Investing in Real Estate, 7th Edition

11

STRATEGIC MANAGEMENT BUILDS EQUITY

When you own property, you control—for better or worse—the cash flows that you receive and the amount of equity that you build. Market timing and market conditions matter, but you matter more. You need not wait for market vacancy rates to fall. You need not wait for improved market rent levels. You need not wait and hope for market appreciation. Through strategic property management, you can boost the rents, occupancy, and value of your properties (leases permitting, of course) within just 3 to 12 months after your purchase—even with no favorable change in the market.

THE 10:1 RULE (MORE OR LESS)

Recall the value (V) formula:

Value = NOI (net operating income)/R (capitalization rate)

Assume that the property you buy yields an annual net operating income of $25,000 and the market cap rate equals 10 percent. The property value equals $250,000 (as estimated by this income approach). You next apply the creating value ideas from Chapters 8 and 9 to boost the property's rental income and cut its operating expenses, and thereby increase its NOI by $5,000 a year. You've just added $50,000 to the market value of your property:

Added value = $5,000/.10 = $50,000

Or, alternatively,

V = 25,000 + 5,000 (NOI)/.10 (R)

                         = $300,000 (versus the old value of $250,000)

Can you achieve such gains in NOI? Yes! Here's why: Most small investment properties suffer from subpar management. Ill-informed, poorly motivated, and inattentive property ...