Analyzing the Deal – An Example

The other day one of the MMM Challenge members received a lead on a property. The seller contacted the investor via a website and entered all the information. It looked like a good possibility. So let’s take a look at the process of analyzing the deal and the subsequent offer. 

The seller indicated the home needed some cosmetic repairs estimated at $4000 and was willing to sell for $50,000. Comps looked like the home might be worth $106,000 after repairs. Good deal right? Let’s begin running the numbers. 
The repairs reported by the owner were for materials only and were clearly on the low end. When estimating repairs a good rule of thumb is estimate the materials then multiply by 3. That is, materials usually only represent 33% of the total repair costs and labor represents 66%. Clearly this is just a general rule of thumb and each project will vary significantly. That means the repairs for this property were going to run between $10,000 and $12,000. Not having seen the property myself, this is just a conservative rough estimate. 

When looking at the comps, we found two recently sold properties that were brand new construction that probably inflated the value (an older home should be priced less or depreciated compared to a new one). In looking at www.zillow.com and a few other sites, we arrived at an after repaired value (ARV) of $85,000. Still looks like a good deal, right? Let’s analyze the deal. 

Before calling the owner, there are a few pieces of homework. Many counties have a website for looking up property deeds or you can go down to the City/County Clerk’s Office and ask for the registry of deeds. Look for purchase price, date of purchase and liens against the property. All of this will quickly tell you approximately how much is owed on the house and subsequently what type of offer the owner might accept. Then look online or call a local Realtor to find out the following: 

1) What is the “Average Days on the Market” (How many days from Listing to Selling) for this type of property? 

2) What is the “Current Inventory on the Market” (Backlog of homes waiting to be sold) in months (less than 6 months is sellers market, more than 12 months is strong buyers market)? 

3) What is the “Average Selling Price to Asking Price Ratio” in the current market. 

All of this will give signs of how fast a property might move and the current condition of the market. Additionally, take a look at www.rentometer.com to find average rents in the area and research the number of rentals in the general market on the web. All of this should take an hour or less and will tell us what exit strategies might work in this market. 

Now we call the owner. Let them know you work with a group of investors that help people out of situations; however you will need to get some more information. Also let them know you are only willing to work out a solution where everyone benefits. Ask them what would make you want to get out of such a lovely home. Then LISTEN! You have to find out their needs and if they are truly motivated. If they ask you how much you are willing to pay, do not answer. Let them know you will give them a fair offer after you have enough information to evaluate the property.If the owner doesn’t want to give you information, let them know you get many calls and do not want to waste the owner’s time. Be willing to walk away. In this case the owner indicated it was his recently deceased father’s house and he didn’t feel like spending the time and effort to fix and sell the property. Next make an appointment to meet with the owner - the same day preferably so the owner cannot shop offers to other investors. 

Make sure to bring an offer to purchase or purchase and sale agreement with you to the property. You have done your homework and you know the maximum amount you will offer. Each market is different, however as a good rule of thumb the maximum offer is:

(ARV – Repairs – Transaction/Holding Costs – Profit) x 70%. 

In this case: ($85,000 - $10,000 - $5000) x 70% = $49,000. When looking at the property make sure to understand and inspect any major expense items like electrical, HVAC, plumbing, roofing, termites, etc. You will also want to include a 15 day inspection clause in your offer so you can have a professional evaluation. Once again, build rapport with the seller and truly find out the motivation to sell. In some cases they need cash now and in others they just don’t want the hassle. The motivation drives the offer. In this case, the owner accepted an offer of $42,000 for a 30 day closing. 

Looks like a winner. In this case the property can be marketed for wholesale in the $50,000 - $55,000 range with a potential profit of $8000 - $13,000. In our next blog we will explore some of the other exit strategies available to this investor.