Sunday, February 24, 2013

Valuation - Understand Your Asset Before Buying

Valuation and the clear understanding of how this pertains to your asset is a fundamental requirement BEFORE buying.  Many people know this concept, but many also do not understand how to determine this to the best of their ability.

As was said before, confirmation of value is the responsibility of the Buyer and not the Seller.  Sellers motivation and Buyers motivations are clearly different, so it is clear that the Buyer must have a clear understanding of value.  When considering an acquisition that you simply wish to flip or rehab and flip, you must buy low enough to allow a reasonable profit.  However, what is typically missed in this course of events is how to value a property for purchase.

Let's consider some methods to help arrive at a value:  

1) You can go to websites like Zillow, eppraisal, or Trulia etc.  In fact there are many of these websites.  However, as seasoned investors know, you cannot determine the value of a property through some simple or complex mathematical algorithm.  This is simply not reality.  Those investors that take these valuations from these websites as law will eventually get into trouble and could be subject to significant losses as a result of believing these numbers.  Truly, I do not intend to put these sites down for providing this "data", however I do want to make it clear that it is in my opinion a negative for new investors because they are first, taking an algorithm's word for valuation and second, they are relying on a third party that has likely never walked through the property, understood the neighborhood dynamics, or noted any other affecting issues that would impact value.  These as a whole may point one in the wrong direction on a property.  This is why it is extremely important to have a feel for comparable sales in the area and then understand the condition of the property relative to these comps.  Only then can you have a good gauge of value and thus be able to make the difference between a good and a bad acquisition.  Website "value" numbers such as those on Zillow, eappraisal, Trulia etc. may serve as a basis only at the very best but in many instances do not even provide a basis.  Being in tune and fully aware of what properties are worth in your target market is crucial to you as an investor.

2) You can get comps from a Realtor or Licensed Appraiser.  These could cost you money or they may not.  Depending on how cooperative a relationship you have with one of these professionals can make the difference between having good or bad information.  Ideally, one should go to a Licensed Appraiser to pull comps.  The reason is that Realtors are motivated by commission whereas Appraisers are not.  I am not suggesting that Realtors may steer you wrong, only that to avoid such a possibility, it's best to go to an Appraiser to pull comps, especially in this continuing volatile marketplace.

3) Once you understand the condition of the property you are looking to acquire, after physically walking through or having someone you trust do the same,  have comps in hand and a good understanding of the neighborhood and potential future impacts in the area, you are then armed with information that will help you determine value.

As simple as it may sound at this point, picking a proposed market value based on the knowledge you've acquired, you simply subtract the cost of acquisition and cost of repairs to arrive at your maximum profit.  Of course, do not expect the maximum as there will be marketing costs to consider as well as negotiation downward from your Buyers as they have the objective of buying as low as possible contrary to your objective of getting the most out of the property.  If you follow these simple guidelines and build yourself a good "pad", you will make money and very much lower your probability of a potential loss financially.

Until next time.........