Frank Gallinelli - Mastering Real Estate Investment: Examples, Metrics and Case Studies

Mastering

Real Estate

Investment

Examples, Metrics and CaseStudies

Frank Gallinelli

RealData, Inc.

Southport, CT

Copyright 2008 by RealData Inc.,Southport, CT and Frank Gallinelli. All rights reserved. Publishedby RealData, Inc. RealData is a registered trademark of RealData,Inc.

Smashwords Edition

612-102

ISBN 9780981813820

Except as permitted under the United StatesCopyright Act of 1976, no part of this publication may bereproduced or redistributed in any form or by any means, includingelectronic, photocopying, scanning or otherwise, or stored in aretrieval system, without the prior written permission of thepublisher.

This publication is designed to provideaccurate and authoritative information in regard to the subjectmatter covered. It is sold with the understanding that neither theauthor nor the publisher is engaged in rendering legal, accounting,futures/securities trading, financial, investment, or otherprofessional services. If legal or investment advice or otherexpert assistance is required, the services of a competentprofessional person should be sought.

The persons, places, properties, examplesand case studies used in this book are entirely fictitious. Anysimilarity to real people, places or properties iscoincidental.

CONTENTS

Part One: 37 Key Real Estate Measures Examples andMetrics

Chapter 1: Simple Interest

Chapter 2: Compound Interest

Chapter 3: Rule of 72s

Chapter 4: Present Value of a Future CashFlow

Chapter 5: Gross Rent Multiplier

Chapter 6: Gross Scheduled Income (Potential GrossIncome)

Chapter 7: Vacancy and Credit LossAllowance

Chapter 8: Gross Operating Income (Effective GrossIncome)

Chapter 9: Net Operating Income

Chapter 10: Capitalization Rate

Chapter 11: Net Income Multiplier

Chapter 12: Taxable Income

Chapter 13: Cash Flow

Chapter 14: Cash-on-Cash Return

Chapter 15: Sale Proceeds

Chapter 16: Discounted Cash Flow

Chapter 17: Net Present Value

Chapter 18: Profitability Index

Chapter 19: Internal Rate of Return

Chapter 20: Price, Income, and Expenses perUnit

Chapter 21: Price, Income, and Expenses per SquareFoot

Chapter 22: Operating Expense Ratio

Chapter 23: Debt Coverage Ratio

Chapter 24: Break-Even Ratio

Chapter 25: Return on Equity

Chapter 26: Loan-to-Value Ratio

Chapter 27: Points

Chapter 28: Mortgage Payment / MortgageConstant

Chapter 29: Principal Balance / BalloonPayment

Chapter 30: Principal and Interest perPeriod

Chapter 31: Maximum Loan Amount

Chapter 32: Assessed Value, Property Taxes, and ValueIndicated by Assessment

Chapter 33: Adjusted Basis

Chapter 34: Depreciation

Chapter 35: Gain on Sale

Chapter 36: Land Measurements

Chapter 37: Building Measurements

Part Two: Case Studies

Chapter 38: The Single-Family House

Chapter 39: The Single Family,Redeveloped

Chapter 40: The Apartment Complex

Chapter 41: The Shopping Center

W hen I finishedwriting What Every Real Estate Investor Needs to Know About CashFlow (McGraw-Hill, 2004, 2008), my first official act was tolower my expectations for its success. Really, who is going to curlup by the fire with a book that is filled with numbers andformulas?

To my surprise, and even greater delight, alot of people seem to have done exactly that. As I write this, ithas been almost five years since the release of the book, and itsstill going strong. My goal was to stay completely away from themotivational, get-rich-quick hype that causes bookstore shelves tosag, and instead focus on teaching how income-property investmentsreally work. How do you run the numbers to decide if the propertyin front of you might turn out to be a successful investment or adud?

Since the publication of that book Ive beenfortunate to receive quite a number of emails with questions,comments and suggestions, and it is from my dialog with readersthat this new book has emerged. In short, you asked for a lot moreexamples, practice exercises and case studies with which you couldsharpen your analytical skills. So here they are.

Ive divided this book into two sections. Inthe first, I revisit the 37 key measures I described in the CashFlow book. My approach in this section may provoke flashbacksto your childhood piano teacher, but my purpose is to provide youwith mastery exercises. These chapters are filled with sampleproblems and solutions illustrating each of those 37 measures andgiving you opportunities to practice them. If, as my titlesuggests, you are going to master real estate investment, you mustfirst master these key measures.

In the second section of the book I focusmore on how actually to analyze real estate investments. I startwith what may be the smallest though potentially problematic ofproperty investments, the single-family home. From there I work myway up the food chain, to a renovation project, an apartmentbuilding, and finally a small shopping center.

My goal in these case studies is to show youhow to build and interpret pro-forma projections of each propertyspotential future performance. To do so, I frequently display theoutput of software produced by my company, RealData (http://). Fromtime to time, I edit the output of those programs so what you seeon the page focuses strictly on the issues in the case study.

You dont necessarily have to use mycompanys software to analyze the sample properties. Be aware,however, that if you use some other software this book mayspontaneously combust. If you have an ample supply of pencils andcalculator batteries, you could even run the numbers manually.

I also provide a website http://www.realdata.com/book where you may download free toolsthat can help you when you need to do something like a mortgagecalculation or a simple Discounted Cash Flow.

Its not really my purpose in this secondsection, however, to teach you how to use any particular softwarepackage or even how to figure the projections by hand. Whats moreimportant is that you start to develop a feel for how you shouldapproach these analyses, how to look for the important clues, andhow to make some sense of the numbers.

Real estate is a competitive business.Success in real estate or in anything worthwhile is notautomatic or guaranteed. I believe, however, that if you take thematerial in this book to heart, youll develop a sound andanalytical approach to your investing. Its an approach thatrequires some effort, discipline and commitment, but one that willhelp you make the best and most informed investment choices.

Frank Gallinelli

S imple interest isexactly that: simple. You apply the rate of interest always to theoriginal principal amount only. Contrast this to the concept in thenext chapter, compound interest.

You can calculate the interest with thefirst formula below; or, by using the second formula, you canfigure the total to which a starting amount of principal grows.

Interest = Principal x Rate x Time

Amount = Principal x [1 + (Rate x Time)]

Problem 1-1:

You invest $5,000 at 5% annual simpleinterest for 5 years. At the end of the term, how much interesthave you earned in dollars?

Problem 1-2:

You loan $3,750 to your best friend. Soonyou will be looking for a new best friend. In the meantime, he willbe obliged to give you simple interest only, at 12% per annum,payable on a monthly basis. How much do you expect him to pay eachyear?

Problem 1-3:

You borrow $6,250 from your mother-in-law.She never liked you all that much anyway, so the interest rate is16% per annum, payable quarterly. Your payments are simple interestonly and your first payment is due September 1. How much interestwill you have paid (on a cash basis) by the end of the firstcalendar year (i.e., by December 31)?