March 21, 2019

JF1661: How To Underwrite A Value-add Apartment Deal Part 4 of 8 | Syndication School with Theo Hicks


Today’s syndication school is continued over from yesterday’s episode. Theo will cover the rest of the assumptions you will be setting. So dive in and hit play to learn more about how to do an apartment syndication deal. If you enjoyed today’s episode remember to subscribe in iTunes and leave us a review!


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Joe Fairless: There needed to be a resource on apartment syndication that not only talked about each aspect of the syndication process, but how to actually do each of the things, and go into it in detail… And we thought “Hey, why not make it free, too?” That’s why we launched Syndication School.

Theo Hicks will go through a particular aspect of apartment syndication on today’s episode, and get into the details of how to do that particular thing. Enjoy this episode, and for more on apartment syndication and how to do things, go to, or to learn more about the Apartment Syndication School, go to, so you can listen to all the previous episodes.


Theo Hicks: Hi, Best Ever listeners. Welcome back to another episode of the Syndication School series –  a free resource focused on the how-to’s of apartment syndication. As always, I am your host, Theo Hicks.

Each week we air two podcast episodes that make up a larger series that’s focused on a specific aspect of the apartment syndication investment strategy. For the majority of these series we offer some sort of document or spreadsheet or resource for you to download for free. All these free documents, as well as past Syndication School series can be found at

This episode is going to be a continuation of a six-part series. This is going to be part four… And that series in entitled “How to underwrite a value-add apartment deal.” Now, if you haven’t done so already, I recommend that you listen to parts one through three, because if you don’t, some of this stuff might not make sense, because we’re continuing where we left off from the last episode.

In part one you learned the four things that you need in order to underwrite a value-add apartment deal, which are the T-12, the rent roll, the offering memorandum and the financial model. Then we went through steps one through three of the overall seven-step underwriting process, which is step one, read the OM, step two, input the rent roll data, and step three, input the T-12 data. When I mean “input” – I mean input it into your financial model, which if you want to have a starter, we are giving away a free, simplified cashflow calculator which you can find in the show notes of this show, or you can find at

Then in part two we introduced the step four, which is setting your assumptions. But before we went into discussing those, we went over 27 ways to add value to apartment deals, because when you are doing a value-add  deal you’re gonna be doing some renovations, and you need to know what renovations you’re actually going to do, before you set your renovation assumptions. So we went through some of the ways that we add value to our deals and other common ways to add value to deals, to give you some ideas of what you can do to your deals.

Then in step three we actually began diving into the assumptions that you need, and the first set of assumptions that we started discussing will help you determine how much money you need to raise; so we discussed setting your acquisition fee assumption, closing costs assumption, financing fees assumption, operating account fund assumption, and then we began to discuss the renovation cost assumptions. We went high-level on how to determine what renovations we’re going to do, and some strategies to do that when you’re just starting out and don’t necessarily know how much it costs to install a dog park, or how much it costs to place cabinets.

Then we went over some questions to ask yourself in order to determine your overall interior budget. We stopped there, so we’re going to begin this episode by continuing that first batch of assumptions, which will help you determine how much money you need to raise, and that is going to be the  exterior renovations.

So we’re still on point number four, which is renovation costs. We discussed the interiors, and now we’re gonna talk about the exteriors. The exterior renovations will fall in two buckets. One is going to be the cost to address any deferred maintenance on the big ticket items and amenities, and number two is going to be the costs to upgrade the exteriors. So deferred maintenance is going to be things that just need to be done; you’re not necessarily gonna get a return on investment, it’s just things that are in disarray, or not repaired properly, or are old and deteriorating and need to be replaced. Then the second one are gonna be amenities that you are going to create or upgrade in order to attract new residents.

For the second bucket, those amenities – we talked about those in the 27 ways to add value. Those are things like adding a park, those are things like renovating the clubhouse, or adding a clubhouse; renovating or adding a fitness center, adding a playground, upgrading the pool… Things like that that will increase the appeal of your property. A landscaping overhaul, rebranding the property with new signage.

The first bucket is what we’re gonna be talking about now, because we’ve already talked about the second bucket, of the amenities. Some questions that you wanna ask yourself and that you wanna find the answers to either in the OM, or add to the list of questions that you ask the broker, are gonna be 1) What is the roof type? You need to know what kind of roof the property has. I guess we’ll get into why you need to ask that question… So first, what is the roof time – typically, flat roofs are gonna be less expensive to actually buy and repair, but they’re not gonna last as long as a pitched roof. That leads us to our second question – when was the roof last replaced? Flat roofs typically have an average life of around 15 years, whereas pitched roofs have an average life of around 25 years. So if you determine that the property is a flat roof that was replaced 20 years ago, then you’re most likely gonna need to replace it either right away, or at some point during the business plan. If you have to replace it at any time in the business plan, then you wanna account for that upfront, because roofs are pretty expensive, and you’re not gonna want to have to pull six months’ worth of cashflow in order to replace a roof halfway into the business plan. You would much rather raise that money upfront and replace it upfront.

Similarly, if it’s a pitched roof that was replaced 15 years ago and your projected business plan is only five years, then you most likely won’t have to replace that roof… But still, if it’s close to the end of its life and it has the possibility of needing to be repaired during the business plan, then make sure that you have the roof checked out.

Next question is what is the siding type, and when was it last replaced? Typically, vinyl siding is gonna last about 60 years, whereas aluminum siding is gonna last about 25 years. If it’s brick, you don’t necessarily have to worry about it, because brick can last a long, long time. So unless you see any issues with the brick, then you should not have to be replacing any brick during the business plan.

Again, similar to the roof, if you’re getting towards the useful life of the siding, then you need to determine whether or not you’re going to replace it upfront, and the costs associated with replacing it.

Next is when was the last time that property was painted? Even if the vinyl, or the aluminum siding, or the brick is in good condition and it was replaced well before the end of its useful life, you still need to know when the property was last painted, because painting does not last as long as 60 years or, 25 to 45 years. Typically, you wanna repaint the property every five to ten years, so unless it was just painted, you’re likely gonna need to paint it once you’ve taken over management.

Next is gonna be when was the clubhouse last renovated. If it was recently renovated or not, you’re still gonna wanna compare the quality of the clubhouse to the comps that you’re using, to see what’s the quality of the competition’s clubhouse, and what types of amenities are offered in that clubhouse.

You don’t necessarily need to match the types of amenities that are offered, but the quality should be very similar. So if your quality is not similar and you’re using rental comps that have much nicer clubhouses, then you should consider renovating the clubhouse.

Next is what is the condition of the pool and the pool furniture. Does the pool need repairs? Do you need to replace the pool furniture with nicer chairs, nicer umbrellas? Maybe add a grilling area…

Next, when was the last time the landscaping was done? When was the last time they’ve invested a large amount of money into getting the landscaping overhauled? Landscaping is gonna be one of the first things people see when they come to your property, so you wanna make sure that it is nice and clean. It is not, you’re gonna have to do that once you’ve taken over the property and budget for it.

Next, what are the ages of the boilers or HVAC systems? Typically, HVAC lasts 15-20 years, and they claim boilers last 10-15 years, but from my understanding from boiler experts, the life of  a boiler is dependent on how much maintenance and maintaining was done to the boiler. So if the boilers were inspected every year and cleaned out every year, then they could last 30, 40, 50 years. If the boilers haven’t been looked at for ten years, then they’re gonna have a much lower life and you’ll have to replace those once you’ve taken over the property.

Next you wanna ask yourself “Are there individual water heaters, or is there one water heater per building?” Typically, the average life of water heaters are about 15 years, so again, if you’re getting towards the end of that useful life, you might have to replace that during the course of the business plan.

Another question to ask yourself is when was the last time the parking lot was restriped? So if you go there and you see the parking lot is faded and has a lot of cracks, then you might want to consider restriping and repairing that parking lot once you’ve taken over the property.

And then anything else that you want to add to the property – dog park, patios… What are the things that your competition are doing to get higher rents, that you wanna do at your property, and what is gonna be the cost associated with all of those?

So I guess those were a blend of those two buckets, the deferred maintenance and the nicer amenities. Essentially, you wanna determine what is the condition of the current big-ticket items – roof, siding, HVAC, parking lot, pool, clubhouse, and determine how much it’s gonna cost to repair those and get those back up to the high quality that you want. Then you wanna ask yourself “What amenities do I wanna add to this property? Is there a large green space where I can add a dog park? Do I wanna add a couple of things to the clubhouse? Do I wanna add valet trash to a couple of the units? Do I wanna add carports or patios?”

Go take a look at that list of 27 ways to add value and see if those types of things are in demand in the market that the property is located, and if you decide to move forward with one of those, determine what the cost is going to be.

Once you’ve set your interior budget and your exterior budget based off of the way I’ve explained, then you are going to also want to set a contingency budget. So you don’t want to just say “Alright, well I’ve got my estimates for the interiors, I’ve got my estimates for the exteriors… That’s exactly how much it’s gonna cost, so I don’t have to worry about it.” Instead, you wanna say “Here’s my estimates”, but you haven’t seen every single nook and cranny of the property yet, so you have no idea what’s hidden behind the walls, because you haven’t seen every single unit yet, you haven’t seen every single amenity… You don’t necessarily know exactly how much it’s going to cost. So in order to give yourself a little bit of a cushion, you’re gonna want to add a contingency, which is going to be a percentage of that overall budget. We typically use around 15%.

So if  our overall interior/exterior budget is one million dollars, then we would add an additional $150,000 to make it a total of 1.15 million dollar budget, which includes that contingency. So we are able to overspend by $150,000 and still be within budget. If you go over budget, then hopefully you have enough money left over in your operating fund to cover those overspends.

That right there – the interior, exterior and the contingency will make up the fifth assumption, the renovation cost assumption, which will help you determine how much equity you need to raise on the deal.

The last one is going to be your loan down payment, so how much money do you actually need to pay to the lender for them to finance your deal. The two ways to determine this number is either through an LTV or LTC. As I believe I’ve mentioned in the previous episode, the two main types of loan overall are gonna be ones that include renovations and ones that don’t include renovations. Generally, if they don’t include renovations and they’re gonna loan based on an LTV (loan-to-value), which is essentially they will loan up to a certain percentage of the value of the property, and you’ll have to cover the rest.

For example, if the lender says that they will provide an 80% LTV loan on a million  dollar property, that means that they will loan you $800,000, or 80% of the million, and you’ll have to bring $200,000 to the table.

The other one is the loan to cost, LTC. You might see that if you’re getting a bridge loan or some sort of loan that includes the renovation costs. That means that they will loan up to a certain percentage of the project cost to you. If the bank says they’ll provide you with 80% loan to cost, and let’s say the purchase price is $800,000 and the renovations are $200,000, for a total project cost of a million dollars, then they’ll loan up to $800,000 and you’ll have to bring $200,000 to the table.

Typically, you’re gonna see anywhere between 65% to 85% loan to value/loan to cost, depending on the deal and the loan program. Typically, it’s gonna be lower for deals that don’t include renovations, and maybe a little bit higher for deals that do include the renovations.

Now, obviously, in order to determine what you’re basing that LTV off of, because you’re gonna want to input into the cashflow calculator the LTV of the loan program you’re using – but you’re still gonna need a purchase price, because typically the value of the property should be around what the purchase price is… So you’re gonna want to input  a purchase price.

Now, something that’s very common for the large multifamily deals – I’d say for the majority of the multifamily deals, a large majority of them – is that there won’t be a purchase price listed. So you’ll get an OM and it’ll say “Price to be determined by the market”, which means that they don’t have a price listed. Now, if you don’t input a purchase price into the cashflow calculator, it’ll give a lot of errors, and in particular you won’t be able to have a finalized estimate of how much money you need to raise for your deal… So there’s a few ways to go about it.

Number one – in your list of questions to the broker you’re gonna ask them what cap rate they expect this property to trade at. So rather than saying, “Hey, how much money does the owner want for the property?”, an indirect way to get that number is to ask the broker what cap rate they think the property will trade at. So if they come back to you and say “I think this property is gonna trade at a 5% cap rate”, well, you know how to determine value using cap rate and NOI, so go to the T-12, or… Typically, I’ll go to what they claim the T-12 NOI was in the OM, and I’ll divide that by that 5%, that cap rate that’s offered, and then whatever that number is is what I believe the owner wants for the deal. Not necessarily exactly what he wants – it might be a little low, it might be a little high, but if the broker is telling me that they think the property is trading at this specific cap rate, I’m assuming that they are saying that because the owner has a price in mind, and that’s the cap rate that supports that price… So you’ll have an idea of how much money you’ll have to spend on the property, you’re gonna input that into your cashflow calculator and everything else will auto-populate due to the formulas. Once you input the rest of your assumptions, you’ll have an exact amount of money that you need to put down, and you’ll have your cash-on-cash and IRR numbers. So that’s one way to determine the purchase price.

Another way to determine the purchase price is to ask the broker how much money the owner wants, what’s the whisper price, and they might give you a range of numbers.

The third way is to wait till the very end of the inputting process. That’s gonna be actually step number five – determine offer price by an iterative process… So you keep changing the purchase price until you get the returns that you want. We’ll go into more details on that in step number five, which we’ll likely be discussing on next week.

Once you’ve inputted your acquisition cost assumption, you’ve inputted your closing costs, financing fees, operating account fund, renovation costs and your loan LTV and your setup to determine how much money you need to raise, and if you have a purchase price, input that and you’ll know exactly how much money you need to raise. If you don’t, then you can follow one of those three strategies that I discussed: 1) ask the broker for a cap rate; 2) ask the broker for  a whisper price; 3) determine the offer price via the iterative process.

Those are the six things that you need in order to determine how much money you need to raise, and those are also six assumptions that you’ll need to input in your cashflow calculator in order to make your five-year proforma.

The next set of assumptions – we’re gonna go through as many of these as we can until the end of the episode, and then we’ll finish off the assumptions next week… But the next set of assumptions are gonna be the growth assumptions. You’re gonna want to input an annual revenue growth assumption and an annual expense growth assumption. Now, this is not revenue growth or expense growth from anything that you’ve necessarily done at that property. So the revenue growth does not include your rental premiums, they don’t include any other income that you’re gonna start collecting from increasing your fees, adding paid parking, things like that. These are just based on natural income growth over time, as well as natural expense growth over time.

The natural yearly appreciation on rent, the yearly appreciation on your other income, the extra money each year that the vendors have built in, so that they keep up with inflation. You’re gonna be paying extra money to them each year, because the costs are only gonna go up. Typically, you’re gonna want to use between 1% to 2% for each of these. 1% to 2% for your revenue growth and 1% to 2% for your expense growth. Now, something that you might see in an offering memorandum  – I’d say it’s 50/50 probably – is you might see the broker assuming a much higher revenue growth; so a revenue growth that 4%, 5%, 6%. The evidence that they use to support that is that over the past five years the revenue in this particular market has increased by 6%-7% for the past five years.

Now, you obviously don’t wanna base your assumptions on the broker’s proforma, and you shouldn’t even have gotten to that point in the process yet, because if you remember, when you’re reading the OM you stop once you get to the financial analysis section… But eventually you’ll get there; or maybe you snuck a peek anyways and you saw that they claimed a 6% revenue growth each year in their proforma, based on the market average. Well, you don’t wanna do that, because there’s no reason to believe that the next five years are gonna be the same as the previous five years. Sure, rents have exploded the past 6-7 years by 6%-7%, but there’s no guarantee that that’s gonna continue to happen… So you wanna be conservative and work with the smaller 2%-3%. If the rents to continue to grow by 6%-7% each year, then that’s more money in your pocket. But if they don’t, and they only grow a few percentage points, or God forbid they don’t grow at all or they go down, then you’re not gonna be that far off your projections as you would have been if you’ve used that market average.

Same thing for expense growth – they might say that the expenses haven’t grown in five years, so you can assume 0%. Well, similarly to the revenue growth, there’s no reason to believe the next five years are gonna be the same as the previous five years. If the expenses do grow by 0%, then more money in your pocket. But if they grow by 2%, 3% or 4%, then your projections are on the money or they are just slightly off, but not off by 4%, 5%, 6%.

Next are going to be what I call Project Assumptions, but essentially you want to input how long you expect the renovations to take, and what your projected hold period is. The reason you wanna determine the projected renovation timeline is because renovating 100 units over 12 months, as opposed to 18 months or 24 months are going to have different net operating incomes, because the income is gonna be different. So if I tell myself, “Okay, well once I renovate all 100 units, I get a $10 premium, so I’ll have a $1,000 extra per month”, well how soon are you gonna have that extra $1,000 per month? Is it gonna be after 12 months, 24 months, 18 months? So how long it takes to get that $1,000 per month is going to affect your returns. The faster you get the renovations done, the higher your returns are gonna be for the project.

Now, keep in mind that just because renovating all the units in 12 months give you the best returns doesn’t mean that’s actually true. For example, number one, you wanna determine “Can your management company or whoever is doing the renovations do them that fast?” Is it possible for them to do – in our example, if you wanna get 100 units done in a year, can they do 9 to 10 units per month? Is that even possible? Is that possible based off of the leasing situation? Are there enough leases expiring within the first month and two months and three months to do all renovations, or are all the leases 12 months, and the first lease doesn’t expire for eight months? Well, it’s impossible to do them all in 12 months, because you can’t kick people out of their units just to renovate them.

Now, there are strategies that we’ve discussed before, but technically speaking, you are not able to end the lease of an inherited tenant just because you wanna go in there and renovate their unit and make more money; there’s protections in place, so you’ll have to wait until the end of their lease to renovate their unit. Also, you wanna determine how much it’s going to cost in order to do the renovations at that expedited pace.

I had a conversation with a management company today who said that the most amount of units they’ve renovated in a month was 40, which is insanely high… Because I mentioned that we’d like to do 10-15 per month; he goes, “Well, it’s possible, but if you only plan on doing a few per month, then we can have our in-house maintenance team do those renovations… But if you wanna do 40 per month, then we’re gonna have to hire multiple outside general contractors, and we’re gonna have to manage all those people, so we’re gonna charge you 5% to 10% of that overall construction budget.” Well, maybe if I did it over 18 months I wouldn’t have to pay that extra 5% to 10%. Paying that extra 5% to 10% in 12 months kind of eliminates the benefits of doing it so quickly.

So there’s lots of moving parts… Essentially, you wanna determine 1) what rate can your property management company do the renovations, or whoever is doing the renovations, and how much money are they gonna charge you? Is it even possible to do renovations at that rate, based off of the leases?

The other project assumption is going to be the project hold period. The reason why you wanna know the hold period is 1) it’s going to impact your internal rate of return. The internal rate of return is essentially a time value of money. If you invest $100 with me, and I give you your $100 back in a year, then the IRR is gonna be higher than if I give you $100 back in three years, because in three years that $100 is gonna be worth less than it would be a year from now.

So if  you are having a five-year hold, then the IRR is not necessarily gonna be higher, but it’ll be different than it would be if you did a seven-year hold, or a ten-year hold, depending on the business plan… Plus, the way you have your cashflow calculator set up formula-wise, you’re gonna need to tell it “Hey, this is when I plan on selling the property”, so that it can pull the sales price using the year five, year seven, year ten net operating income. So if my projected hold period is five years, then when I set my disposition assumptions the cashflow calculator will assume that I’m selling at five years… So when I input what I think the exit cap rate is going to be, it’ll determine what the sales price will be based on the net operating income at five years, or at seven years, or at ten years.

Now, the next set of assumptions are essentially the meat of the cashflow calculator, and this is where you make and break your deal; this is where you make your money. Those are the stabilized income assumptions and the stabilized expense assumptions. Then the last one that we’ll discuss are the debt assumptions. Once we’ve gotten all the three remaining assumptions done, we will discuss how to set your offer price, and discuss the remaining two steps of the underwriting process, which is gonna be the rental comps, and then visiting the property in person.

We’re gonna stop there for today and we’ll start off next week with the income and the expense assumptions, and finish off the step four of the underwriting process, and then get as far as we can with steps five through seven… And if we have to, we will go to part seven and eight to finish off this series. Because again, underwriting is super-important, and this is where you determine if a deal makes sense to invest in or not… And underwriting then is where you’re going to either make your investors money, or lose your investors money.

Until then, I recommend listening to the first parts of this series, parts one through three. Check out some of the other Syndication School series we’ve done so far, and download your simplified cashflow calculator. All of those are available at Thank you for listening, and I will talk to you tomorrow on Follow Along Friday.

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