Capital Expenditure (Cap Ex) Analysis & Survey by J Martin

1. Capital Expenditure (Cap Ex) Analysis & Surveyby J Martin • Analysis & Survey performed by J Martin • Surveyed several local investors about their Cap Ex Estimates • Performed “Reserve Study” on 4plex & SFR I own in Bay Area – • more to come on other 4plex, SFR, & Duplex • Get file to try yourself here & let me know! • http://www.meetup.com/REmeetup/files/ • All data believed to be reliable, but not guaranteed. • Due your own due diligence.

2. WHAT IS CAP EX? • MY Definition – Longer Term Expenses NOT in Maint. & Turnover • Tend to be replaced at least every 5 years or so – but up to 30-40 years.. • Portion NOT included already in maintenance & turnover • E.g., I include paint touch-up in turnover, but interior re-paint in Cap Ex • Why does it exist? STUFF gets OLD! • Buildings are made of organic materials! They are exposed to: • Heat, Cold, Water, Wind, Rain (& Worse!), Moisture, Bugs, Time, &…. TENANTS! • Roof, siding, paint (in & out), wood trim, occasional wood rot, gutters, appliances, flooring, cabinets, bathrooms, etc. • …all get worn out and replaced over time!

3. WHY SHOULD I CARE? • Understand long-term holding costs of physical Real Estate • Long-term income & expense budgeting • Some “reserves” planning – how much should I save on average? • Understand how old major systems / items are in subject property • Should you have more reserves for this home? • Negotiate a discount? • Rehab all now, or over time? • Identify biggest long-term costs & mitigate – TAKE ACTION! • Help decide when to buy or sell?? • If people are over-paying for old homes needing care, do you sell? • If people under-estimate the value of new construction, do you buy?

4. WHAT THIS IS AND IS NOT • IS – A long-term estimate of average expenses – “another tool” • IS – A tool to help identify largest long-term costs • IS – Another method to help take action or adjust strategy based on ascertainable data • CAN – Be customized to fit your needs / property • IS NOT – An estimate of the exact timing of replacing any item • IS NOT – Intended to be used to estimate reserves – explicitly • IS NOT – An estimate of cash spent over exactly any period • DOES NOT – Adjust for inflation or estimate returns on reserves

5. WHAT IS EVERYONE ELSE DOING? • I’ve heard… • $1K/Unit/Yr? (My detailed estimate was about double that!) • 10% of rents? (Depends where you invest!) • 2% of purchase price? • $1-2/sqft? • Reserve Study? What about.. • Single Family (SFR) vs Multifamily? (MF) • Low rents out of state?.. Vs high rents in the Bay? • Low-end vs High-end areas/units? • Size of building or each unit? • How do all these contribute to how I estimate my Cap Ex?

6. My Reserve Study - Results

7. MOST COMMON ESTIMATES • From active local investors I know • 10% of rents • $500 - $1,000 per unit per year is most common estimate • Why? • Saw multifamily estimate in that range, historical experience, other investors • How is it quoted? • Usually, as % of rents • But let’s separate the best way to estimate it from the way it is compared! • % of rents are informative comparison – but sometimes poor estimate…

8. WHAT VARIABLES IMPACT CAP EX COSTS? • Size of units (3k sqft SFH vs 900 sqft house) • I found my largest long-term costs were driven by size: interior paint, flooring, water damage, roof. The more “stuff” there is to take care of, the more it costs to replace • What type of Labor you use (GC? Handyman? Yourself? *not free!) • This can easily double the cost in my area from GC to handyman. That is huge. #1? • Cost of Labor in your area (SF labor costs more than Ohio) • I estimate this could vary by 25-100%+ from Ohio to SF • Quality of finishes & finish work – (high end or low end?) • This can increase the cost of finish materials by 30-300%+ & some higher labor

9. VARIABLES IMPACTING CAP EX (CONT..) • Type & # of units w/ shared systems – • e.g., Large MF w/ shared costs • I used to think this was a bigger impact, but how much does increased interior replacements in large MF offset savings from shared systems? (not 50%+ cost difference like earlier items, especially after utilities..) • Durability of finishes – (e.g., pressed-board cabinets? Or real wood?) • Weather – (e.g., TX investor said 10yr for new roof b/c hail & wind!) • Wear from tenants – (2 tenants who treat like home; or 5 like renters?)

10. WHAT ESTIMATE IS BEST? • It depends! (The one that fits your circumstances!) • % of rents is most commonly quoted – best estimate? • How closely are rent levels associated with Cap Ex costs? • How much do these vary by region? • What does this have to do with the physical “stuff” that has to be replaced?

11. THIS STUDY – RE CHARACTERISTICS • Units are in mid-lower-end areas of Richmond and Oakland, CA • Units are remodeled nicer than most in area • Basic (think Home Depot) finishes • Work performed at about $20-25/hr (usually not GC, or increase) • ~ 900 sqft, 2br/1ba SFR in Richmond; 1 story; 50+ yrs old • ~3,600 sqft, 3x2br/1ba; 1x3br/2ba in East Oakland; 2 stories; 50+

12. My Reserve Study - Results

13. WHAT WERE MY BIGGEST CAP EX EXPENSES? • Biggest Expenses over 30 years were..? • Roof? (Hint: My 2 biggest items were 6x higher than the roof on one!) • Exterior Paint? (Hint: Not this one, but a relative of it!) • Hot Water Heaters? (Hint: These really aren’t that bad!) • Appliances? (Hint: Still not there!) • They weren’t even what you would normally think of as Cap Ex!

14. FINDINGS FROM MY STUDY • My biggest Cap Ex expenses… Weren’t even Cap Ex expenses! • (in how most people think of Cap Ex Expenses) • Biggest 30yr Costs were not roofs, exterior paint, & appliances • The semi-frequent (but not normal turnover costs) were biggest! • #1 – Flooring! Even at $2/sqft installed, the 8yr est. useful life & sqft • #2 – Repainting Interior! Even w/ handyman, every 5yrs adds up! • #3 – Other Wood Damage - $2k every 5 years. Is this too much? • #4 – Kitchen Cabinets & Counters! Every 12 yrs, still a chunk!

15. FINDINGS FROM MY STUDY- SFR

16. SAMPLE OF MY DATA - SFR

17. SAMPLE OF MY DATA – 4plex

18. FAQ • I’m not holding my house that long. Why should I care? • Can you sell it to the next sucker who doesn’t care how old or how much it costs to replace? (More so during hot market than a down market) • Who knows what I’ll have to replace & when? This is just a WAG?! • That may be true for a single set of cabinets, flooring, or roof. • But the more properties you have, the more you will regularly be replacing major items at average intervals • I have plenty of money. Why should I care how often I have Cap Ex? • Understanding your major costs, frequency, etc can help you mitigate large costs (e.g., longer-lasting materials), negotiate discounts, alter strategy, etc..

19. General Take-Aways • Use a Cap Ex estimate that makes sense for your circumstances • Some average costs can be estimated over a long period if the time is taken to get realistic cost information for individual property. • Don’t confuse a good method of comparison (like % of rents) with a method of estimation (like $/sqft or /unit costs) • Floors, Interior Painting, & Kitchens can cost more than Roofs, exterior paint, & appliances over the long term! • Consider ways to mitigate these costs, such as durable flooring; durable, easy-to-clean & hard-to-notice-errors paint & color; tenant wear & deposits; • Surprised there weren’t more savings for 4plex vs SFR!

20. Personal Take-Aways • Helped me understand long-term costs (& more precise costs for props) • & ACTION STEPS TO IMPROVE!! • Evaluate more durable flooring • Vinyl? • Hardwood? • Evaluate better paint (lasts better, longer); colors (hard to notice dirt, smudges, but stylish); sheen (something that cleans easily but looks good) • Negotiate bulk discounts on replacement of major items & coordinate • Evaluate more durable items vs cost across the board • Consider day labor for easier jobs

21. My Reserve Study - Results

22. J Martin. I BUY HOUSES, 2-4, Multifamilyjmartin@jtmreg.com . 510-863-1190. CALL ME! EMAIL ME! • More analysis to come • Sign up for my RE meetup group in SF & Oakland! Come meet investors!:http://www.meetup.com/REmeetup/ • Sign up for updates on my weekend-long RE Networking Summit:http://www.meetup.com/Real-Estate-Networking-Summits-REmeetup-com/ • Check me out on Bigger Pockets (& vote if you like my stuff ;)http://www.biggerpockets.com/forums/88/topics/198276-capital-expenditure-costs-a-case-study-on-sfr-and-4plex---what-do-you-use