Are you finding a way to enhance your level of real estate investments? Fasten up because we are going to reveal tactics for real estate investors to make the power moves. Those old real estate strategies are no longer generating risk returns. Now is the time to enter into the period of “Value-add Strategies”.
Let us tell you clearly that to become successful you just do not have to focus on the location, location, and location only.
Are you wondering what it is then?
Well, it is about innovation, renovation, as well as transformation. This guide explores how ordinary investors have changed the game to become real estate dynamos.
Get set to soup up your investments and discover the secret possibilities in properties.
If we look back over 10 to 20 years, the real estate investors were only those who had pension funds, and sovereign wealth funds, as well as those who hinged on real estate as their core source of income and returns. For instance, those real estate investors were only making investments in the buildings that were a goldmine for them and their banks. For instance, the investments were mainly in the big fast food joints and other well-established businesses. Also, investments in the long leases of more than 2 decades in the core locations like New York, London, and Tokyo, are some of the popular names. It is pointless to say these in the main sectors of retail and offices.
Nonetheless, the real estate markets went through a rollercoaster over the past 20 years, and precisely, they are now institutionalised. For instance, professional real estate investors have now taken a step in this market to get more risk-adjusted returns as compared to bonds or stocks. With the increasing trend of Financialization of real estate assets, investors now are focusing and prioritising those that are much higher in the risk and return range which is known as “Value-add Real Estate Investments”.
Have a look at the graph below which shows types of investments that real estate investors make for risk-return outlines.
A real estate purchase that doesn't add value is generally one that isn't working at its best. This means that the asset needs to be repositioned in some way, which we will talk about later so that its value and rental income go up. This will make it more valuable for both the present owner and a potential buyer. These types of investments can be capital-intensive or labour-intensive, but they can be both as well. They can be small, like replacing furniture and changing the plan, or big, like expanding the property or changing its use, which will require a lot of money to be spent on capital. While core and core plus investments are safer, value-add investments are riskier, so they offer high returns on investment (ROI).
To get a value-added investment, you should know about the market because the results rely on the macroeconomic forces that you would not be able to change or control. Those forces include growing lease terms, growing floor plates, lowering vacancy rates, and other value-adding tactics that make properties worth higher and bring in more cash. There are some investments that add value to those that give you 10 to 20 percent of returns. When investors make such purchases, they can take on more debt-to-equity risk, and the leverage amount used lies between 50 to 75 percent. The leverage can enhance the profits in such situations, even though it also enhances the risk chances.
When you add value to a rental property, costs like repairs and upkeep go down because they don't happen as often or at all. This means that the property makes more money overall. Instead of the core or core plus properties, this makes the value-add investment's NOI (Net Operating Income) higher. This means that the owner gets a higher return on their investment (ROI) compared to core investments. Some investors sell the property right away after fixing it up or hold on to it when the market is going down and sell it when it goes back up. This helps the investors make more money.
Value-add investing focuses on properties that require improvements which means investors choosing this type of investment want to acquire medium to high leverage to finance the project as per its size. The used debt goes up as the growth amount goes up, and ultimately the risk goes up too. If the owner is unable to do what they are planning to do to make the property valuable, they need to pay more for that and sell it in less than the planned amount.
On the other hand, empty costs can occur while remodeling or building is going on. This is the lack of renter income that could have been made while the house was being built or fixed up, which is likely to have an effect on the cash flow. It can take up to several months or a year after completing the project before positive cash flow can be taken in.
A lot like value investing in stocks, value-add real estate methods focus on finding the property's true value and using active management to unlock profits. So, investors will focus on spreading their money around and making more money by:
There are two ways to increase the value of any investment in real estate. The first choice is the market or natural growth. The investors invest in a market that is rising swiftly and has quite a high job rate, population growth, and good net migration rate. If you invest in such markets, your property will ultimately go up in value, which means you get more chances to raise rents to cope with the market. The vital thing to this approach is finding markets that are not performing well but they have good demand and supply patterns. Such markets should be sold by sellers who do not have enough money to fix their problems and do not think the market situation can improve.
An active management approach lets owners raise the value of a property without having to wait for the market to go up in value. Depending on the situation, this could mean improving the operations (for example, making the building less vacant) or adding services. It could also mean moving or changing the use (for example, from office to residential). Investors will be able to raise the rent because of these changes to the building's look and functionality. The higher rental income will show up in the business's net operating income (NOI). It is assumed that as the NOI goes up, the value of the property will also go up, which will cause the return of the asset in question to go down. Below is a picture of the range of risks that come with the different active management methods for Value-Add Strategies:
Choosing this approach will assist real estate investors in achieving the best debt-to-equity capital structure so their amount of debt does not take them into a financial crisis. By merging debt and equity, it will lower the capital cost as well.
This guide discussed the concept of real estate value strategies and they include in the range of risk and return. Value-adding investments is a convincing strategy because more real estate investors look at the real estate markets for diversification among bonds and stocks. In fact, it potentially improves the risk-adjusting returns. Also, we have clearly shown the strategies for adding value to real estate investments that have higher knowledge regarding underperforming locations. As a result, it leads to market appreciation, active management, and optimising capital structure. Connect with Cambridge Finance for detailed insights on Value-add strategies to boost the game for real estate investors.