Due Diligence Part 2

By Christina Suter on Dec 06, 2014 at 10:18 AM in Real Estate Issues

In due diligence part 1 I discussed your portfolio and how it is based on what you want and what your nature is. The second part of due diligence is based on the steps.

Step 1 Region
Step 2 Neighborhood
Step 3 Property

A lot of people start with the property and while the return on equity and IRR is a good calculation, it's not the complete picture.

Location. Location. Location!


Don't skip the region and neighborhood question when you are ready to invest. Region is the larger, broad view, from that you can scale down to the neighborhood, and then find your property. It's like an hourglass.

From Hawaii to Virginia I've owned property and have spent time investigating regions. Los Angeles, the region in which I currently reside, is a cyclical market, it has high levels of appreciation and depreciation by 30% either way in any cycle. The Midwestern market is more stable and requires less cash investment.

Therefore, when I am looking to invest and looking at the region, I consider whether or not I know anyone on the ground there. I look at the unemployment rate, population, general rates, and vacancy factor of that region. For example, the vacancy factor in LA is 3-5%, but in Texas, the vacancy rate is 8-10% and has up to 2.5% property tax. That information makes a difference in your cash flow. You want to know if the region is healthy; does it function? What industries support that area and are they solid?

In a city like Santa Monica, California, the properties are single family or multi-units, which means there is no monthly cash flow. But in the region of Millville, NJ you can pay $150k for a fourplex, $60k-$90k for a single family residence, and have a gross rent multiplier of 7, along with being assured of getting cash in the bank at the end of every month. 


Once you've settled on a region, it's time to start considering a specific neighborhood. In a city like Santa Monica, California you're paying a premium if you have a property from which you can walk to the beach. People count on the fact that there's only so much beachfront and the prices appreciate based on the demand. As an investor it will be negative cash flow, which means you'll be putting money into it every month, but you will get back the appreciation, because it's near the beach. If you were to choose a neighborhood just inside the valley, such as Van Nuys, CA, the gross rent multiplier is 10, and there's a chance you'll get some cash flow from the property.

DQ News is an excellent resource, it tell you, by zip code, what the price point for that zip code is and whether it's going up or down. That research tells you what you can afford and you can choose a neighborhood based on that. 

When you've chosen a region and are determining a specific neighborhood, look on Google Earth Maps and check at the layout of that neighborhood. How is that neighborhood formed? Is is a meandering layout or a grid layout, what kind of shopping and major developments are present? The grocery stores in an area sometimes tell you what the makeup of the local neighborhood is. Is there a stadium going in? Is there a metro line. Understand the positives and negatives those have on the area.

I'll be continuing this discussion, and cover the neighborhood portion of the due diligence steps at the end of the month. Check back here for due diligence part 3.