Crunching rental property cash flows, rates of return and profitability numbers adequately enough for investors to make prudent real estate investment decisions can be quite labor-intensive. In fact, prior to the advent of computer technology it was very time consuming because it required the analyst to manually compute and format the results manually.
Now with the advance of third-party software solutions, however, it has become common practice for investors and analysts to rely on software to do the number crunching for them. The benefit derived, of course, goes without saying: The time and effort they save by eliminating as many manual tasks as possible frees up time for them to pursue their real estate investing objective. Namely, to locate rental properties they might be able to acquire for profit.
Nonetheless, this benefit is not understood by everyone who works with rental income property and conducts a real estate analysis. Strangely, it’s not uncommon to find, despite this age of technology, investors and agents who still compute and format the results manually.
So it seemed needful to address the issue and to make a case about the benefits of using software to those of you that remain uncommitted.
Rest assured, however, that my purpose is not intended to highlight any one particular software product, but rather to get you thinking about the “concept” overall. In other words, hopefully once you consider how we conducted a real estate analysis in the “old days” you will come to more fully appreciate why software evolved, the issues it solves, and how you can benefit as a result.
The challenge to create a cash flow and rate of return analysis has been around as long as real estate investing. It’s difficult to imagine, in fact, that any investor throughout any time in history didn’t use some method to determine whether or not a property would result in a profit.
Prior to the advent of computers, of course, that process had to always be performed manually. Even as recently as the early 1990’s, for example, I was conducting a real estate analysis with a calculator in one hand and pencil and paper in the other.
Some of you remember the hardships and difficulties those of us working with income property had to resolve manually in those “early days”.
The data associated with investment real estate is the heart and soul of any real estate analysis. This goes without saying. The real estate investor must understand the financial performance of a property in order to discern its particular value.
Before computer programs, however, this presented several problems.
Foremost, especially for novices, knowing what data was required for a meaningful bottom-line was not always understood. What constitutes a rental property’s operating expenses, for instance? Or what data is needed to arrive at a property’s net operating income, cash flow, or rate of return? What must be included to make revenue projections? And so it was.
Then, of course, there was the issue of the math. Because by the same token the correct data is required, computing the numbers correctly is paramount. As a result, there was always the laborious task of checking and re-checking the numbers to ensure accuracy.
Up until computers and third-party software programs came along that process always took plenty of time and involved a lot of second-guessing.
There are a host of returns real estate investors rely upon to measure the worth of an income-producing property in order for the investor to determine how it compares to their individual investment objectives, and/or how its value stacks up to the values of similar types of property in the local market area.
As a result, investors look at returns such as cap rate, gross rent multiplier, cash-on-cash, internal rate of return, and numerous others. Some of these returns require just simple math that can almost be computed in one’s head. But there are also many returns far more complex. For instance, rates of return associated with the elements of tax shelter and time value of money are certainly going to require nothing less than a financial calculator.
The point is that each return constitutes a formula, and up until the availability of software solutions, those formulas needed to be learned.
Another (more subtle) issue facing anyone conducting a rental property analysis concerns the presentation. For in addition to ensuring complete and accurate data, at the same time it must be displayed well. That is, the reports must be constructed so the facts and figures are easy-to-read and easy-to-understand.
Over the years I’m sure there have been real estate deals transacted with numbers presented on a napkin. But that’s far from the norm, and would certainly not fair well for presentations made to investors, colleagues, partners or lenders.
Thanks to computers and software, all the efforts we once made to create professional-quality reports are a thing of the past. In today’s world, reports are created automatically and look better than ever.