This is part six of a seven-part series on value-add investing based on the strategic plan of A&R Development.

Excellent! The property that meets the specified criteria has been identified. However, the work is not yet complete, and, in fact, it is only just beginning. A&R must now assess whether the financial aspects align favorably with the investment. It is important to note that properties meeting all requirements often come with a significant price tag. Merely having a promising property does not guarantee a favorable deal.

Even with all factors seemingly perfect, the property must generate sufficient revenue for the investment to be deemed successful. While a more comprehensive analysis is typically involved in this evaluation process, it will be simplified for the purpose of this article, and will focus on a key metric that helps determine the property’s value in relation to its income potential.

The cap rate serves as a valuable measure, quantifying the annual return generated by an investment property relative to its purchase price. The cap rate formula is as follows: ((Net Operating Income / Current Market Value) x 100). A healthy cap rate generally falls no less than 100 basis points away from 7.5%. For instance, suppose a hotel generates revenues of $1,500,000 with an all-in cost of $18,000,000 for its purchase. This results in a cap rate of 8.3%, comfortably within the acceptable range for cap rates.

If a deal doesn’t work out on the money side, cut it and move on to the next deal. Even if everything else is perfect the economics must make sense. Sometimes people try to stretch themselves thin to make a deal work, but it will save a lot of headache to pass and wait for the right deal.

The next and final part of the series we look at a case study. The case study will look at a property that A&R is currently in the process of acquiring and see how it fits each of these criteria to illustrate that this checklist works in the real world. Stay tuned for the exciting conclusion of the series on value-add development.