One dollar is worth fifteen

The following except was provided in a recent newsletter from John Temple, President of 1031 Property Watch. I felt the content was important and wanted to include it in our blog. He graciously agreed to allow us to repost it. John writes,

I just returned from a strategic planning meeting with the Tenant-in-Common Association (TICA) Board of Directors. It should come as no real surprise that the effects of the credit crisis that started in the second quarter of 2006 are being felt throughout the industry. Arguably, this real estate correction will take some time to work itself out. In the past 60 days prices have softened to the point where the average cap rate has risen 60 basis points, from 6.20% to 6.80%. This is good news for real estate buyers; however finding value will still require a sharp pencil and an experienced eye as prices continue to correct.

The market is also getting back to real estate basics. Properties are no longer being valued based upon speculative assumptions, but rather through predictable increases in net operating income (NOI). Solid increases in NOI will keep real estate performing over the next few years. I believe it will not only bridge this market correction, but is how a disciplined investor should invest over the long term.

Let me give you an example of how increasing the NOI can add value over time. Let’s say that a given property has an annual rent increase of 2%, for a total of 20% over ten years. Given a cap rate of 6.67%, a $1 dollar increase in net operating income will increase the value of the property by approximately $15. So if your property has an NOI of $100,000 and a rent increase of 2%, in ten years the value of your property would raise from $1.5 million to $1.8 million. In this example, a $20,000 increase in NOI moves the price up $300,000 dollars. This explains why experienced investors look for properties that can sustain long-term occupancy and support small steady increases in net operating income.

NOI / Cap Rate = Sales Price

If you would like a more detailed article on how NOI growth works or if you want more information on how this could affect your property, please give John a call at 877-337-1031. He can also be reached at john@1031propertywatch.com.