Knowing What to Look For

The first step in being able to analyze the value of a rental property is to understand what factors contribute to the value of a property value, and what key metrics you should be looking for before making a purchase decision on a rental property.

In general, good financial analysis involves being able to input a bunch of information about your investment into a financial model, and have that model kick out a bunch of information that you can then use to determine whether the investment is a good or a bad one (and whether it is the right investment for you).

Below are the very high level inputs and outputs that we will be working with in the financial analysis of our property. If any of these terms – or details around them – don’t make sense, keep reading; everything mentioned in this section will be discussed in much more detail later in our tutorial.

High-Level Inputs

In general, the information you need to do a thorough financial analysis of a residential rental property includes the following (we’ll go into each of these in gory detail later in our tutorial):

• Property Details: This is information about the physical design of the property, including number of units, square footage, etc
• Purchase Information: This is basic cost information about the property you are considering, such as the purchase price, the price of any rehab or improvement work you’ll need to do, etc
• Financing Details: These are the details of the loan you will obtain to finance the property. This includes such things as total loan amount, downpayment amount, interest rate, closing costs, etc
• Income: This the detailed information about the income the property produces, such as rent payments
• Expenses: This is the detailed information about costs of maintaining the property, including such things as property taxes, insurance, maintenance, etc

High-Level Outputs

The most important part of any financial analysis is being able to interpret the data you get from your spreadsheet or model. It doesn’t matter how many statistics, metrics, or calculations you can gather if you don’t what to make of them once you have them.

Here is a very high-level list of outputs you’ll receive from your analysis, and how/why they are important (we’ll go into each of these in much more detail later in our tutorial):

• Cash Flow: Cashflow simply refers to the amount of money you will make every month or year by owning this property after all expenses are accounted for. This is your profit
• Rates of Return: In general, “rate of return” refers to the amount of money you make on an investment *relative* to your upfront cost of obtaining that investment. When analyzing a rental property, there are actually several rate-of-return calculations you should do, each offering their own insight into the value of the property, and its value to you based on your personal financial situation. We’ll go into much more detail about rate of return later in this tutorial

In broad terms, those are the key inputs and outputs you’ll be dealing with during the financial analysis of any residential rental property.

In the next part of our series of posts, we’ll dive into each of these areas in detail, and then put it all together later in the discussion...