The online real estate crowdfunding marketplace has developed into a crowded yet sophisticated arena, with numerous real estate investing portals springing up regularly. With options galore, it can be difficult for novice investors to trust a platform. Following are some of the points that should be kept in mind by investors when selecting a platform and when evaluating deals.
1. The Team
Before taking any investment decision, an investor should go through the crowdfunding platform’s staff and evaluate the credentials of those underwriting the platform. The experience and a strong understanding of real estate fundamentals by the staff of real estate portal ensures that by the time the deal makes it to the platform, a number of seasoned experts have evaluated it from a variety of different vantage points. It should be kept in mind that it’s not just about looking at the financial projections, it’s about looking at the underlying real estate and at the investment thesis.
2. The Sponsors
The Real Estate crowdfunding industry is relatively new, but investors should look for platforms that partner with the strongest sponsors in the business. Generally, the best platforms choose sponsors with sizable portfolios – eight digits at a minimum, and significant transaction experience in their specific asset type. Another important aspect to be considered is underwriting deals. Investors, especially novice investors, should look for platforms that provide a buffer support between an investor and the sponsor at the same time underwriting a deal and analyzing the transaction on behalf of investors.
3. Local Demographics
Investing in real estate is all about ‘Location, Location, Location.’ Before committing capital, it is very important for investors to gauge all the local factors at play. What are the population trends? Is the job market growing? If it is a residential property, are there more units in the pipeline? Are the rent rates on the rise? Investors should look for answers to these types of questions and more. It is advisable to read the crowdfunding business plans carefully, especially the market report segment.
4. Net Cash Flow
Every investment needs to generate positive cash flow to pay out returns and real estate investment is no exception. In real estate investment, the cash flow can accrue in the form of rental income, refinancing proceeds or sales proceeds. Real estate crowdfunding business plans have a projected schedule of income and expenses. The bottom line is the Net Cash Flow, income earned over expenses. Such a pro forma statement allows investors to quickly understand how the business plan helps in achieving their desired rate of return.
5. Internal Rate of Return (IRR)
There are many ways to evaluate the economic attributes of a potential real estate investment deal with Internal Rate of Return (IRR) one of the most widely used metrics. IRR is expressed in the form of a percentage range. For example, an investor buys into a real estate deal today with an investment of $1,000,000. The investor plans to exit in four years for at least $2,000,000. The approximate IRR for such an investment is about 19%, illustrated below:
An important point to be noted here is that net cash flow from income-producing real estate varies from year to year. This is due to the fact that IRR looks at a deals’ rate of return over time.
6. Equity Multiple
Another common real estate crowdfunding metric used by investors is the Equity Multiple, also known as the Realization Multiple. It defines the ratio of returns to paid in capital. It is calculated as follows:
So if an investors invests $50,000 into a deal and earn a net profit of $30,000, your Equity Multiple is 1.6x, or (50,000 + $30,000)/($50,000).
Just like IRR, the higher the Equity Multiple, the greater the return on your initial capital contribution.
Before making the jump into Self-Storage real estate investing, investors should keep in mind a few important things to do and evaluate during the process:
1. Extensive Due Diligence
One of the critical steps of any self-storage transaction is due diligence. At this point, it is important that a buyer investigate whether the property under consideration is worth their money and risk involved. This step is important, as any information gathered which works against the potential investor may be a deal breaker. The evaluation should generally consist of numerous inspections, audits and third-party reports to gauge if the property is worth an investor’s capital. Due Diligence should also involve a physical and environmental audit of the facility.
2. Legal Representation
Another important thing to keep in mind is to land an expert transaction-making attorney to review legal documents including, but not limited to, the purchase-and-sale agreement, title-insurance binder, zoning compliance, environmental reports and more. It is paramount to have legal counsel who understands the nuances of the self-storage industry as an inexperienced attorney can impede a deal.
3. Property Condition
It is very important to conduct a physical inspection of the property. If it is a new facility, less maintenance would be needed. However, if it’s a pre-owned site, some maintenance could be required. Any large deferred-maintenance items should be addressed with and taken care of by the existing owner. Some items that require particular attention may be air-conditioning and heating units, asphalt, fire-sprinkler systems, roofs and unit doors.
4. Economic Occupancy
There is a major distinction between physical occupancy and economic occupancy when investing in self-storage facilities. For instance, the physical occupancy of a facility might be 80 percent, but if the owner is offering deep discounts on rents, the economic occupancy might only be 55 percent of potential gross income. This is important to an investor as it can affect loan underwriting.
Finally, an investor should investigate the funding of the transaction. At this stage, an investor should seek to answer questions like – Will the deal require the investor to secure a new loan or will current financing be sufficient? Is collateral necessary to obtain a loan from a financial institution? It is important for the investor to not let financing delay the transaction. For this, the investor should start working with a quality bank or mortgage broker prior to making an offer. Look for an individual or institution with a track record in self-storage, as this industry is different from other commercial real estate sectors.
Multifamily properties have known to be an enticing real estate strategy for investors. Before making the plunge into committing capital it is important that investors investigate certain factors that may influence their decision.
Investing in real estate follows one golden rule: Nothing holds more value in a property than the plot of land on which it is situated. One thing that should be taken into consideration more than any other matter is where the property is located. Before committing capital, it is important to conduct a detailed study of the regional economic drivers and employment levels of the neighborhood. Is the area already popular, or at least seeing an upswing in perceived appeal? Are other neighborhood demographics, like the age distribution and average household size, favorable to apartments? Local economic activity is also important. Are new jobs likely to be created nearby, or are nearby base industries on the decline? Access to transportation is also valuable – are freeways or light-rail lines nearby to provide access to downtown areas or other employment centers?
2. Competing Supply
Like any other market sector, real estate is also affected by construction cycles which often results in an over-supply of apartment buildings and other properties. Thus, it becomes important to conduct an analysis of new construction permits and other housing statistics that can provide investors with a clear picture for whether the property is in a relatively stable market or one where competing properties are shortly due to come. Other factors that might affect investment decisions include regional restrictions such as zoning, building codes and environmental impact studies and fees. These factors can at times inflate or deflate real estate property prices.
3. Vacancy Rates
Complexes with more than 7-8% vacancy rates tend to be either in an unfavorable market area or in need of renovation or other re-positioning. A review of current and historical occupancy rates, both for the property and for comparable properties in the area, can give an investor a better understanding of a property’s potential competitiveness.
4. Potential Income
The easiest way to assess the potential income flow from an investment is to compare it with other similar properties. But most times, the condition of multi-family properties may not be on par with comparables. If that’s the case, then investors might have to make some repairs or maintenance so that their units can compete with others in the area. If an investor is buying into a property that needs some work, the investor needs to work out the after-repair value (ARV). The ARV can typically be narrowed down by looking at nearby units with similar traits: Square footage, number of rooms, number of bathrooms, and location. It’s important to know how much revenue each unit has the potential to generate, and if that potential is worth the initial investment and monthly mortgage obligation that will follow.
Buying a property is just the beginning of the stream of costs that an investor might have to incur by taking on a multi-family real estate asset. In order to evaluate multi-family properties correctly, investors need to be aware of expenses that run from property taxes to rehab costs and everything in between. To make an informed decision, it is important for investors to account for every expense and weigh them against the profit potential. After conducting this test, if the numbers are in the green, then the investor has found a promising investment deal; if not, the investor may want to keep looking.
Akshat Bhargava contributed to this report.
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