Pricing Investment Property

Determining the proper asking price for investment properties is one of the most important tasks in market preparation.   There are a number of conventional methods used to assign a value to investment properties.  I will attempt to explain the various methods used.

My goal when representing a seller is to determine the highest acceptable market value.   Because there are a number of methods and underlying factors, the recommended selling price is the value that utilizes one of the established methods or a combination thereof, resulting in the highest asking price.

By utilizing one of the established methodologies, the asking price can then be justified to prospective buyers and their agents.  The end result of performing a proper analysis combined with effective marketing and contract negotiation is quickly receiving offers at or above the asking price.  Application of these techniques has worked effectively for me and produced exceptional results!

To view definitions of terminology used click here 

Properties that are effectively marketed will show the Market Capitalization Rate or ‘Cap Rate’ in the marketing materials.  Cap rate is computed as NOI/Selling Price.   Higher numbers are better than lower numbers.   The true Cap Rate is a detailed measure of financial performance and is far superior to another method Gross Rent Multiplier which is computed as Gross Rents / Selling Price.   Gross Rent Multiplier does not factor expenses which can vary considerably. Try my on-line Cap Rate Calculator.

A second valuation method is price per square foot. This is a simple formula, selling price /square foot.  It becomes more complicated when we have both finished and unfinished square footage and the unfinished are has the potential to become finished area with additional investment.

The financial analysis examines rents and expenses and is a statement of current financial performance.  Pro-Forma numbers are another useful tool in that they can show an improved financial picture.  Typically these are used in the absence of proper financial data, when prior year operating statements are skewed due to repairs or upgrades, when identical units show a disparity in rents, or when the property clearly has below market rents.

Both the financial analysis must take into consideration the property condition and be presented as part of the marketing package.  If the property is in exceptional condition a higher price/sq ft can be justified as can a lower cap rate.  Similarly, if many repairs are required, the cost of those repairs needs to be considered in the price/sq foot valuation.

The determination of value is of course not made in a vacuum and is a competitive analysis.  The subject property is compared to the comparables to arrive at the recommended selling price.  For price/sq foot, statistical data allows the realtor to determine the typical price/sq foot for properties in the area and in similar condition.

On the financial analysis side, once the Net Operating Income (NOI) has been determined, (both actual and pro-forma), the cap rate for competing properties can be used to arrive at a proposed selling price.  The formula (NOI/Cap Rate) results in a selling price.

Assigning a price based upon the numbers actually becomes an exercise in determining the Cap-rate that the property supports.  Since NOI has been determined, changing the desired cap rate for the property results in different selling prices.

When I perform this analysis, I use a custom made spread sheet that allows me to adjust income and expense numbers and see the changes in price.  This is highly useful as most properties do require a pro-forma analysis to determine the proper asking price.  Typically there are too many anomalies in rents and expenses to assume that current operating data by itself can be used to establish the selling price.

Investment properties in Seattle have reached such high price levels that cap rates currently offered seem to make little sense in terms of investment potential.  At the same time, some of the available properties can provide financial justification using a price/sq ft analysis.   Building materials and related construction costs have increased dramatically.  The prices that new construction properties are receiving in terms of price/sq ft have grown accordingly.  These increasing prices in general do bring the market up and can make some existing properties appear to be good values based on the building structure rather than the financial performance.

Most Seattle investment properties are requiring a minimum of 30% down to simply break even and that percentage is increasing.  Rising interest rates will push this number higher unless prices go down.   It is becoming increasingly difficult to purchase these properties as the down payment requirements rise.  If appreciation levels slow down substantially, the return on these investments may become less appealing than fixed income low risk securities which can offer cash flow and no work.

Competitive Factors

So far I have described the two primary methods for evaluating pricing properties.  The Real Estate market is of course a competition.  For investment properties, the available properties are competing for investor dollars.  It is always my goal to present a property so that it appears favorable relative to the competition.  If average market cap rates are hovering around .045 for similar properties, then we know that this is an approximate target range.   The analysis of competition must evaluate sold properties versus on-market properties and attempt to find some middle ground.  Not all sold properties are effectively marketed nor have they achieved top dollar.  Similarly not all on-market properties are properly priced.  Finally, the financial numbers presented for both sold and on-market properties may not be accurate and therefore the numbers (such as cap rate) used for comparison will be similarly skewed.  Often it is necessary to determine what the true cap rate is for comparable properties as part of the analysis.  It may also be necessary to determine what the comparables ‘should have sold for’.

When a property is priced, it should be priced at a level where ‘it will sell’.  Ideally, the property is presented as a good value in relative to the competition. 

The presence or absence of competition is a huge factor in market entry timing and in setting the asking price.  If a property or properties are marketed at a low price and quickly sell, this can create downward pressure upon the market.  Similarly if several properties are marketed at a high price and quickly sell, upward pressure can be created.  I highly recommend utilizing market entry timing as part of the strategy for offering Seattle Investment Properties for Sale .

While it is beyond the scope of discussion to go into the full mechanics of Pricing Properties and the dynamics of Seattle Investment Properties, I hope that this provides some insight into the process.   If you are interested in buying or selling investment properties in Seattle or the greater Puget Sound region, I am available to help.