So many of have heard the term “Value add” or something along that line but what does that real mean and how is that accomplished? That is the question here.
When we say “Value Add” as it related to an apartment building we are talking about increasing the how much the property is worth….If you don’t know this already, in commercial real estate, the properties price is based on how much income it produces and what “Cap Rate” that particular area is trading for.
(For more information on “Cap rate”, see my previous post from march 25,2017)
Ok, so the price of a apartment building is based on the income it produces. This income we are talking about is the NET income or NOI (net operating income). This is calculated by taking all the income minus expenses. This will give us the NOI.
Then we take the yearly NOI divided by the cap rate to give us the what the property is worth…
The formula is below
NOI/CAP RATE= PRICE (example: $100,000/.07 (7% cap rate) = $1,428,571)
You might be wondering how do we add value give what we just spelled out…
It’s very simple with commercial real estate…..We increase the NOI…
I want to drive home an important point here….if we increase the NOI bay a small amount….the price of the property will rise substantially…Let look at the above example. If we increase the NOI by only 10% we will increase the price of the property by $142,857!
Example: 10% increase in NOI
$110,000/.07= $1,571,428…………. $1,571,428-$1,428,571=$142,857
How do we do we increase the NOI you may ask?
That is very simple also, increase income or decrease expenses…If we can do this on even a small scale we can increase the value of a property significantly.
Again, you may be asking yourself, How do we increase income and/or decrease expenses?
It’s real pretty straight forward…I will list a few examples, but this by all means is not the a complete list of ideas. There are many other creative ways to increase the NOI of a building.
- The most obvious is to increase rents, This can be done by many different ways. Perhaps the rents are slightly below market, or if cosmetic repairs are made, this would justify increase rents or rent premiums.
- Increase the occupancy of a building. If the property is being mis-managed and there are too many vacant units, If we can increase the occupancy of a building, this will increase the NOI as well.
- lower the utility bill by being more efficient in the way the utilities are being used. replace old lighting and plumbing to be more energy efficient.
- Bill back some of the utility costs to tenants or sub meter each unit if the property is master metered.
- reduce insurance rates by shopping around for better rates
- Maybe install a cell tower somewhere on the property
- Charge a premium for Garage spaces or storage units
- Petition with the city to reduce your taxes
- Tighten up management costs, maybe you want to change to management company who will provide you a better value
- Keep a closer eye on maintenance expenses, these can become too high if they are not watched closely.
- Provide additional services like coin operated laundry , vending machines or cable TV
- Charge a premiums for pets
So, these are just a few ideas and are by no means the only way to increase the NOI of your property….
But the take home is this: We increase the value/price of a building by increasing the NOI.
Many times when we look at properties we see the income and expenses are not what they should be and can be improved…..We call this a “Value Add” property. At JB Real Estate Investments looks for properties that are “Value Add”. This is where we can make money for our investors.
We seek out these types of properties…This adds a layer of protection for us. Even if a market softens & might not do what we hoped, we can still increase the NOI, thus maintaining and ideally increasing the value of the property.
If you would like to talk more about investing in apartments, you can reach us direct at: 510-863-1447