At GGC, we pride ourselves on our thorough approach to analyzing real estate assets. Drawing on more than a decade of our teams experience in commercial real estate underwriting, we are excited to offer an in-depth look of our process in this edition of our newsletter.
Before diving into a specific deal, we conduct our market research and due diligence on the surrounding area. This involves analyzing local market conditions, demographic trends, and various economic indicators. For example, when evaluating a multifamily property, we consider factors such as population growth, employment growth rates, rental demand, new construction pipeline (new supply), average single-family home cost, employment base, and neighborhood development plans. We utilize various research software like CoStar and REIS to access detailed market data and trends, such as rental and sales comps, which help us make informed investment decisions.
Once a potential deal has been identified in a market we feel confident in, we dive into financial modeling to assess its value. We first gather essential documents from the seller such as the trailing 12-month (T12) profit and loss statement, prior year profit and loss statement, rent roll, aged receivable reports, and other relevant financial information. This data is then input into GGC’s proprietary model, where we analyze trends and underwrite the property.
Income- We examine the rent roll to determine if the property is above or below market rates. Additionally, we review historical monthly rent collections to identify any unusual events, seasonal patterns, and trends in collections. We perform a similar analysis for other income sources (utility reimbursements, parking income, cable income, application fees, etc.) and explore potential new income opportunities such as installing utility meters for direct billing, negotiating new cable contracts, or implementing pet fees.
Expenses- We examine historical annual expenses and use market expense comp data to adjust for tax reassessment, rising insurance costs, and market repairs and maintenance expenses.
During our analysis of historical statements, we engage with the owner or broker to discuss key variances and gain insights into the asset's history. Typical inquiries revolve around revenue and expense fluctuations, tenant turnover, significant one-time capital expenditures, and property management practices.
Once we're confident with our underwriting model, we construct a 5-7-year pro forma, incorporating growth rates on income and expenses based on our market research and assumptions.
Moving on to financing assumptions, we outline the sources and uses of funds required for the deal. This includes detailing funding sources such as GP/LP equity, preferred equity, debt options (bank, agency debt, CMBS, and mezzanine debt), and the uses of funds including purchase price, closing costs, deal fees, and capital expenditure budgets.
As we finalize the core pro forma, we calculate standard financial metrics based on our waterfall. For a 5-year hold period, we typically target the following 'net' investor returns for stabilized vs. value-add deals:
We then conduct sensitivity analyses to assess the potential outcomes under different market conditions as seen in the example below. We analyze key variables such as Exit Cap Rate, Interest Rate, and Rental Increase Percentage. By varying these factors, we can evaluate the impact on investment performance and adjust our strategies accordingly. This proactive approach allows us to anticipate and adapt to market dynamics changes, ensuring our investments' resilience and success.
With a clear understanding of the property's financials, market dynamics, and risk factors, we proceed to negotiate the terms of the deal with the seller or broker. We aim to secure favorable terms that align with our investment objectives and optimize value for our investors. This negotiation phase may involve discussions on pricing adjustments, financing arrangements, and due diligence timelines. Throughout this process, we leverage our expertise and market insights to advocate for our interests and ensure a successful transaction.
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Apartment Occupancy Trends
In February, U.S. apartment rents showed a modest 0.2% year over year growth, while occupancy maintained stability at 94.1%, marking the third consecutive month at this rate. On the other hand, cities experiencing significant new supply, including Austin, Jacksonville, Nashville, Orlando, Phoenix, and Salt Lake City, saw notable rent declines. Austin, in particular, saw a sharp annual decrease of -6.7% due to a surge in new inventory. Conversely, regions with minimal rental construction, such as the Midwest and Northeast, saw notable rent increases exceeding the national trend at +2.8% and +2.7% respectively. This trend highlights the tendency for markets with strong demand and barriers to new construction to perform better than those with a substantial new supply pipeline.
Source: REALPAGE. (2024, March 6th) Apartment Rent Growth Remains Aloof in February as Occupancy Stabilizes.https://www.realpage.com/analytics/february-2024-data-update/?utm_source=newsletter.credaily.com&utm_medium=newsletter&utm_campaign=us-rent-growth-remains-flat-in-february-occupancy-levels-steady
Net Rental Income (NRI): Net Rental Income is what the industry calls “collections” for the property and is the summation of gross potential rent (+), physical vacancy loss (-), bad debt expense (-), and concessions (-).
Effective Gross Income (EGI): is calculated as the sum of Net Rental Income and all other income items, including utility reimbursements, parking income, cable income, application fees, and other miscellaneous income.
Aged Receivable Report (A/R Report): An Aged Receivable Report (A/R Report) provides insight into overdue rent payments at a multifamily property, categorizing tenants based on whether they are past due by 30, 60, or 90+ days. These delinquencies haven't yet been reflected in the trailing operating statements, making the report essential for determining if we need to consider additional bad debt expenses.
Thank you for reading and for your interest in Gary Group Capital. We look forward to having you follow along. Feel free to reach out anytime with questions and connect with us further using the button below.
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Gary Group Capital
8 South Michigan Ave Suite 2220
Chicago, IL 60603
