I could have put those both of those terms there um the reason I put Equity is because you can also use this to
24:21 um analyze a building that you already own and so in that case the equity is not necessarily your down payment it's just the in dollar terms amount that you own in a particular asset okay since since you since 3.2 million dollars was borrowed basically in essence when it comes to the money this is the amount that the lender owns in the property of course the owner owns the entire property but since it's subject to a 3.2 million dollar loan if the property is
24:56 sold that 3.2 million is going to go to the lender and so what the what the owner is going to end up with is approximately 1.4 million dollars okay so that's the asset summary um and and notice that I put the identification information right above the asset summary I'm going to go through that real quickly in in a couple of minutes when I get into the details but it you know it rightly belongs over here identifying it okay then the sender column or the center columns I guess you
25:31 would say the center portion which is these two columns here I call the performance summary so the reason I call it the performance summary is that it's giving you the numbers that allow you to compare the performance of this building with another property okay and and you see there's several of them here one of which I noticed I I didn't um fill in so I'll fill that in we go through the details later and I'll talk about what each one of these are when we go through the performance summary in
26:06 detail and then finally in the last uh you know vertical group if you will is what I call the income summary so this is the financial performance of the building in terms of the money that it brings in and the money that has to be paid out in order to operate the building okay and so I call that the income summary some people might call it an income expense summary um it really it really doesn't matter precisely what these are called
26:42 um only that we understand what we're talking about okay so now let's go into the details of this so um I put here based on broker's information okay and and that's so if I were presenting this to a client I want them to know where I got this information okay if I got it from speaking to the broker I would have put you know based on Brokers information and conversation with Brokers something like that if I got it from public records I would put based on public records or public information whatever would be there okay it's just it's just
27:17 to know you know how reliable is the information that we have here okay and by the way in some cases information from the broker is likely to be more reliable such as what are the rents for the building and sometimes public information is likely to be more reliable okay so for example the um zoning uh for a building the most reliable source for the zoning of a building is going to the um the zoning department for the municipality in which the building
27:52 um uh exists and checking it there okay because a lot of times databases that real estate agents pull information from are not up to date okay and so if there's been a zoning change especially a recent one it won't necessarily be reflected in the various databases that that real estate agents use and so in that case the public information depending on where what source of public information would be more accurate okay so the building is located at 2495
28:27 Corinth Avenue Los Angeles California 9 0.0 uh zero um six four I don't know why I did put a period come in there okay it's an a depart unit apartment building two bedroom two point five or two and a half bath Town Homes 9 600 square foot building area seventy four hundred and five square foot lot on which it sits okay that's that's the basic information don't need to put a whole lot about the amenities and such um were I presenting this to a client I would I would be presenting it with the
29:02 the broker setup um and so what I'm doing here is just summarizing the most important information um that you know so that it's all on this one page okay so I mentioned before here's the price the price is 4.6 percent that's going to represent a hundred percent of um the asset summary okay so while to acquire if you were to pay 4.6 million dollars for the property the cost to acquire it will actually be higher than
29:38 4.6 million dollars because you're going to have to pay escrow fees you may have to pay some title fees you may have to pay some fees to A lender um there could be some other fees inspection fees Etc the fact that you've paid those fees doesn't uh increase the value of of the property in most cases so you know you you may pay let's say fifty thousand dollars in fee that doesn't make the building worth four million six hundred fifty thousand dollars it's it's it just doesn't work that way okay
30:14 um the building is still going to be worth what it's worth in other words if you bought the building for 4.6 million dollars today and then you found out um you know later in the day after you closed escrow that you you have to get the money out you're gonna turn it you have to turn it around you're probably gonna have to sell it for 4.6 million and you're going to lose both the fees the money that it costs you to buy the building plus whatever it costs you to sell the building okay that's just the nature of real estate that's why real estate is considered a long-term investment not a short-term investment
30:49 okay now on a price per unit basis okay we this was already in the setup um it it's selling for 575 000 per unit now that isn't neces I mean that's a that's fine to say that and you'll see that that metric broken down um quite often um however um it's more um uh informative to use a weighted price a
31:24 price per weighted unit okay and the right the and that's because um if you're comparing various Investments okay in this case you've got all two bedroom apartments but you may be comparing it to a building that has some two bedroom and some one-bedroom apartments so the price per unit is meaningless at that point because in a building that's some two-bedroom some one-bedroom apartments the price per unit is gonna is going to be lower because the one bedroom units are probably smaller and they only have one
32:00 bedroom okay so in a price per weighted unit metric okay um what you do is you say each one bedroom is equal to one unit okay and then a two bedroom is equal to one and one quarter units and a three bedroom is equal to one and a half units so you add a quarter of a a unit for each bedroom over one that the
32:35 units have and you deduct a quarter of a bedroom if it's a studio apartment or what's typically called a single okay so if it's a single studio apartment then it has a weighting of 0.75 so in this um in this particular case you've got eight units all of which are one bedroom units I'm sorry all of which are two bedroom units and so the unit weighting is going to be eight times one and one point two five otherwise known as uh
33:12 what 10. so the weighted the price per weighted unit is four hundred and sixty thousand dollars so if you're doing if you're comparing several potential Investments what you're going to find is this gives you a way to compare the pricing of those buildings um uh better because you're you're you're you're you're accounting for the difference in types of units within the buildings and to be honest I'm not sure why I have this under here this should be
33:47 um oh I know why it is because I I didn't want to let me just adjust this um let's go with 15 so let's put these um let's put this this because these are really performance uh characteristics um so they really should be here okay um and likewise actually these should be here as well okay not sure why I put it oops put them in that other column okay so here that's price per weighted
34:24 unit and then price per square foot in this case is 479 dollars per square foot again this is a good metric to track because it's it allows you to compare more cogently between different size buildings okay so you know you you could have a you could have a building that's um all two bedrooms like this one and it's 9 600 square feet but you could also have a building maybe that's the same size 9 600 square feet but it's two bedroom it's a mixture of two bedroom
34:59 and one bedroom apartments it's just the two bedroom apartments are larger than 1100 square feet each um and the one bedroom apartments maybe are a little bit larger than normal web one-bedroom apartments are or something and so um you know it it averages out so that um it you know it it's I'm not averages out it equals both buildings equal 9 600 square feet because that's the amount of rental space you have okay and so the price per square foot you're gonna find is if they're both
35:34 um uh 9 600 square feet so if the prices vary um then so will the price per square foot okay so these two price per weighted unit and price per square foot are out of the three the the two best two best metrics to look at um of of this group of three right here okay all right now um I'm gonna skip the performance summary for now and go to the income summary because it's based on the income summary okay that we're able then to go
36:12 back and determine the performance summary and you'll see in some cases it differs from uh what the real estate broker had in the setup and in some cases it's the same all right so according to the setup that what are called the scheduled gross rents are three hundred four thousand two hundred dollars a year what that means is schedule gross rents means all eight units were rented the entire year every day of the year okay now you say you might say well wait a minute that's never going to happen somebody's going to move out and the
36:49 answer is yes that is going to happen this is this is a typically a essentially a hypothetical number but it allows for um comparison between Investments okay now in this case there's no common laundry room because there there's individual washer dryers in each unit so there's no laundry income and as best I could tell there was no other income either um sometimes uh you know these days you won't see this so much um but in in Prior times you might have
37:24 vending machines or um it used to be cable companies would pay building owners to be able to wire their building and Supply cable I don't think you see that anymore either with the sort of you know coming demise of cable you used to have buildings where they'd have pay phones in them obviously that's gone the way of the dodo as well so there aren't any other sources of income so if you add the scheduled gross rents to the other sources of income whatever they are in this case Zero you
38:00 get What's called the Top Line number of scheduled gross income okay this is the most money the building could generate if all the units were rented all every day of the year plus whatever the other income is now in this case schedule gross rents and schedule gross income are the same thing they're 304 200 dollars excuse me okay now from that you're going to subtract the vacancy right because we said this is
38:35 unrealistic somebody's going to move out during the year most likely and and that is the case Okay whereas if you were renting out a house you may get a tenant who rents year after year and so you get rent every day of a particular year once you're into a multi-residential um uh property there you you have tenants moving in and out okay now the only the most likely time you that wouldn't be the case is if the tenants rents are significantly below Market rents
39:13 and there's rent control okay so for example here in Los Angeles we have what's called rent stabilization what that means is when a unit is vacant the owner can charge Market rent whatever that is okay however once the tenant moves in the amount that the rent can be increased is controlled by the rent stabilization board so I I would imagine right now since rents increased pretty rapidly over the
39:50 last few years even though they're decreasing now a little bit there could be a big gap between Market rent and at and the rents and the rent attendant is actually paying and so to the extent that that tenant if he moved out would have to pay a higher rent that's going to keep that tenant living there longer in order to keep that lower rent that's one of the things that happens with rent control okay so if you've got a building and the broker is claiming no we had no turnover last year one of the first things to consider is
40:27 Gee how much under the market rents are the existing tenants number one and number two how old are the tenants because again the older the tenants are and the more their rents are below Market the less likely they are to move and this is not a criticism of of older people I I guess I fit in that category um it's only to say this is the reality of how people behave okay and um you know so the idea that and and the
41:02 broker may be saying we had you know zero vacancy last year but there's you know 20 upside in the rents meaning the current rents are 20 below Market well can you see that there may be a problem there okay the rents are below Market that's that's great there's upside meaning I can I have room to increase the rents but if the tenants rents since the tenants rents are significantly below Market and if the building is under some form of rent control what is the opportunity I have for raising those rents and it's
41:37 it's not particularly great okay you can't just kick a tenant out because the rent is below Market that's that's not permitted in rent control jurisdictions number one um and number two um it's not permitted to reduce services to treat the tenants badly all I mean I I I would argue that's not a proper way to do business anyway um so uh you know your ability to get that 20 rent Gap may not really be there or it may be there but it's going to
42:13 take a long long time in order for the tenants to turn over so I I back when I was in the Real Estate Management business and I took over buildings where we had elderly tenants and when I say elderly I'm talking 70s 80s Etc living in a unit and their rent was 25 of the market rent and sometimes the client would ask me he said how do I get the rent up and I say when you know Mr you know Goldstein moves out um we'll be able to raise the rent he's
42:48 like but the rent is so low and he's been there forever it's like right right and he's never going to move out right well he will move out when he passes away okay and that's oftentimes what would happen is um either the tenant would get too old to live on his own or he would pass away and then now we can turn over the unit and and and fix it up and raise the rent to Market that's that's in a rent control jurisdiction now if there's no rent control you don't have to worry about these things um but oftentimes you won't find these
43:24 big rent gaps because landlords are able to um keep their rents pretty close to Market if even if they rented an apartment on a one-year lease at the end of that lease they can raise the rent up to Market if they want to and if the tenant doesn't want to pay it the tenant would would have to move out okay because they're not protected by rent control all right so that schedule gross income now let's go down to vacancy remember that the broker said vacancy in 2022 was 3.4 percent but in the
44:02 um the article that we looked at it said vacancy was 4.5 to 5.8 percent okay so um I don't think we want to um go into this investment thinking well I'll be able to operate the building the way it was operated a year ago when the metrics today are different so the vacancy rate is likely to be at least four and a half percent now why did I choose four and a half percent rather than 5.8 percent well it was because the data was for all of Los Angeles and West
44:37 LA is one of the best parts of Los Angeles so it's probably Justified to use the lower end of the range 4.5 percent okay so when so the vacancy the loss from vacancy is roughly fourteen thousand dollars you can see it there and when we subtract vacancy from schedule gross income we get adjusted gross income okay now let me say one more thing about vacancy depending on the quality of the market you may need to have a vacancy and a
45:12 um what's sometimes called a credit loss or a rental loss allowance so it's it's vacancy is when an apartment is not occupied credit loss is when you have a tenant in the apartment who doesn't pay their rent and by the time you get them out you've lost money and it wasn't money that you could replace by renting out the units it's money you lost because the tenant was evicted they had no money you just lost that rental amount okay now in in some cases you might have you
45:49 know half a percent additional loss because of credit loss or even higher in a in a in a market where you have a lot of tenants who are struggling to meet their bills so that's something that you need to look at um in a market like West Los Angeles while you might have an eviction on occasion um in in a in a building of this quality with these kind of units you're probably not going to get that um because among other things the tenants who get in probably want to protect their credit rating and so
46:24 they're not going to risk having what's called an unlawful detainer filed against them that's the lawsuit to kick them out um and so your credit loss is is likely to be minimal if at all so that's why I didn't put a credit loss in here okay so now we're down to the adjusted gross income adjusted gross income should be essentially the money that we collect from operating the building for a year okay now from that we're going to subtract the expenses for the building okay and expenses basically fill fall into six categories taxes Insurance
47:01 management maintenance utilities and replacement reserves okay so let's go through taxes um primarily what we mean here is property taxes and I'm actually surprised I didn't put property taxes here let me just I'm going to put that in now oops I didn't spell it right property taxes okay um all I think every jurisdiction has property taxes in California property taxes are assessed at one percent of market value okay so one
47:37 percent of 4.6 million dollars is 46 000 so you're saying well wait a minute you got 57.5 here right because California also allows up to an additional one-quarter percent to be assessed to pay for what are called special assessments special assessments pay off things like Bond issues for the installation of sewers or water sewers or um uh uh um you know water main all kinds of public services and in in an area like
48:13 West Los Angeles I'm assuming until I have information otherwise that they've been maxed out okay and so when you know whatever the current owner is paying is going to be based on the market value of that building at the time it was bought and then it's allowed to increase two percent a year so property tax Assessments in California don't necessarily keep up with Market values a lot of times they lag behind if Market values are increasing quickly by the way they also lag going down so if Market
48:48 values have declined typically you won't see reassessments at a lower value you have to apply to have that done okay so your property taxes and special assessments are likely to be in the neighborhood of fifty seven thousand five hundred dollars other taxes okay um I didn't put this in here um because um I wasn't sure if if this is the case I don't remember where the the the year break is um buildings built um after a certain date are not subject to
49:23 rent control but if they are subject to rent control there is a fee that has to be paid per unit to register the building and you can't decide oh I'm just not going to register the building that doesn't work eventually they're going to catch up with you and not only are you going to have to pay the registration fees but you're going to have to pay a fine which I believe is equal to the amount of the original registration fees if memory serves so you'll have other taxes and licenses you may have to pay for a city business license now that would be the case in Los Angeles
49:59 um and I think it's a half of one percent of income or something like that with a minimum of 150 or something so realistically that should be in here in fact let's just let's just put in 150 dollars just to to not positive let's put in a negative 150 dollars just to recognize that that's there okay next is insurance so on an apartment building I'm not going to get into a lot into details of of the various kinds of coverages that you you want to consider for an apartment building that you're
50:34 going to have you know liability coverage slip and fall you're going to want property damage for a fire you may want loss of rents um other types of insurance okay and so um I think this came uh well actually no they didn't break it down um I to be honest with you I don't remember where I got the 6800 UH 60 yeah 6800 a year figure um but in any event that's the estimate of what insurance is where would you get the figure um hopefully your you have an insurance broker or you're friends with an
51:09 insurance broker and they'll they'll help you out give them a call say hey I'm I'm analyzing an eight unit apartment building in West Los Angeles just give me a rough ballpark on what it would cost to insure the building for all of the risks that you think need to be covered okay and if you have a good relationship with that insurance agent they'll give you that number okay management so management expenses fall into several categories now um you'll have in in some cases you're required to have an on-site manager here in California if you have 16 or more
51:45 units you must have an on-site manager now this is only an eight unit building okay so we're not required to have a manager I put in 300 a month for an on-site manager as a salary it would actually probably really be a rent reduction to have someone on site who could just keep an eye on things make sure the sprinklers are coming on make sure the gardener is showing up um you know that for in a in a building in this kind of area tenants are expecting a high level of service okay
52:20 so while they could be expected to call the management office or go online to submit a maintenance request in in many cases it will be really convenient to have someone on site to take care of some minor minor issues okay and as well if if a tenant is late with their rent you know there's someone who can go knock on the door and say hey we haven't gotten your rent yet everything okay that kind of stuff okay now so the broker will argue that this is not a justifiable expense the other thing this does is it gives
52:55 you some negotiating room okay all right so you wouldn't give them a free apartment although in us for a a 16 plus unit building you're probably you're probably going to be looking at a free apartment or depending on the you know how great the apartments are at least a partially free apartment okay you are most likely going to have Professional Management okay which means a company who's managing the building so unless it's going to be unless you're the one who's going to be handling all of the um problems the rent collections
53:31 depositing the money um arranging for repairs all that stuff unless you're going to handle that yourself you're going to have a management company handling it for you okay and here's the thing if you are going to be doing that where is your compensation coming from for doing that especially if you have Partners so if you have partners that are putting up some of the cash to buy the building but you're going to be the active partner the one doing all the work right are you going to do that for free for your other partners or are you going to get paid for it and the answer most likely is
54:07 you're going to get paid for it so this professional management fee is what you're going to get now um I put I put the professional management fee at 4.8 percent that's that's actually low a little bit low it would typically be around five percent um you might see it as low as four percent again this is one of those um uh issues that'll become a point of negotiation if you were to decide to go forward um with acquiring the building okay and then I also put under management
54:42 advertising you may want to pay for some advertising if you have a vacant unit you may not um you know I know when I manage buildings um in some cases especially when you're heading into a a declining Market um you are going to spend some money on Advertising these days it's going to be online you might do some um some Google ads or you might do some social media ads something like that okay but you you know just you know a hundred dollars a month for advertising not a big budget okay all right the um also under management
55:19 would be administrative and miscellaneous expenses I don't really have anything in there for that because you have a professional management company excuse me embedded in the fee would be most if not all administrative and miscellaneous expenses so I just left that for zero okay next is um maintenance so um if you remember the picture there was a small front front lawn area that is going to have to be maintained periodically so you're probably going to have a gardener who does that I estimated 150 a month that's that's not
55:56 at all unusual these days I mean a million years ago you might have only paid 50 but you know keep in mind that there's been pretty significant inflation over the last few years and by the way 50 a month was back you know 20 years ago um and and the cost of gasoline is higher for them to run their their uh lawn mowers and their leaf blowers and all that kind of stuff okay so um probably 150 is about right um especially if you're going to have them um uh sweep and or blow out the walkways
56:31 which you want them to do once a week because otherwise they get Dusty they get cobwebs all that kind of stuff you want all that stuff cleared out okay next is pest control I estimated about 50 a month for Pest Control um that's to spray for you know cockroaches ants all that kind of stuff typically it includes spraying the interior of a certain number of units each month maybe one maybe two it depends on the package okay but it's good to have and this is not because you know tenants are are filthy and all I mean I've had owners going oh I never get bugs it's how the tenants live no
57:07 when it gets really hot out or really wet out you can get um you know invasions of insects that's just what happens and and so um it's better to just keep them under control on a regular basis um and then last is repairs and supplies you know um the building is a 17 year old building so it's not brand new um it's gonna be you know I don't I don't know how well it's been maintained um but there is going to be some expenses for repairs and maintenance I put in a a seven thousand dollars that's
57:43 just kind of an off of the top um number right now because we're just doing a rough analysis okay um if you were to go forward with the property you would do a more detailed analysis of it based on how much the current owners spent last year based on an ex an inspection of the property determine its condition okay and it may be more than this is probably not less than this okay but this is based on just you know experience all right and then the next category is utilities okay and um here in Los Angeles you're going to have
58:20 water and power and otherwise known as DWP the Department of Water and Power that's electricity and uh rubbish or trash collection gas is actually a separate utility okay you're there is a controlled access so I mean there there has to be a telephone line um for the building that you have to pay for and and here's Water and Sewer which is actually part of your DWP build so um those are your utilities um and uh I'm not sure where these numbers come
58:56 from um to be to be honest um I think they're probably based on typical percentages for Los Angeles okay um sometimes you will get this detail um in uh um in the broker's setup sometimes you won't you can search online what are what is the typical cost of utilities for you know per unit for an apartment building in Los Angeles and you'll find various information sources for that that you can quickly plug in okay and then the last expense category is
59:31 replacement reserves and I put in one percent of schedule gross income for replacement reserves now you say what are replacement reserves so replacement reserves is money set aside each really each month or each year to account for the wearing out of long-term parts of the building like the roof like air conditioning units like appliances okay so if you don't account for that then all of a sudden when you have to do a roof replacement or you have to replace
60:07 an air conditioning unit all of a sudden your repairs and supplies Skyrocket that day so this is one of those expenses that some Brokers will push back on but anybody who's owned buildings will recognize that it's a legitimate expense to expect um and what you're going to see is if you go forward with buying a building you're going to ask for at least two or three years worth of Maintenance records or expense records I should say and you're going to see some years it's higher some it's lower and you're going
60:43 to go well wait a minute you know last year the how you're saying that the maintenance expense was only you know seven thousand dollars but it was ten thousand dollars oh yeah but we had to replace you know two air conditioning units well okay so see that's why you need a replacement Reserve because that accounts for the fluctuating um expenses that a a property Encounters in a in a way that is that levels out those fluctuations and makes sense of that okay so total expenses are a little over a hundred and twenty two thousand
61:18 dollars or about 40 percent of schedule gross income now some people will say that's that's high for a building of this age in this location they would say it should be 32 or 37 percent um maybe maybe I mean one of the things that could be making it higher is maybe the um uh special assessments aren't quite so High um giving 300 a month uh in in uh um for an on-site manager that raises it 1.2
61:55 percent okay so there may be some expenses in here that are a little high it could be that um Telephone Service um is a little bit High maybe it's only you know 25 or 50 dollars per month not a hundred okay but so there may be some leeway there but you want to get a rough idea of how well is this building going to perform okay and certainly um I would say it's it's unlikely the expense ratio is going to be higher than 40 percent for a building built in 2006 in West LA okay maybe less but it's
62:30 probably not going to be more uh you know we won't we wouldn't know that until we audited the building okay and so here's another metric that we want to track and that is we want to look at expenses per year units okay let me put that in oops I don't know why it's showing as a percentage let's change that okay and it's usually it's done I I should put this in it's done on a per month basis okay so we see that expenses are about
63:06 thirteen hundred dollars per unit per month and the reason this gives you another metric for comparison as you examine other buildings okay so once you ex once you subtract total expenses from adjusted gross income you're left with with what's called net operating income and uh don't know why I didn't put net operating in there but anyway net operating income otherwise known as noi net operating income and that's about a hundred and sixty eight thousand dollars and so this is how this this calculates the capitalization rate which is 3.7
63:44 percent if you remember in the setup it said it was 4.42 one of the reasons why it was higher in the setup was because they were underestimating um they can see uh vacancy laws and they were underestimating expenses the way you get the cap rate is you divide net operating income by the purchase price okay so net operating income divided by the purchase price gives you 3.7 percent or we could take this out one more place
64:19 to see oops what happened didn't want to go out one more place there we go okay it's actually 3.66 percent okay and for most buildings capitalization rate is the metric you're going to be looking at most closely now you'll notice up here there's something called a grm a gross rental multiplier or it's sometimes called a gim a gross income multiplier this metric is determined by taking the purchase price
64:56 and dividing it by the the schedule gross income so the price is a little over 15 times the schedule gross income okay that's just a real rough way of determining the value of the building or the price relative to the income okay for very small buildings two unit three four unit buildings you will be looking at the gross rental multiplier the gross income multiplier pretty closely this is done on an annual basis sometimes you'll look at them on a monthly basis but for
65:32 an apartment oh for five units or more you're going to be looking at a cap rate because of how the lender is going to underwrite the building for loan purposes okay so in terms of financing the building then I just made a real quick assumption here and that is that you're going to put 30 percent down and borrow 70 percent okay now um since I don't know how large the existing loan is um I didn't calculate the interest rate at 3.68 percent in fact I'm not even
66:08 sure why that's there um I calculated it at what's called um a loan constant excuse me of 7.992 okay there we go all right what that means is um the interest rate on the loan is seven percent but it's a principal in interest loan and so there's you have to have What's called the loan constant or the payment rate because part of the payment is going to be principal as well as interest and so on this particular
66:43 loan like I said I think I was looking at a seven percent loan maybe six and three quarter so the payment rate is 7.99 that creates Debt Service or what's otherwise known as loan payments of 257 000 dollars okay and when you subtract The Debt Service from the net operating and income you get a loss of 89 000 okay so you've invested almost 1.4 million dollars
67:18 and you're losing almost ninety thousand dollars a year or you have a negative 6.5 percent return on Equity otherwise known as a cash on cash return you have a negative cash on cash return which means you're losing money so my quick conclusion and by the way it takes a lot longer to explain this than it does to actually do it is um and and by the way let's let's just do a couple of reductions here let's let's let's take out the um the uh on-site manager salary let's
67:53 take out the advertising and let's reduce uh phone to uh to three hundred dollars a month okay what happened there we go okay um to 300 a month okay and you can see it's it's hardly made a dent in the negative cash flow it went from whatever it was around 86.80 I know it went from eighty nine thousand dollar loss to eighty three thousand dollar loss you see what I'm saying um the reality is is this investment
68:29 doesn't make sense given where interest rates are the interest rates you have to pay is so much higher than the cap rate you have a substantial negative what's called negative leverage meaning by borrowing money you're reducing your rate of return okay so the only way to for this to make sense is if you you see it says your assumable Chase bank loan at 3.68 that will give you a little bit well it's probably going to give you um it's probably still going to give you
69:04 a little bit of negative leverage once you figure out what the payment rate is based on 3.68 interest rate but it's it's you know the probably the only way to make this building work is to assume this loan and then either um have the seller carry back a second if this loan amount is too small to justify the cash investment or or just you know pay cash and assume the existing loan okay and maybe for the first you know couple of years um you're not going to have any cash flow and you're just going to count on the value of the building appreciating
69:40 and or being able to increase the rents um in order to get some kind of positive cash flow I will say this the likelihood of buying a building at about a 3.8 percent cap rate and its value increasing in the future given where interest rates are going right now is not very great the it's it's much more likely the building the cap rate will go up which will decrease the value of the building okay so overall I I can't really don't find this on a quick analysis to be a particularly
70:15 interesting investment all right I've gone a little bit overtime because I wanted to finish that up for you um I I know I went through things pretty fast um this this show will be available on my YouTube channel so you can go through it again if if you you feel you missed something if there's something that that I talked about that isn't clear to you by all means drop me a comment in the uh in in the chat for any of my social media uh and our social media sites um or send send an email uh email email address and social media will be in the
70:51 show notes um after the show posts on YouTube I'm happy to answer any questions you have um you know this is one of my core areas of expertise is dealing with uh real estate real estate Investments real estate evaluations all that kind of stuff um but uh you know it can be kind of scary getting involved with your first real estate deal if you've never done one before um but but don't let the fear stop you from from you know moving forward uh with your investing life if if real estate if you think real estate is the the right thing for you or if in talking
71:28 to your financial advisor or advisors they say you know you need you should consider some real estate okay it may be the right thing and one of the ways you can get more comfortable is doing just what I did there which is just go find a property and and just break it down and see what do you come up with does it make any sense if it if it does make sense okay fine but make sure you have someone who knows more than you do look it over if you're new to it and if it doesn't make any sense do the same thing why does it not make sense figure it out that's how you'll learn now for those of you who are experienced investors I I
72:04 hopefully you see how how nice this technique is by the way if you want the spreadsheet that I was using where all the numbers are interconnected let me know send me an email or drop me a comment in social media I'm happy to um give you a copy of the spreadsheet for you to use it's you know it's nothing I've ever copy written or anything um and and you know like I said I find this to be such a great analytical um piece to use um that it really saves a tremendous
72:39 amount of time and by the way I've used this for small buildings like I've shown here I've used it for large buildings couple hundred units I've used it for retail for office for industrial it works for any kind of building you may need to make some minor adjustments for different property types or different sizes of properties um if they have you know different items in their revenue streams or that kind of thing um but you know when you're at the point where you're investing in those more sophisticated properties you probably also know then how to use Excel pretty well and so you'll be able to make those modifications yourself
73:15 all right uh I'm almost 15 minutes over our regular time I I thank you for uh sticking with me and uh as always I I hope you found this um interesting and and something very practical for you to use that's my show for today and and that's our schedule for this week and so um I wish you a wonderful rest of the day and a wonderful rest of the week um to my uh co-religionists um they're fast fast day is starting uh uh sundown today so I I wish you an easy fast
73:51 um and next week we'll be back at it again on Monday at 10 A.M Pacific time with trust in Estates weekly on Tuesday at 11 A.M with uh uh eliminating in Pacific time with uh business lessons from the military and then a little less than seven days from today next Wednesday at 12 30 p.m Pacific time I'll be back here for the next edition of people making money so thank you again for joining me and just want to sign off by saying Marie you are my bell take care folks