In terms of valuation of a MHP, how do you all account for POHs? My brain, and most of all the “experienced” investors state that you must zero out the POH rent, and only include the lot rent in the valuation. Then you figure out a value of the POH and pay the seller a “fair price”. Is the fair price, the existing market value of a MH based on condition and age or should it be based on the revenue/profits it generates? If the park is a 5% cap rate, we shouldn’t value the POH using a 5%, but should we use 8%, 9% or higher? Would love some thoughts, if I made any sense.
There will be a lot of answers to this. I have found the problem.
Older homes in normal areas cost as much to repair as the rent difference so you might as well count them as worth $0.
Newer homes and in great locations that command a high rent it seems they have more value. However the details will vary by park and location.
Lakefront parks I have noticed can sell older fixed up homes for $40K very easily.
Areas with high rents can still pull some value out of homes, but the older the homes, generally the more repairs and replacing the roof and the HVAC system in one year will destroy profits on that one home.
So don’t cap the rental income. Instead value it based on lot rent plus the value of the home if the home can be sold easily.
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The ‘fair price’ offer I make for a POH is based on the market value of the home (I just go to FB Marketplace and find like homes and come up with the price). After I find that value I subtract around 25% so that I can make money upon reselling it (if I decide to resell it). In my opinion, I deserve a discount when buying it because I’m not the end user and I have to spend my time and resources to get it sold. I deserve to put money in my pocket. Most park owners will understand this. I also tell park owners that my offer may change if I find significant issues with the home.
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The high level park owners and PE investors on this site will and always have advised taking POH valuations at zero and just calculating the pad rental. I can understand the reasoning if you own ‘dozens or hundreds’ of parks and don’t want to manage the maintenance of rental POHs. But POHs are a fixture in the MHP industry and for many of us small players in the industry we have to deal with that. My #1 NOI park has 13 POHs with high monthly rental income. We take very good care of our assets and keep them very well maintained. We net an additional 50% on NOI (over just pad income) with our rental NOI and that is after all maintenance expenses.
If I were to sell this park I would want valuation on that cap income. They are assets to my business that drive my NOI (just like any asset in any business), If you want to buy my park and shut down the maintanance for five years and suck the life out of my assets that is on you after you buy the park.
All the previous comments are correct to a sense, the key point to understand is that majority of lenders won’t lend on income produced form the portion allocated to home rent, only the lot rent and ancillary. Thus why you don’t capitalize the POH rental income. Even with POH income increasing NOI and the stability of cashflow, it’s a function of how risk and debt is applied to the investment from the view of the lender. Manufactured homes are personal property, not real property, which is why they’re leveraged on a chattel loan vs a debt coverage ratio, and have historically depreciated at a faster rate than improvements on real property. for example Freddie wont even consider a park with 25%+ POH, likewise Fannie at 35%+.
This doesn’t mean those homes are worthless, you just have to separate out the values of the park vs the homes then apply a discount rate to the homes value for your margin, this is called Shell Value. I would suggest finding the NADA value of the homes and comparing to comps in the marketplace. Determine the acquisition for asset it’s self, and a value for the personal property (POH’s), separate these out and align them on two separate agreements.
- MHC broker of 8 years.
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Thanks Andrew. I agree 100% with your comments. The issue over and over seems to be the sellers expectations don’t align with market. Age old problem I guess.
I would only add that in the purchase of any existing business often many different forms of financing are necessary- traditional, non traditional, secondary market, lins of credit, personal funds, personal loans, from friends and family, etc. In all cases the value of the business is not degraded due to a lack of traditional financing available to the purchaser. A buyer’s inability to borrow enough money to purchase an exceptionally well run, profitable business is not the seller’s problem.
You pay fair market value. If you assign a cap rate, then you are essentially including the home rent in your capital calculations. The whole point of putting a capitalization rate on a property is that you can assume that the income will endure forever because real estate is forever. Manufactured homes do not last forever however so you cannot capitalize them.
A simple way to illustrate this is to assume you have a 1980s junker with the market value of $5000 that rents for $250 in home rent only. That comes to $3000 per year. Assuming an expense ratio of 50% you now have profit of $1500 per year. If you capitalize at 5%, you would be paying $30,000 for the junker. If you capitalize at 9%, you would be paying $16,667 for it. Clearly you cannot capitalize the value of home rents.
The better way to do this is calculate the value of the park based on income that is derived from the real estate only. This includes lot rents, utility reimbursements, late fees, etc… Separately, assign a value to the homes based on an inspection of them individually.
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Propboy40, there’s nothing wrong with renting homes, but you cannot capitalize the rent that you derive from them. If you do and you insist to be paid that price, then what is created is a mismatch between the buyer and the seller and the property will not sell.
As an example, consider our park in Seaford, Delaware. Home rents approach $1500 per month and lot rents are $500 per month which means we charge $1000 per month for the home rent. If you assume each home takes $300 per month in maintenance, the net profit is $700 from the home or $8400 per year. At a reasonable cap rate of 7%, that puts the value of the home at $120,000. However, we install brand new from the factory homes in this property for less than $60,000. therefore why would I pay you $120,000 for Homes that I can buy brand new for 60,000? The fact is, I would not unless the property would sit on the market being unsellable at the asking price.
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@mPark Spot on explanation. What I see on the market currently and for quite a bit frankly, are parks for sale that are capitalizing POH income…overblown prices that make no sense at all (not profitable on the purchase price with current debt). Those properties end up sitting on market, get price reductions, maybe…then eventually they come to terms on their actual value of the park then it transacts.
The bottom line is…do not overpay (some scenarios may make sense depending on your goal).
Understood but at the end of the day when you buy a business , any business, you are buying an income stream. If you wish to purchase a pre existing restaurant for example you are buying the business assets, location, income history, goodwill, customer base and equipment. If your 20 year old grill or fryer accounts for 10% of your business you don’t extract the income that asset creates in your business just because it is not considered ‘real’ property. It is an asset that you purchase, clean, maintain and depreciate for it’s life expectancy and replace when necessary. You use that asset to drive your income stream. The same, in my humble opinion, for a non real property mobile home.
My wife owns a wildly successful accounting/payroll company. When the day comes to sell that business she is not just selling the computers and office equipment but the non real assets of income stream, customer base, goodwill and professional history that goes with that business.
My original point was as stated above banks may not wish to loan on these non real property assets and that is there perogative. That does not diminish the value of the business and income stream. If someone has to find additional funding sources as I noted above to purchase a business and it’s income stream that is beholden to them not to the seller.
Propboy40, I agree that your wife’s accountancy and the average restaurant or any other small business will likely sell for much more than the assets are worth. Typically small business sells for 3-5x cash flow and this can be in the form of EBITDA or SDE. Restaurants are typically at a lower EBITDA of 2x and service business might be closer to 4x. An accountancy with cash flow of $200,000 may only have $50,000 in assets but may sell for over $1 million.
If you want to sell your homes rental business based on cash flow, then you should employee a similar multiple. What you are trying to do though, is put a cap rate on a cash flowing operational business. You are conflating two different industries and valuation methodologies.
The fact is that the revenue from home rentals is not durable. I cannot count how many of our rentals were destroyed within one year from a tenant, and they have to sit vacant until we can put thousands of dollars to refurbish them. You are not considering this CAPEX in your homes rental valuation. Your experience may be different, but it it atypical of the industry, and if a buyer cannot duplicate your results, they will not overpay for results that are unachievable to them.
I always appreciate your insights and perspective Michael and I certainly continue to learn from you. I may be atypical in the industry as I am not a PE investor, I include all CAPEX against my rental income for valuation and I take very very good care of my assets. If someone wants to purchase my business (and income stream) I am not going to discount it because a buyer cannot borrow enough money from a bank to buy it or they lack the common sense God gave a donkey to maintain a well run business. What we do is not complicated.
Thousands of businesses self destruct every year due to new ownership destroying them- not customers.
New owners. Clean, very well maintained, reasonably priced rentals with well vetted tenants and actively engaged management is what we apply to all our parks and apartments. Your points are valid if you are looking to buy a park with a bunch of sucked out, garbage POH rentals but that is a different set of facts for a different valuation.
It seems there must be some mods for POH that don’t appreciate like RE and are subject to tenant abuses. The latter of which can be mitigated by diligent screening and proper mgmt like quarterly inspection…
Assuming the POH’s are new or fully renovated, they are still going to depreciate 3% annually why not add 5% to your cap rate for that portion of the valuation / NOI? Value the park NOI at 8% cap and the POH NOI at 13%. An inspection of each home would be wise and list / cost of improvements to each to prove condition…
So a 50 unit park w $400 lot rent has an NOI $150,000 using 35% expenses. 8% cap ~ $1.875 Value
Add 20 POH at net rent $600 have NOI of $50,000 after 65% expense ratio at 13% cap rate adds about $375,000 to the value or ~ $19,000 per home.
If your POH don’t add $600 a month what are you renting to folks??
Total NOI $200,000 values at $2.25m which is a blended cap rate 8.9%.
All this assumes your park has public utilities and the homes, ground improvements… are in good condition and not suffered from decades of deferred maintenance and can fit modern size homes and meets zoning requirements.
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@mPark Michael, I certainly understand your reasoning and I think the large PE investors in this industry want to hammer this narrative. I have a variety of parks (POH/TOH, TOH and L/T RV) and I understand that POHs do require additional management and maintenance. But in an industy defined by CAP rates, ROI and cash flow you want to narrow the definition to suit your own personal investing needs.
I liken it to selling a restaurant. You have equipment- grills, fryers, refrigeration units, etc. Under your example you want ignore the cash flow generated from the fryer because a $10000 a month on french fry sales at a 7% cap values the fryer 1.7 million. Since a new fryer costs $5500 then its cash flow needs to be excluded. POHs are pieces of equipment in a business and like fryers require general maintenance and up keep- but they are part of the business in generating cash flow.
I understand why many on this site including Frank and Dave have a disdain for POH and their valuations. Big PE groups with investor money and a need to keep things simple. I get that but as self proclaimed experts in the industry I think they do a disservice to a huge chunk of the industry by simply ignoring it.
Now to your point. Will I be able to sell my10 CAP TOH/POH park? I don’t know… but I take very good care of my equipment and I do get solid offers routinely. If not… we can keep it and give it to the kids.
And avoid the tax on the gain on sale as the MHC will get a step up in basis at death. Kids can sell w no gain. Unless you can structure a 1031, this tax hit is significant especially if you are older w very low tax basis. There are structural routes around the gain if folks can be patient. If you need the cash, structure the deal with careful lending and true at risk option for sale at death along w mgmt agreement….