Base Rental Revenue:
Whenever I speak with a broker about a property he is trying to sell me on, he will, without a doubt, say that the property has below-market rents and that the new owner will have room to push those rents significantly higher. Well, sometimes this is true and other times this is false.
To confirm whether the broker is saying something true, I check on Apartments.com for myself to see what nearby comparable apartments are renting their 1 beds, 2 beds, and 3 beds at. To truly get apples-to-apples comparisons, I ensure that the properties I am comparing the one I am looking at are in the same area, have similar amenities, have a similar number of units, were built in similar years, and have similar unit sizes.
If I see that my building is renting units out $100 lower than very similar nearby buildings, then great. I may have the opportunity to raise rents without having to do significant value add renovations like redoing kitchens and bathrooms. This is the dream!
However, if I see that my building is renting units out $100 lower than nearby buildings with better amenities, then I need to assess whether it is feasible to add the comparable amenities. If I am able to, then I need to understand whether spending $3K-$10K to turn the individual unit to drive a $50-$200 increase in monthly rent is worth it.
In the multifamily space, a 3 year payback period is considered to be solid. Furthermore, if a $3K investment can drive a $600 increase in annual rent, we must remember that all else being equal, that $600 increase in annual rent means an $8K-$12K increase in valuation in many growth markets.
Just remember that renovating units is not like turning on a switch. If your team is able to renovate and lease out 2 units per month, for a 48 unit apartment building, it takes 2 years to fully renovate all units. To fully optimize on a refinance or sale, you are then looking at a 2-4 year timeframe of owning the property to pull it off to show that the renovations are actually driving higher rents.
Other Revenue:
Many owners completely under-optimize on the other sorts of revenue they can generate in multifamily. Many of the ones that do, especially, mom & pop owners are content with just the base rental revenue.
I break Other Revenue up into two categories: those that are good and those that are not-so-good.
Starting with the good, the number one way to drive incremental revenue is by implementing a RUBS program. A RUBS program allows a landlord to bill back most or all of the cost of utilities that they incur back to the tenant. Typically, this will apply to water but can also apply to electricity, sewer, and gas. Especially, in a market like Norfolk where water bills run high, getting this back can have a major effect. A second way to drive Other Revenue is to charge deposits and monthly fees to tenants that have pets. At the end of the day, pets will cause incremental damage to a unit that will cost you more to turn in so you should get reimbursed for this. A third way is, instead of asking for a security deposit, asking the tenant for a non-refundable move-in fee, which I can count as revenue. Under this scenario, I would also ask them to get a surety bond from a company such as Rhino to cover future damages.
There are other creative methods to drive revenue. For example, if I have a laundry room in my multifamily property, instead of servicing it myself, I can contract with a 3rd party company to bring their own washers and dryers and service them. I would then take a cut of the revenue they generate from these units. Sure, I may make a little less in terms of revenue but my cost base will be much lower, so I can drive greater operating income.
On the not-as-good side, I would include items such as late fees, month-to-month fees, and court charges. I definitely have to charge them as an owner but, when I see these as a buyer, I will not consider these revenue streams as positive drivers of the valuation of the property. In fact, if the revenue generated from these categories is high, I now have a smoke signal that I should walk away from that property because I am dealing with a potentially rough tenant base.
Overall, a rule of thumb I’ve heard is that Other Revenue should be 7% to 12% of the overall revenue once the property is stabilized.