Apertura.com asked Mariano Capellino, in his new article, how to obtain sustained profitability over the time by investing in real property.
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How to obtain sustained profitability over the time by investing in real property
Argentinians are used to investing in real property. Many specialists say that this happens as a consequence of lack of financial instruments in the market. Another view is related to the financial crisis experienced in 2001/2002 when deposits were turned into pesos (pesification), thus boosting the real estate market as never before. Today, for medium and large investors, property is one of the favorite alternatives.
But, how to invest in real estate? What should be done in order to obtain sustained profitability over the time? Let´s see how sophisticated funds and large investors putting millions of US dollars in real property think and act. According to Mariano Capellino, co-founder and CEO of INMSA, a company providing consultancy services to funds and important real estate investors, there are several keys to success.
First, a proper evaluation must be conducted and the best place must be selected (country, city and neighborhood) as well as the type of asset (residential, commercial, industrial, urban lands, etc.) and the asset class (A, B and C). You must be ready to move from one market to another when there is a downward trend in the rate of return, as it has been proved that it is very difficult to repeat in the near future a recently successful experience with a certain market and asset.
At the same time, it is essential to understand the legal framework of the market, regulations as to the inflow and outflow of currency, succession and tax-related issues and the access to financing systems.
It is important to establish the risk profile of the investor so that it can be linked to the risk involved in the different markets and assets. When you choose a market and asset in the right cycle, the risk of capital loss is almost null, but there will be uncertainty as to the future fund flows (inflows-outflows) while holding the asset.
Then, it is necessary to evaluate, select and negotiate a large number of assets to make sure that you will purchase those which can generate the highest benefits today and in the future. It is necessary to estimate and project the profitability which can be generated by each of them, based on the following variables:
- a) Discount upon purchase, in relation to the market value: to obtain discounts between 15/20% in relation to the current value of an asset, a sophisticated operation is required, having access to the acquisition of assets from banks, auctions and trustees and by financing developers. Also, it is required to estimate the costs involved when repairing or restoring assets for sale or rental purposes, if applicable.
- b) Project future profitability through value recovery: when entering a market which has experienced strong declines, it is essential to conduct a projection of the annual rate of value recovery taking into account the value and time necessary to achieve it.
- c) Project future profitability from rentals: this is a very important estimation for assets which will be kept in portfolio, and it will be necessary to analyze the current values of rentals of similar assets and the period of time the asset can be rented, based on current vacancy levels and establishing the price strategy to be implemented.
With these 3 variables, the total profitability can be estimated and the most convenient sale strategy for your asset can be defined. Their combination and the estimated term during which the asset will be kept in portfolio will determine the estimated annual profitability to be obtained.
As to the definition of the asset sale strategy, we recommend separating the benefit (discount) obtained upon purchase, from that obtained due to value recovery and rental income. We suggest adopting 3 possible sale strategies:
- a) Quick exit (within the same year) if the net asset value recovery rate plus the rate of return from rental operations are under the expected annual profitability.
- b) Exit in the short term (1 to 2 years) if the net asset value recovery rate plus the rental rate exceed the expected annual profitability and it is estimated that these rates will be reduced in the short/medium term.
- c) Exit in the mid-term (3 to 5 years) if the net asset value recovery rate plus the rental rate exceed the expected annual profitability and it is estimated that these rates will be maintained and/or increased in the short- or medium-term.
Finally, there is the efficient administration of the asset, including among others, technical and legal inspections of assets, their appraisals, estimates of costs and terms for initial repairs, calculation of delinquency levels and responsiveness of tenants and compliance with the payment, in due time, of all the obligations derived from the asset (taxes, insurance, building expenses, commissions, administration fees, etc.)
Also, legal, tax, financial, accounting and commercial administration is included at this level as well as the follow-up and comparison of the results obtained versus those projected for the investment and compliance with exit strategies (sale) previously defined for the assets.
Each day an asset is not in good condition to be sold or rented or, even when being in good condition but without generating any operation, some loss is produced in the return of investment.