Dallas renovating and upgrading acquisitions is a fabled source of achieving wealth through real estate. Many investors focus on value-added opportunities for properties which need cosmetic renovation and/or upgrading. Their experience is they can purchase properties at a discount from market value (of the property as renovated) that is far greater than the cost to renovate the property. In other words, the increase in value caused by the renovation is much greater than the cost of the renovation.

Dallas renovating and upgrading an investment property acquisition is a source of both opportunity and risk. The opportunity is derived from the purchase of a property at a discount from the market value as renovated. The risks include renovation costs that exceed budget and the renovation not effecting the projected increase in cash flow and value. When a property has deferred maintenance, the cost of curing the deferred maintenance can be difficult to estimate without obtaining bids from contractors. The costs to perform renovation are ill defined even after obtaining bids from contractors. The cost to replace a roof may increase sharply if the roof decking or substructure have rotted. The cost to replace exterior siding may increase if the wood structure has rotted.

Upgrading a property is an excellent option for enhancing investment returns. Upgrading would typically be defined as an enhancement to a property as opposed to curing deferred maintenance. Adding granite countertops, new kitchen cabinets, enhanced lighting and plumbing fixtures and upgrading the bathroom at a 15-year-old apartment is a typical example of upgrading. However, in some cases the level of upgrading is much more modest. However, selecting which areas to upgrade and confirming, through analysis, their financial feasibility can be a time-consuming project. The level of upgrading appropriate for a class A apartment unit would be much more extensive than the level of upgrading typically financially feasible for a class C apartment unit. The objective is to maximize the increase in market value net of renovation costs.

Preparing a plan for renovations and upgrades is a complex project and needs to be integrated into the investor's overall plan for the property. Plans for the renovations need to be consistent with the caliber of the property and the remaining economic life. It is the essential to maintain a high level of finish and excellent maintenance at a four-star hotel. A lower level of finish and maintenance is reasonable in a 40-year-old unflagged (non-chain) motel. Consider the following examples of planning for renovations:

• Should an investor repair or replace the roof on an office building which is being acquired as a land play? The investor expects the building will be demolished within five to seven years but wants to maintain the income stream during the holding period. Most investors would focus on determining which option has the lowest net costs, based on the net present value of funds to be expended over the remaining economic life of the current improvements.
• Should an investor patch potholes or do a complete overlay for a class C apartment complex? The cost of patching is $20,000 while the cost of a complete overlay is $150,000. The investor plans to maintain the property as a class C apartment complex for the indefinite future. The appearance and lifespan of patching are inferior to performing a complete overlay. The inferior appearance may be acceptable at a class C apartment. A superior appearance would be required at a class A apartment complex. Many investors would focus on the option that minimizes the net present value of funds expended to maintain a functionally adequate level of parking which is consistent with the caliber of the property.

Upgrading an income property often offers the investor an excellent rate of return. Many investors avoid the risk and effort associated with upgrading an existing property. In many cases, the existing investment group is complacent and does not want to expend the capital nor take the risk to enhance the performance of the property. After investors have been involved with a property for a period of years, they are often reluctant to contribute additional capital. This is particularly true if the property has generated only a modest return. Investors are particularly reluctant to invest additional capital in a project that has performed poorly. An ideal time to plan renovations is prior to completing a plan for the capital structure and total amount of capital required during the due diligence period. In many renovation cases, the lender will fund most of the cost of the upgrading if it is planned prior to the acquisition. Otherwise, the investment group will likely have to fund the cost of the renovation if it is done at a later point in time.

Following are a limited number of options for property upgrades:

• Upgrade the unit interiors for apartments by adding granite countertops, crown molding, better quality cabinet fronts and replacing drawer pulls. Other options are upgrading appliances, carpeting, bathrooms, lighting and plumbing hardware.
• Modify the lobby and elevator cabs for the property with a plain appearance.
• Upgrade the lobby, elevator cabs and common areas.
• Replace and improve the facade and signage for retail strip centers and other types of retail.
• Review upgrading signage and landscaping, particularly near the leasing office.
• For industrial properties, consider adding cranes, parking area, stabilized yard area and expanding the truck aprons.

The tentative plans for completing renovations and upgrades are developed by reviewing rental rates, the quality of rent comparables and through interviews with property managers, leasing agents and property owners. In some cases, property managers and owners for competing properties may be more comfortable discussing these issues with an independent appraiser or market analyst than with a potential new competitor.

The next step is to obtain construction cost bids for both deferred maintenance and upgrade options from local contractors. Depending on the size of the item, multiple bids may or may not be necessary for the purpose of determining a probable cost during due diligence. Once the acquisition has been completed, multiple bids for many items are often appropriate. (Either O'Connor or the client can obtain these bids.)

After obtaining cost data, the appraiser/market analyst is able to determine whether the contemplated plan meets the investors financial objectives. In most cases, the renovation and upgrading plans are scrutinized for opportunities to reduce cost and enhance yields after obtaining cost data.

The final step is to consult with the client regarding options, our analysis and conclusions. Reporting options vary from a verbal report to a detailed narrative report.

By researching upgrade options the investor can maximize their return. Obtaining construction costs mitigates the investor's risk and makes it less likely he will need to explain to partners/investors why renovation costs sharply exceeded the budget.

O'Connor and Associate's staff complement of over 50 real estate professionals can plan the appropriate level of renovation / upgrading and obtain construction costs. They can also handle other due diligence tasks. These professionals are supported by an experienced staff of over 100 who are accustomed to complex assignments. Our team has experience in all aspects of real estate including acquisitions, due diligence, ownership, appraisal, property tax appeals and dispositions. Reduce your risk and stress by utilizing O'Connor and Associate's breadth and depth of experience to evaluate your real estate investments.

To obtain more information on O'Connor & Associates due diligence services, call or email Larry Brewster at 713-686-9955 or fill out our online form.