Investing with a new sponsor can be scary, especially with all the horror stories in the media about multifamily syndicators who have lost all of their investors’ money. It’s important to remember that no two sponsors are the same. In this article, we dive into how to evaluate a deal from a bird’s eye view.
At Viking Capital, we encourage our investors to ask questions and analyze the numbers. Our Investor Relations team focuses on educating our investor base on how the acquisition team underwrites a deal so that each investor can make an educated decision that is right for them and their family. If you are interested in taking advantage of this opportunity Book A Call with our Investor relations team.
PLAY: Key elements that should be present when evaluating a deal
Fixed Rate Debt
When evaluating a deal, especially in today’s economy, your debt terms are one of the riskiest variables in an investment. This is why fixed-rate debt should be present in the loan terms. This means the interest rate remains the same throughout the duration of the loan term regardless of changes in the market. At the very least if variable debt is being used it should have a tight rate cap to protect against a surprise rise in interest rates.
Positive Operating Cash Flow
Positive cash flow occurs when the asset income exceeds the operating expenses, and negative cash flow occurs when the operating expenses exceed the asset income. When assessing the financials of a potential deal, understanding the concept of cash flow is very important. Cash flow can be calculated by taking the total income and subtracting the total expenses. For a deeper look into the concept of cash flow and deal evaluation, refer to our blog; The Cash Flow Strategy.
A common term used when positive demographic trends are headed to a specific location is “in the path of progress”. This also refers to population growth and job growth fueling a rise in the economy.
Now you might ask yourself why this is important when deciding whether or not to invest in a deal, and the answer is simple. Strong economic growth specifically those in population and jobs, creates long-term stability in the market which means a higher demand for housing.
Higher Median Renter Income
What is a median income? The income amount divides a population into two equal groups, half having an income above, and half having an income below that amount.
Why is this important in your investment analysis? Having a higher average income than the apartment rental price means the apartment complex you are acquiring is affordable and will allow for higher occupancy rates. Ideally, the income-to-rent ratio you would want is 20% or less.
Lower Basis than Market Value
What is the basis? The basis of a deal is just a fancy term for the amount buyers are paying for the asset in the deal. For instance, people buying in 2021, where interest rates were meager and competition was fierce, were buying at a high basis. These deals made a lot of sense at the time because of the low interest rates with high proceeds. The inverse is true when interest rates are high, proceeds go down, cap rates expand, and properties are bought at a discount, thus a low basis.
In today’s real estate market with higher than average interest rates, in order for deals to be transacted, the basis should be low. Typically a lower cost basis means you’ll recognize a greater overall return at disposition.
Solid Return Profile
When assessing a deal there are various metrics that should be considered when an investor decides whether or not an investment is right for them. These include Cash on cash (CoC), Internal Rate of Return (IRR), Annual Rate Return (ARR), and Equity Multiple. To better understand these terms we have defined them below:
Cash on cash (CoC) measures the amount of excess cash flow that comes by the way of distributions over the hold period.
Internal Rate of Return (IRR) shows the rate of return accounting for the time value of money. This means the IRR is weighted to show a higher percentage of cash flow being realized sooner.
Annual Rate Return (ARR) also known as the rate of return, is a financial ratio used in capital budgeting. The ratio does not take into account the concept of the time value of money. ARR calculates the return, generated from the net income of the proposed capital investment. The ARR is a percentage return. (Wikipedia)
Equity Multiple is the total cash distributions received from an investment, divided by the total equity invested.
Any one of these metrics alone is imperfect. This is why savvy investors don’t rely on any one metric. They use all of these metrics to show a well-rounded view of the risk profile, return profile, and opportunity.
Below is the current offering from our newest investment opportunity Stewart’s Mill. Learn more about this open deal: Stewart’s Mill | 188 Units | ATL, GA.
Last but certainly NOT least
Trustworthy Sponsor-What makes a sponsor trustworthy?
Solid Track Record– Historic performance of the portfolio (how many full cycle exits).
Open Lines of Communication– Transparency in performance, education, and answering questions speaks volumes. Team accessibility, reporting, online portals, and customer support are invaluable.
Referrals– Other LPs who are return investors help to build trust in the company as well as understand the community.
GP invests in the deals– If the GP is risking their own money alongside the LP’s they are more likely to be conservative when making risk-adverse decisions.
Strategic Team– Deals are not done by one person. It is valuable to meet the team and research their credentials. This allows you to begin to trust their knowledge when you first choose to work with a sponsor.
At Viking Capital, we believe in our deal history with a strong track record that demonstrates our underwriting and commitment to our investors. Viking has built an incredible Investor Relations (IR) team offering communication and transparency to our investor base. We have also cultivated many long-term relationships with investors who are willing to give testimonials on our behalf.
We put our money where our mouth is, at Viking Capital both founders and their families invest in our deals. Lastly, we take pride in the team we have built from the operations to acquisitions, IR, and executives. Our team is built with people who have alignment with our vision and are loyal to our investors.
PASS: RED FLAGS to avoid if present in the deal evaluation
🚩Variable Debt (with no cap or high cap)
🚩No Skin in the Game
🚩Poor Track Record
🚩Wild Assumptions on rent growth, occupancy rates, bad debt, and exit cap
🚩Predatory Debt i.e.: non- agency loans
🚩Returns that seem too good to be true
If ANY of the above are present in a deal you are considering, be sure to take a much deeper look and evaluate the deal based on your personal risk and return expectations.