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Cash Flow Will Not Make you Rich

Cash Flow Will Not Make you Rich

I came across the following article or blog last week and the title was, Cash Flow Will Not Make You Rich, caught my attention and I thought it would be good reading for everyone. I agree and disagree with the emphasis of this article.
I agree, cash flow alone will not make you rich. Investors in 2004 thru 2006 proved this as they made tons of money flipping properties that were structured with negative cash flow. Many put very little down and since the properties appreciated so quickly, they were making amazing returns. See, the great thing about investing in real estate is that you gain appreciation based on the property value, not your initial investment. If we ignore the boom period and look at investing into a property with reasonable positive cash flow with historic appreciation, the investor could expect to make 15% on their money. Do that over and over with some vertical moves and you can create wealth.
I disagree because cash flow may not make you rich but it certainly should be an important ingredient for most investors. Look at those investors who bought near the end of the bubble or soon after the bubble broke. If they had very little cash flow or were negative a fair amount, many unfortunately lost the property to foreclosure or short sale. So I believe that the typical investor should seek positive cash flow. In fact, I think that ALL investors should first address cash flow before moving onto other aspect of the investment. Right now, with the right property, that cash flow can make you around 6% on your money; and that is better than the bank. Because you have positive cash flow you should be able to ride the market out and once property values begin to appreciate again, you can expect that return to improve. So it’s a balancing act and I believe that my performance can help you weigh out different scenarios.


Have we hit Bottom?
Everyone keeps asking me, have we hit the bottom yet? As I have said in the past, I don’t think we’ll know it until after the fact, but looking at the data, it looks like we’re at the bottom. In prior months, if we saw a 4 plex sell at $215K and an identical 4 plex came on the market a month later, that sales price would be $215K or lower. Well, we have now seen that exact scenario, but the 2nd 4 plex sold for over $230K. The short sales and foreclosures are still dominating the market and there are many more coming down the pipe, but I think the market has found that sweet spot and I think we just might be there. Years ago I said that our inventory levels would have to get to or below a year’s worth of inventory. Well, guess what, we’re there. So all the indicators are there. I’m looking forward to seeing the data over the next couple of months.

Boise Rental Market
As predicted our vacancy did drop this last week and I further predict that it will improve throughout the remainder of the month. Things are still looking pretty good.

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First Rate Property Management’s 2010 Vacancy Rate

Below is First Rate Property Management’s vacancy graph. Let me explain what we count as vacant. If the property is vacant, but the tenant is paying rent, we count it as vacant. If the property is vacant and we have executed a lease and the new tenant just hasn’t moved in yet, we count it as vacant. As you can see, our vacancy spiked an entire percent in the last week. That is because most tenants vacate at the end of the month. I suspect that next week will fall back down to the 4% level.

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Market Conditions

With the rental market improving, First Rate Property Management has had to make some changes in our policies and procedures. For most of the last decade, it has mostly been a renter’s market and our staff has made the appropriate adjustments. With the rental market now improving, we are now making adjustments that more favor the Landlord. Below are some examples of some of these changes.
Move-in dates: If the property was available on the 1st and the tenant couldn’t move in until the 21st, we mostly accommodated them and started the lease on the 21st, which means that the owner lost 3 weeks of rent. We have to allow some time for a proper turnover, but regardless of when the tenant wants to move-in, we will be requiring them to start paying rent sooner.
Move-in incentives: Incentives are not offered as quickly or for as much as we have in the past, with some exceptions based on trend analysis. However, we are putting controls on this. For easy math, let’s just say that the tenant is to receive a $300 move-in credit. We are now applying this $300 move-in-credit from the time the tenant is approved or when the property is ready to be occupied; where in the past, we applied it to the date they wanted to move in. So if you couple the flexibility we offered on move-in dates plus a move-in incentive that didn’t apply until after the move-in date, the owner was losing many rent days.

Renewals: Our lease has an automatic rent increase built in it. For the past few years, we have waived the increase and used it as an incentive or as good will, to get the tenant to stay and renew. We are now back to reviewing all upcoming leases and invoking the automatic rent increase to those paying under market rent.


In summary, I think these changes will improve our client’s bottom lines and I also think it will entice tenants to move-in sooner.

Boise Vacancy Rates

The 2nd quarter vacancy and rental reports from the SW Idaho Chapter of the National Association of Residential Property Managers were just released. As you can see, the vacancy for single family homes is just a mere 2.5%. I haven’t seen that since 2001. It’s a great sign that our surplus inventory of single family homes have mostly been consumed. However, the survey showed a vacancy of over 6% for small multi-family buildings. First Rate Property Management has been fairly steady at 3 to 4%, so I was surprised to see that figure as high as it was. But I think it explains why I’ve seen some of our multi-family units not move as fast as I wanted them to or at least at the rental price that I thought would work. All-in-all, I am still pleased with the current market conditions.

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Boise Average Rents

The SW Idaho Chapter of the National Association of Residential Property Managers posted their 2nd quarter rent survey. Below I have posted the results. With vacancy so greatly improved, I would’ve expected rents to have increased. If you have any questions, please feel free to contact Tony@FRPMrentals.com or simply post to this blog so that everyone can see your question and the response.

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Summertime Busy

As we’ve mentioned, summer is our busiest time of the year. As of today, we haven’t received that many notices to vacate for August. So unless they come in by the truck-load next week, August should post up some good numbers.

Boise Area Rental Market

Vacancy dropped just slightly to less than 4.5%. Based on the number of pending applications, I suspect that the vacancy will continue to slowly drop through the remainder of July. The single family homes are renting up fairly quickly. However, I have a few multi-family units that aren’t moving at all. In fact we aren’t even showing them that much. It’s always fun trying to figure out why a property isn’t renting? Is it location? Is the wording in our marketing not as good as others? Curb appeal? Price? What? We make a few deductions, such as if the call volume is as high as other properties, then we know that the marketing is good. If we are scheduling a lot of appointments we know that our leasing team is responding to these leasing inquiries and adequately selling the property. But if we aren’t getting applications at that point, it could be location, property condition, or price. First Rate Property Management adjusts for bad location by adjusting the rent down or offering an incentive. Sometimes it’s the condition of the surrounding properties, not necessarily the one First Rate Property Management handles. So we tend to drop price temporarily and then work on notice to the surrounding neighbors to get things cleaned up, like a nice little note to the HOA letting them know that the grounds look trashy. So rent amount can typically fix all of the above, but I wanted you to know that we evaluate and identify these trends each week and take the necessary actions to get things moving.

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Additional Insured:

First Rate Property Management requires each of our clients to list us as additional insured. The reasoning for this has recently been questioned, so we have added this to our Owner’s frequently asked questions. Please click here to view the question and the answer as to why this protects the owner/investor more than it protects First Rate Property Management.

Sales Market:

As you probably heard on the news, the Feds extended the tax credit date, but only for those deals that were already under contract before the previous deadline. Interest rates are as low as I’ve ever seen them. In fact, I’m refinancing my own home at 4.375%. I had been holding out on refinancing because of the costs to refinance would take me 1.5 years to recover and I was thinking that if the right property came out as an REO or foreclosure, I would jump on it. But that hasn’t happened, so I am going to go ahead and refinance. Besides, if the right deal comes down, I think I will have the potential of making hundreds of thousands on it, so a few thousand in lost closing costs on a refi are negligible.

I am still pleased with the investment opportunities out there. Please take a look at the Boise Investment Properties Team’s listings. And to view all of the Swope Investment Properties listings, click here.

Mold:

On average, First Rate Property Management deals with some sort of water loss each month. Sometimes there is significant damage and sometimes very little. Because of this, we have purchased equipment to respond quickly to include dehumidifiers and air movers. Recently I discovered a water leak in my own home. This leak had been going on for a very long time and went unnoticed because the leak was a very small one and I have tile floors which were set after the cabinets and served as dams, keeping the water contained under the cabinet. Because the cabinets had legs, the actual cabinet box had no signs of damage. Eventually we noticed the toe-kick of the cabinet had a color change. After further investigation we discovered the leak and immediately began the clean up.

Over all these years, I have never seen an insurance company cover a leak that caused damage over a length of time. In fact, they typically specifically excluded those types of leaks and use words such as “SUDDEN LOSS”. Well, my company did. I encourage you all to check with your agents to see if your policy specifically excludes undetected leaks that occurred over a length of time. I would also ask if you have a rental rider which ensures you coverage of any loss rent due to damages so significant that the tenant has to move out. If you don’t have either, I would recommend that you add those to your policy.

Anyway, my insurance adjuster came to the house and was impressed with the work that I had done and how quickly I had gotten it done. Which amazes me since I did 90% of the work at that time? First Rate Property Management not only knows how to care for your water losses, but we also have the equipment to save you and your insurance provider a lot of money.

FRPM Summer Retreat:

Every year, First Rate Property Management holds a summer retreat. Over the past few years, we have held it right below Tamarack resort in a campground on Cascade Lake. As you have read from past posts, the summer is a busy time for us. There never seems to be enough time. So we hold this retreat right in the middle of summer so that we can break up the frantic pace and let our hair down if you will by just going out and having fun. We do close the office down for half a day to do this, but we hire a contractor to field any afterhours emergency calls. This year’s retreat will be held on July 30th thru August 1st. Below are some photos of past retreats.

Boise Rental Market Update:

Below is the updated vacancy rate graph. As you can see, the last 3 weeks have trended upward. I believe the major cause of the increase in vacancy is that this is the month with the highest turnover so there is some down time as all of these tenants move from one place to the next. I suspect that the trend will either level out or hopefully even decrease. We have been increasing rents and that could be a factor as well, although I put more weight on the time of the month and year as tenants make their summer moves. Our single family homes are doing very well. Overall, I am very pleased with the current market.

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Ada County Duplexes and Four Plexes:

As you know, I sell investment properties for Swope Investment Properties. In fact, the brokerage is #1 in sales production of Residential Income Properties within Ada County. One of the things the office does is track the four plex and duplex sales. June was a huge month in 4 plex sales within Ada County. If it weren’t for the knowledge that I have that more four plexes are coming to foreclosure within the next few months, I’d say that we might be close to seeing values finally stabilize. But my guess is that those foreclosures will keep that from happening. Not to sound like a broken record, but my opinion is that it is a great time to buy.

Annual Accounting Audit:

Next week we have our annual accounting audit. I hire a 3rd party company to dig into our books and make sure that everything is posted right. I do this to make sure that your bookkeeping is dead on as well as my own books. We also purge old data and install updates once the audit is complete and that requires everyone to be out for a day or two. So please excuse the girls if they have to wait a day to respond to any accounting questions next week.

Useful Information:

I got a lot of great comments about last week’s post on the average expenses. If you ever have any questions or think of a good subject line, please just reply back or post a reply post on the blog and I’ll get something written up. I enjoy writing these and I want to keep all of you up to speed of the market conditions and any changes First Rate Property Management is making.

Boise Area Rental Market

The below graph shows First Rate Property Management's vacancy rate for 2010. As you can see the market has really improved since January. We are currently just over 3% and the average for 2010 is just under 4%.

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Property Performance

I field a lot of calls from property investors who are concerned about their current property manager and the performance of the property. They’ll tell me that it “isn’t cash flowing” or “it’s not covering my mortgage”. Depending on what type of property they bought and the terms of their financing, this property may rarely see positive cash flow or cover the mortgage. So I share some data with them to make sure they are being realistic. Nine times out of Ten these folks are upset not because of their property management company’s inability to manage the property, but they are upset because of unreasonable expectations regarding expenses. Below shows our average income and expenses as a percentage of total income. You might find it interesting. Also, I’m trying to see if someone has a national average so that we can compare to see if these are realistic or not.

INCOME

Rent Hud                                                                          1.2%

Rent                                                                                 98.8%

                                                         TOTAL INCOME  100.0%

EXPENSES

Advertising                                                                        1.2%
Tenant related repairs that exceed deposit                          0.2%

Cleaning that exceeded tenant deposit                                0.3%
 
Flooring replacement/repairs                                              2.2%

Electricity bills, while vacant                                               0.5%

Eviction and Legal Costs                                                    0.1%

HOA Dues                                                                        4.0%

Gas Service, while vacant                                                   0.3%

Landscaping/Yard Care - mostly multi-family properties      1.9%

Management Fee                                                                7.7%

Maintenance/Repairs                                                          7.3%

Sprinkler Repairs                                                                0.3%

Water, Sewer, & Trash Service - mostly multifamily properties 3.6%

Exterior repairs for roofs, windows, and siding                      1.0%

                                                        TOTAL EXPENSES   30.8%


Rental Income and Expenses

The numbers above are a 5 year average for all of our properties.I think they probably compare fairly well to local companies averages, although I don’t know of anyone else that has published this information. If you have a single family home and the tenant pays all utilities and does their own yard care, you could remove those numbers from your calculations. Please note that these numbers don’t include property taxes, hazard insurance, or debt service. Also, I posted our owner’s eviction and legal costs just to point out that that expense is less than 1 tenth of 1%. So roughly 30% of each month’s rent will go towards some expense or another. Add property taxes and hazard insurance to that and you’ll probably be around 40% for multi-family properties. Now if you have debt service, add that in and see where you fall. If the numbers work with these percentages plus a safety factor, you probably are ready to become an investor and have reasonable expectations. I hope this was helpful information. It was a fun exercise for me.