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  • GRM Vs. CAP rate – What I Prefer

    In real estate people are always asking how much does this cost, or did I get a good deal. Most experienced real estate investors can determine the value of something very quickly by using. Every investor has their own strategy and I could not name them all here, however the two main ones that people look at are usually GRM or Gross Rent Multiplier and CAP rate or Capitalization rate. Gross rent multiplier determines the value of the building by a simple equation Cost of the building/yearly rent. Capitalization rate is also a simple equation Cost of the building /net operating income. They each have their pros and cons. I prefer to use GRM but will never ignore the CAP rate.

    The main reason that I prefer the GRM valuation method is I do not like to trust other people’s numbers. A CAP rate valuation deals with the historical cost numbers associated with managing the building. I don’t trust the old owners of a building because they are trying to sell it and generally speaking will do or say anything to make the building look better than it is. Some of the things factored into cap rate are on site managers, gardeners, utility bill, insurance, pest control. All of these things can be negotiated, and a strong manager should be able to increase the cap rate by negotiating all of these costs, becoming energy efficient, and so many other things.

    A GRM valuation however just requires you to find out what the current rent is in the building and what the market rent is. Market rent is really easy to determine these days with all of the websites out there that use aggregate data of all available listings in the area. Using these sites you can determine the fair market value rent in a matter of minutes. I like the GRM valuation because there is no way to fudge the numbers. The leases that have been signed on the building have a rent amount on them, and any empty units you can determine the market rent very quickly. My partners and I use this valuation because we can very quickly look at a real estate deal and determine whether the property has potential for increasing value or potential to keep in our portfolio. A good quick example is a neighborhood where the average apartment complex sells at 10GRM. If the building makes 100k a year, you can quickly determine that the value of the building is currently 1M. If the area is a 12 GRM then the building should be worth 1.2M.

    Selling real estate is usually facilitated by a real estate agent. Unfortunately for investors your average real estate agents are not too familiar with investing unless they have done investing themselves. I would never work with an agent who is not extremely familiar with these principles of valuation. Don’t let them say the comps or price per square foot. While these are valuable tools they never paint the whole picture like a GRM valuation or CAP rate valuation do.

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