The process of analyzing real estate deals did not come easily even to the top real estate investors in the market. As a beginner, you will have to attend a few open houses, look up a few investment properties for sale online, and perform a real estate investment analysis before you get to the perfect property deal for you. Sure enough, after a while, you’ll be able to sense a good real estate deal from a distance.
1. Conduct Location Analysis
First things first. I can’t possibly start teaching you how to analyze real estate deals without talking about location. In fact, this is where your first step to success starts. In terms of location, there are two main steps:
First: You pick a location
Of course, this step is based on your investment goals. However, the dilemma for most real estate investors is whether to invest locally or go with out-of-state real estate investing. For each option, there are pros and cons.
Second: You start analyzing
This step is all about the real estate market analysis. What it means is that you must look into the housing market in your area of choice.
You look for appreciation rates, rental demand, and the rental strategy that the market supports the best. Moreover, it means that you will have to look into the market trends which took place in the past and are expected to take place in the future. For this, you’ll need access to predictive analytics and other types of real estate data.
2. Calculate Cash Flow
After you’ve analyzed the location and made sure it is profitable, it is time to move on to the investment property analysis.
You’ll have to set criteria for the investment property you want (neighborhood location, property type, number of bedrooms, etc.) and make a list of a few of those that are for sale and then perform a cash flow analysis on each one.
But how to analyze real estate deals through cash flow?
The easiest way to define cash flow is to say that it is the rental income minus all property expenses. So, if we were talking about a rental property that generates Kshs 100,000 in monthly rental income, then the cash flow is that amount minus any bills and expenses you pay on a regular and irregular basis.
Now, why bother performing cash flow analysis? Because positive cash flow means that you are making money even after deducting all property expenses. A negative cash flow, on the other hand, means that you’re losing money which you want to avoid.
What else affects a property’s cash flow?
The rental occupancy rate is one consideration you must keep in mind when learning how to analyze real estate deals. It refers to the percentage of days/ year your rental property is occupied- the higher, the better. Understand that this evaluation aspect has a huge impact on the cash flow and the return on investment in general. How can you find a reliable occupation rate estimate?
Stop asking how to find real estate deals with positive cash flow and start finding a good deal!
3. Analyze the Capitalization Rate
The next step in how to analyze real estate deals is to assess the capitalization rate. After you’ve computed the cash flow, you multiply it by 12 to get the net operating income (NOI). You take that value and divide it by the property price. The percentage you are left with is the return on an investment relative to the overall property price on an annual basis. To learn if the number you get makes for a good real estate deal.
4. Analyze the Cash on Cash Return
After you are done with the cap rate, you go straight to analyzing the cash on cash return. The major difference here is that you need to divide the net operating income by the amount of money you paid in cash. In other words, investment property financing is excluded from the formula.
Now, the cash on cash return is best for beginner real estate investors for various reasons. First of all, it is a very simple formula and is easy to understand. It is also a quick way to assess a real estate deal to get a general idea of its potential. Finally, it assists a real estate investor with their financial leverage choices.
5. Run a CMA (Comparative Market Analysis)
A CMA is very important for a beginner when he/she is trying to learn how to analyze real estate deals. The process is based on a comparison between your property of choice and other similar properties which were sold in that same neighborhood (real estate comps).
This process is important for real estate investors because it looks into the property price. First of all, it helps them avoid overpriced real estate. You can even perform a comparative market analysis to find below market value properties which can make for a great real estate investment. Finally, it assists them in understanding the market better by examining other property transactions.
