Income is so essential to multi-family investments that without it, there is no return. The primary source of income in multi-family operations is rent. In many cases there are other smaller sources of income such as storage, laundry use and other add-on luxuries. It is great to identify additional sources of income where possible. However, without sufficient rental income, there is insufficient cash flow to cover debt service and return funds to investors. For this reason, it is critical that income is well managed in order to realize as close as possible to potential gross income. What aspects need to me managed?
Vacancy
Vacancy is costly to operations. When residents move out and the unit is not reoccupied in a timely manner, that is missed income and a decrement to potential gross income. In order to plan for the worst, astute investors know their break-even occupancy, the max vacancy that can occur and still be able to cover debt service, before going into the deal. To prepare for the best, the property should be marketed well and units should be turned around as soon as possible so that they are performing and generating income.
Loss to Lease
The difference between market rates and contract rates (what residents pay) is called loss to lease. This highlights the potential income that managers are leaving on the table by not renting to residents at the market rates. There are certain reasons for renting below market. Many property managers do so in order to quickly turnaround a unit and minimize vacancy. In fact, when deal hunting, what raises our eyebrows is when an apartment complex is advertised as 100% occupied. This usually signifies that rents are below market. One must achieve a sweet spot between minimizing vacancy and maximizing rents, where the rents are attractive enough to to quickly bring in new and qualified residents, but not too low to where too much potential income is being missed.
Concessions
Concessions are special arrangements motivate residents to move in or tent ants to stay. They could be deals such as first month’s rent being free, discounted rent, and so on. Concessions may occur for similar reasons as loss to lease, where managers want to minimize vacancy, which are costly to NOI. However, for the same reasons above, these should not be taken lightly and there must be a balance. Not to mention that making concessions for one resident may set the precedent for the expectation of doing so for others and in the future.
Each of these three elements threaten potential gross income and are critical to manage in order to get the value out of your asset. Management of these economic situations is referred to as operational value-add, there is significant wealth to be created from acquiring an asset and improving its income.
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