What are the top 5 things to check before buying a mobile home park?
- Location: population within 10 mile radius of at least 10-20,000
- Occupancy: Physical and Economic
- Park Owned Homes Vs. Tenant Owned Homes
- Utilities – Who pays and what type
- Understanding the books: How to spot misleading numbers
Just like any real estate asset, mobile home parks are subject to the most important rule in real estate: location location location. When scouring the market for potential deals, you may come across what at first sight appears as a diamond in the rough, a 100 unit mobile home park, with massive upside…until, you look at the aerial, and realize that the next closest town is 50 miles away, and that the occupancy is only 50%, but the listing broker focuses on: Easy cash cow, with lots of upside, easy to fill park… We’ve all seen them before, and it’s so tempting to try and make the numbers work, you look at the spreadsheet and think, I can do it, it’s not that bad, and then you look at the aerial again, and see nothing but pastures for miles and miles, it’s time to move on to the next deal.
Your park doesn’t have to be in downtown New York, but having a decent population nearby to support your occupancy easily will make your life exponentially easier, and it’s worth paying much more for the property to have this stability. Mobile home parks are notoriously stable ONCE fully occupied, especially if the tenants own the homes, but if the park has low occupancy for the lots, it’s no easy task filling the park, even in an urban setting. The task becomes exponentially more difficult in rural communities, and your ability to push rents is drastically limited in rural settings. If you can see a population of roughly 10,000 to 20,000 within a 10 mile radius, you are off to a good start. Of course, 50,000 people nearby is much easier, but you should have a good foundation of tenants nearby if you have at least 10,000 people within a 10 mile radius. That said, the more remote, the less vacancy I would tolerate at purchase, and the more I would be hoping the tenants owned their homes. In an urban setting, I’m OK taking on a 30% to 40% vacancy rate, but in a more rural setting, I wouldn’t want to drop below 20% vacancy, and I would want no more than 20% of the homes to be park owned.
To research the population surrounding a property you are considering, here are a few places to help your search:
This seems straight forward enough, but in mobile home parks it can often be difficult to see what the real occupancy is, especially the economic occupancy. The reason mobile home parks can be a bit tricky to accurately measure occupancy is you may have a home sitting on a lot, so you assume it’s paying rent…however, in some cases, it’s power has been off for 5 years, the property is condemned, and you can’t even fix it, in fact, you have to pay $1,500 to tare it down or haul it off. So you went from something you thought was making you $2,500 per year, to now it’s going to cost you $1,500 and doesn’t produce any income. We don’t want to be pessimistic, but we need to verify the economic occupancy as well as the physical occupancy.
To give you an example, we recently purchased a park where roughly 60 of the 82 pads were occupied, however, 20 of the homes were vacant, and there were not clear titles to the homes. So instead of having a 73% occupancy, we were really looking at 48% occupancy. To make matters worse, of the remaining 40 homes, only about 25 of the homes were even paying lot rent to the management. So a park that looked like it was 73% full in reality was only performing at 30% occupancy. Fortunately, we have dealt with problems like this before, so after we purchased the park based on the 30% occupancy income, we quickly got the economic occupancy to 48% by simply proper invoicing and rent collection. By doing this, we were able to increase our gross rents from about $4,500 per month to about $7,500 per month in 1 month after closing. We then did a rent increase from $200 to $300 a few months later, and are now over $11,500 per month. This is why it is so important to properly review not just the number of homes on lots, and not simply the rent roll, but what is really being collected each month, and that should be the basis for evaluation and purchase.
Park Owned Homes Vs. Tenant Owned Homes
One of the most unique aspects of mobile home parks, is the many methods in which rent can be collected, and the different ways in which tenants occupy the lots and homes. To name a few: tenants can own the homes and just rent the lots, the park can own the home, and rent the home like a house, an investor can own the home and rent it to their tenants, and you can rent to own or seller finance the homes to tenant buyers. In general, the more tenants that own their homes, thus only have to pay lot rent, the more stable the total rent collection will be, the lower vacancy will be and the more pride they will have in their homes, which helps to improve the park aesthetics. However, as you search for deals, you will find, many park owners opt to own some or all of the homes to increase cash flow, which it can certainly do, however, there are many downsides to this as well if your objective is to resell the park, or own many units. The upside to owning the homes is you can bring in extra revenue, the downsides are: additional work, time and money are required to manage the overall asset. Additionally, the income from the homes will not be counted toward the resale of the park in the form of a cap rate, but rather a flat value per home, if any at all, depending upon the age and rent amounts. Lastly, the homes are a depreciating asset, whereas the land should be an appreciating asset.
So what is the right mix? It depends on several factors, the first being your ability to maintain the homes, either yourself, or through hired services. This is also a direct correlation to your proximity to the park, if it’s 5 minutes from your home, it’s less concerning than if it’s an out of state asset, unless you have a really good team and systems in place. If you feel very confident you and your team can handle all the repairs and not allow tenants to get unhappy with repairs and not allow vacancy, then you can handle as many as 100% park owned homes, although I wouldn’t recommend it. If you have no interest in repairs and maintenance, and are happy with a slightly lower return in favor of being able to grow to a larger portfolio, then you will want to own as few homes as possible, and focus on lot occupancy. If you are indifferent, a good manager or have a good manager, I would recommend trying to stay below 20% park owned homes, just keep in mind, that the value of your park will be based on a cap rate of the lot rent income NOT the home income.
When evaluating a mobile home park, one of the big factors is the type of utilities in the park, as well as who pays what bills. The most simple, and optimal method is City Water and Sewer and City Electric, which is direct billed to the tenants, so the park has no involvement with the utilities. However, it is often the case that water is sub metered, or not metered at all, and the park pays all the water, or worse yet, all the electric. The real red flag can be if the sewer needs to be pumped or treated, which can take a ton of time and is a big risk.
If the park pays one water bill, you can install water meters on each pad, often called Sub-Metering, and bill the tenants directly for their water use each month. It’s not as good as having the city bill tenants directly, however, once the system is in place, it’s the next best thing, and you have now recaptured the entire expense of water and sewer that previously was a loosing aspect of operations. This alone can make massive differences in the performance of the park. In some cases, if the park is paying $30,000 per year in water and sewer, and now you are able to recapture all of this expense without raising rents, you have increased your bottom line by $30,000 which means you have increased the value of the park by 10 times your bottom line, so $300,000 in new value, (This is using the 10% Cap Rate valuation, it would increase value more if the Cap Rate is lower).
Things that would be deal breakers for me would be if the property has it’s own sewer treatment plant, or a really complicated system for treating and maintaining water and sewer. Unless you are highly familiar with the engineering behind sewer and water, it’s best to avoid systems that could cost you hundreds of thousands of dollars if the system fails. That said, we do have properties with septic systems, with sandy soil, they are acceptable, as well as wells for water that are acceptable, but they do create extra maintenance costs and time. The bottom line is, if you are not comfortable with how to handle the system if it fails, then move on to another deal.
Understanding the books
Whether it be a single family residence, apartment complex or mobile home park, you should have a strong understanding of how you would expect a property to perform before you even begin reviewing the numbers. Why? Because, when you sit down to review the numbers, if you don’t understand typical costs or ratios, then the numbers could look very professional in presentation, but could be entirely misleading. This is very common with pro formas that listing brokers put together. Pro Formas in general are concerning, because if the property is already operational, why bother looking at a future state from the seller, you should be looking at current performance of at least the trailing 12 months. If you want to see a great analysis tool that we put together for mobile home parks, as well as any rental property, you can download one free here: Analyzer
The next thing that is especially difficult in mobile home parks, is separating the income from the park owned homes, if any, from the lot rent income. As mentioned earlier, we need to base our analysis of park value and performance on the lot rent income exclusively, because this is how banks will lend and also how future buyers will buy the park. Any income from the homes is a bonus, and a value can be attributed to them, but it should be analyzed separately, and really on a price per home basis. The reason this is important is because if you are applying say a 10% cap rate to the homes, they may appear to be worth $30,000 to $40,000, however, the home may be a 1980 singlewide that could be replaced for $10,000 to $15,000, and that’s if it were in good shape, if it were in bad shape, it may only be worth $3,000 to $5,000, or less if vacant.
To begin our evaluation, we first separate the income from the park from the income from the homes, in addition, we need to separate expenses from the park from expenses for the homes. An example of expenses that should be separated would be taxes. There should be land property taxes, usually 1 bill, but then there will also be property taxes on each home. The taxes for the home should be removed from your park analysis, same goes for repairs on the homes, etc….
So say after you separate everything, you find the park lot rent income brings in $100,000 per year, has expenses of $35,000 per year, and has a net operating income (Excluding Mortgage) of $65,000. Using simple 10% cap rate math, this park should be worth approximately $650,000. Now, say the park also owns 10 homes, which bring in an extra net income of $30,000. Using a cap rate method, you might say the park is worth another $300,000, but you would be foolish to do so, if these are older homes. Usually you might put a value per home of roughly $5,000 to $15,000 depending upon the age and condition of the home. So let’s take the average and call it $10,000 per home times 10 homes, we now should add on an extra $100,000 to the purchase price, bringing us to a total of $750,000. This is just a starting point, but assuming the numbers are accurate, you should comfortably be able to purchase this park and make a nice return in the mid teens or better depending upon the leverage and terms of the financing. Even if you pay cash, the cap rate on total income should be a little North of 10% which is great.
For more information on how to analyze mobile home parks, I highly suggest downloading the analyzer we use to evaluate mobile home parks, which shows a review of the existing state of the park, and a future state of the park to show upside. We also include video tutorials and extra information, such as ratios you should expect for income and expenses of a park. You can download here: Analyzer and please give us your feedback on what you think.