How Doing a Rent Scenario Analysis Can Benefit Real Estate Investors
Rent Scenario Analysis is an evaluation method real estate investors would typically use to apply a range of rental income variables to an already-created real estate analysis in order to determine an investment property's financial performance (i.e., cash flows and rates of return) based upon those rent variables.
In other words, following any initial real estate analysis of rental property, the investor is only shown the cash flows and rates of return that result from one rent scenario (probably the current rents). And this limitation could prove costly to a seller or buyer because current rents aren't always a true reflection of what an income property is capable of collecting.
As a seller, for instance, if you set a selling price based upon current rents that are below market average, you might give your property away; if you base it upon rents proven to be above market average, your property may never sell.
As buyer, the same is true. You want to make your real estate investment decision based upon a property's realistic rental income. Otherwise you might over-pay for "pie-in-the-sky" rents, or could lose an opportunity to build instant equity on a property with rents proven to be below market.
Therefore, enter the benefit of a rent scenario analysis.
How it Works
First, create a real estate analysis to determine the cash flow, rates of return and profitability using the income property's current rents. Then, apply a "worst-case", "most-likely-case" and "best-case" scenario to the rents as such.
- Worst-case. If rents decline or do not change at all
- Most-likely case. The most probable rents that can be obtained
- Best-case. Rents beyond our wildest dreams
We'll use the screenshot of the Rent Scenarios form provided in ProAPOD Real Estate Investment Software as an illustration.
The upper portion of the form (shaded blue) shows the results of our already-created real estate analysis, and the column labeled "Average Monthly Rent" displays the property's current rents. The three "Rent Scenario" columns (shaded white) show the rents we want to evaluate.
The lower portion of the form (also shaded blue) show the results for each rent scenario so you can see the returns and ratios for each case and then make a decision about the property's likely financial performance.
Though certainly not a magic bullet, a scenario analysis is a plausible method worth understanding and conducting because it helps you dig deeper and explore options otherwise hidden in a standard real estate investment analysis.
Here's to your real estate investing success.
So You Know
ProAPOD's Agent 6 and Executive 10 real estate investing software solutions each provide you with the option to do a rent scenarios analysis and subsequently create the report for your next evaluation or presentation.