Need a suggestion on how to determine how much i should pay for an apartment building.
I need a suggestion or a formula to help determine how much i should pay for a 12 unit apartment building.  From what i am reading the cap rate will not be a good way to tell because i am not paying cash for the building.  Is there anything out there that can help me get in the ballpark?  Also what are some suggestions on financing?  The seller agreed to hold a 20 percent interest for 5 years so i could get the other 80 percent from the bank.  I am just waiting for a call back from my banker.
[{"id": "ciz49fj", "text": "First, why are you buying a 12 unit apartment building without knowing how to value it? You should read a couple of books on the subject first. Steve Berges has a good one on apartment building valuation and Frank Gallinelli has another. Your comment on cap rates is incorrect too. \n\nAs a rough rule of thumb guide, here's how the process works. \n\n1. Figure out your annual gross income from rents, laundry etc. Make sure this is actual income, not the seller's wishful thinking. \n\n2. Subtract all your operating expenses. These include management (even if you self manage), taxes, insurance, vacancies, repairs, capex, landscaping and landlord-paid utilities. These will usually total around 50% of rents, often more if the building or tenants are rough. Ignore mortgage costs for now. \n\n3. The resulting amount is your net operating income (NOI). You can use this in two ways:\na. NOI / purchase price = cap rate. Compare to caps on other available properties. \nb. Subtract annual P&amp;I from NOI to figure out your annual cash flow and from that your cash on cash return. \n\nI hope that helps. The seller financing could be a great deal if it is the icing on the cake of a cash flow positive property. However given your inexperience and inability to value the property I suspect that the seller is trying to unload a dud property at a high price and using this as bait to draw you in.  \n\n", "replies": [{"id": "cizbcdg", "text": "Yes it helps a tremendous amount!  ", "replies": [{"id": "cj7ttc0", "text": "I am an analyst in private equity, real estate sector.  I make models all day for this sort of thing... send me a cash flow (10 year if you have it) and I can plug and chug if you like.", "replies": [{"id": "cj815dr", "text": "Ok sounds good we are setting up an appointment to meet on thursday.  Ill let you know what info we can get our hands on.   Thank you very much.\n", "replies": [{"id": "cjaymym", "text": "cool, send along cash flow and you can omit all other info if you choose, but two other points of info will help me: region (not address) so the MSA (metropolitan statistical area) and the class of the building.  the class of the building should be in terms of A, B, C... if you don't know that then just give me the year build, and year renovated if applicable along with any info on grade of unit appliances and building amenities (laundry, pool, grill, you get the idea).  those two additional points of info will help me know what cap rate to apply.", "replies": [], "depth": 5}], "depth": 4}], "depth": 3}], "depth": 2}, {"id": "cizfryb", "text": "what's P&amp;I?", "replies": [{"id": "cizgld3", "text": "Principal and interest. The mortgage, without any escrows. ", "replies": [], "depth": 3}], "depth": 2}], "depth": 1}, {"id": "ciz5884", "text": "There's nothing wrong with using the cap rate to determine the value even if you're not paying cash.  You're still only using that as a barometer for performance provided you understand the limitations of using a metric that only gives you a snapshot in time; the current year.  There are all kinds of reasons for not using cap rates as the be all/end all, but using leverage isn't really one of them.\n\nIf you're looking for the best means for valuation, you'll first need to understand the physical components of the building.  Without understanding your potential maintenance or replacement costs, no formulas are going to help you.  but once you've had *that* assessment made, the best metric to asses your return is levered internal rate of return.  This will allow you to build in cash flow growth rates and expense ratios over a hold period and find out just how well the asset will project.\n\nCash on cash return is still used in some places, but it's a very elementary metric only really of interest to unsophisticated investors.  It's also 100% irrelevant in your cash seeing as your cash component is zero.\n\nAs far as the financing goes, it's great that you have an option for vendor take-back on the down payment, but you're at zero equity.  Not only are you at zero equity, but you can't even be certain that your debt service coverage is ample enough to cover the nut.  In other words, do your calculations first.  Depending upon where you are, apartments are generally low margin assets.  They don't cash flow nearly at the levels most people think they do by the time all the costs have been properly tabulated.  They generally have a difficult enough time creating the 1.25 coverage ratio on just the borrowings from the bank, so going to 100% LTV is probably a very risky idea.  If rates ever increase or NOI ever falls, you'll be out of pocket just to meet debt service.  This is almost *always* a bad idea.  And since the value of a building is tied up in its cash flow, lower NOI *always* translates to less value so any hope of refinancing to get back on track is an impossibility unless you're putting up personal assets as collateral.  Something the bank will likely require anyway for the 80% debt load.  And if you're new to the game, it may be a general security agreement which essentially opens up *all* personal assets regardless of whether you're in a recourse jurisdiction or not.\n\nIf you're actually able to pull of financing without demonstrating free &amp; clear equity of *at least* 80% (more typically 75%), I'll be very surprised. In any case, this arrangement is bad news, anyway.\n\nIt sounds to me you might be a little green for this yet.", "replies": [{"id": "cizatl5", "text": "Yes this is kind of new to us.  We currently have 14 units that are comprised of an 4 unit a few duplexes several commercial buildings and some single family residences.  We have never paid full price for anything and our gross rent multiplier on all the other properties is 4.  I really havent pushed the owner for any more info to figure out the noi yet because i wanted to talk to my banker first.  It is a local bank, a bit smaller and i have worked closely with them in the past.  All i have right now is what the seller is asking which is 1.4 million and the monthly rent collections is $13,800.", "replies": [{"id": "cizb49s", "text": "Don't bother using a gross rent multiplier.  You need to understand your cash flow after debt service to see if you're in a position to handle the property.  Gross rents are irrelevant if your net income can't handle the demands of your leverage or there's nothing left to take care of expenses.  Unless, of course, you're in a position to just arbitrarily continuing raising rents, but that ignores any rent regulation or market tolerances.\n\nThis is like trying to live a lifestyle based on what your gross income is ignoring that you have to pay taxes...", "replies": [{"id": "cizbcz9", "text": "ok so baically the answer is find out the NOI, add some reserves for repairs, determine if the property would still cash flow after your debt service.", "replies": [{"id": "cizehy8", "text": "That's an extremely basic assessment, but it's a start.\n\nI guess my question to you would be why you would put yourself in a position to take on 100% leverage of an asset you're not even certain of how to value?  This is risky in the extreme.  And why would the bank ever lend money to somebody with no equity *and* no ability to demonstrate the value?  Where's the sensitivity analysis should rates move?  Or the valuation should any prolonged vacancy take place?  You must have a significant asset base the bank is relying upon.  Buying $1MM+ assets with no idea as to how they value out is normally the first step in somebody losing everything.  Do some research on real estate valuation before you commit your future.  \n\nFor instance, who is first in line on this asset, the vendor or the bank?", "replies": [{"id": "cj0phq5", "text": "I am exhausted and will keep this short.  NOI And cash on cash is the first step but not the only thing you have to understand before acquiring an apartment building or any other.  There are always discrepancies in expenses, look back over 12-24 months of expenses for these and understand what they are.  People can do funky things with those expenses.  Much more goes into it but I need to recharge, goodnight.", "replies": [], "depth": 6}], "depth": 5}], "depth": 4}], "depth": 3}, {"id": "cizzdsx", "text": "&gt; We have never paid full price for anything\n\nYou and every other investor I've ever met.", "replies": [{"id": "cj0bl0j", "text": "I'm sorry I cant speak for anyone you have met, I can only speak for myself.", "replies": [{"id": "cj0busg", "text": "Everyone thinks they got a steal.  99.9% of people don't.  That's my experience.", "replies": [], "depth": 5}], "depth": 4}], "depth": 3}], "depth": 2}], "depth": 1}]