What a “Good” Real Estate Deal Looks Like [With Examples]

Most real estate investment firms will underwrite 100+ deals for every one property they acquire, which means that, by default, there are a lot of properties that won’t make the cut.

And if you want to be successful in commercial real estate, you need to be able to analyze deals and sift through opportunities quickly, to make sure you can make offers and tie up properties before your competition.

So to help you get a sense of some big things you can look for when trying to find profitable investment opportunities, this article walks through three of the most common ways real estate investors identify value, and some examples of how each of these things tends to play out in practice.

If video is more your thing, you can watch the video version of this article here:

Focus on Risk-Adjusted Returns

When analyzing a deal, investors first need to make sure that expected returns line up with the risk being taken by investing in a deal, and this is measured by analyzing risk-adjusted returns.

Risk-adjusted returns factor in the risk associated with each investment when determining what returns should look like for investors, given expected levels of volatility, potential downsides of the deal, and the current risk-free rate of return in the market.

In a real estate context, this generally comes down to the projected internal rate of return (IRR) on a deal, with targeted levered IRR values usually falling somewhere between about 7%-20%.

In most cases, investors will look for high-risk opportunities to produce high IRR values, and investors will generally be willing to accept lower returns for less volatile, lower risk transactions.

High-risk, speculative deals, like ground-up development projects or opportunistic releasing plays, will usually be priced based on a valuation that would allow investors to meet or exceed that 20% IRR value.

However, deals with a very low perceived level of risk, like newly constructed office buildings occupied by national credit tenants on long-term leases, will usually be priced to get investors closer to that 7% end of the spectrum.

And by deals being “priced” to hit a target IRR, this just means that investors will adjust their offer prices to a value they believe will allow them to hit their target IRR on a deal, based on their cash flow projections with a pro forma.

Ultimately, when looking for profitable real estate deals, the more of a delta an investor can find between where a given deal falls on the risk spectrum and the returns they can expect to generate at the price they’ll need to pay to acquire the property, the more relative value they’re likely to capture.

Immediate Value Upside & Low-Hanging Fruit

In some situations, investors will find deals that have immediate upside, due to either embedded value at acquisition or significant low-hanging fruit that can be implemented quickly.

This can happen in a variety of different ways, but whenever investors buy a property at a price point below an amount they could immediately turn around and sell that property for in the market, this is indicative of immediate unrealized upside for investors in a deal.

This can often happen when investors find off-market opportunities with sellers that are willing to let go of their properties at below-market values, but this tends to happen more frequently when investors can make significant changes to operations on day one of ownership that will materially increase the property’s NOI.

Investors will often do this through actions like negotiating property tax reductions or abatements with the city, acquiring a vacant property with a tenant in tow (that’s ready to sign a lease immediately upon acquisition), or any other mechanism by which the appraised value of a property will come in higher than the contracted purchase price.

Taking advantage of low-hanging fruit is also a common way for investors to quickly create value, and this describes easily implemented changes to a property’s operations that allow an investor to quickly increase revenue or decrease expenses (with very little risk and/or work).

These types of scenarios often come up when there are in-place tenants at a commercial property paying significantly below-market rental rates, allowing the new owner to raise rents upon renewal or when re-leasing these spaces to new tenants upon expiration, but this can also occur with less obvious adjustments, like adding washer and dryer appliances to multifamily units for a significant monthly rent increase.

Sometimes, this is just as simple as better expense management by the new owner, and taking the time to renegotiate contract expenses, reduce insurance premiums, or cut unnecessary payroll costs to increase NOI.

The goal here is to find a deal with either embedded value at the time of acquisition that creates an immediate gap between the price an investor pays and the market value of a property, or to find a deal with material low hanging fruit that creates a very clear (and low-risk path) to increasing NOI and property value.

Downside Protection

Good deals are often deals with downside protection, or protection against significant loss.

Good examples of deals with downside protection are affordable housing properties where rents are significantly below market due to rent restrictions (but guaranteed by government entities), or extremely well-located properties in markets with strong supply and demand fundamentals that could be re-leased quickly if a tenant were to vacate.

Even single-tenant properties with a credit tenant in place under a long-term lease with an absolute net reimbursement structure can offer significant downside protection for an investor, since the tenant will be responsible for all property tax payments, insurance premiums, and maintenance-related issues that might arise on-site.

Deals that are unlikely to see big drops in NOI, whether that’s through a diverse tenant base, a strong tenant credit profile, a growing and supply-constrained market, or even rents that are paid directly by the government, tend to some of the most likely to preserve and grow their value (even during tough times).

How To Learn More About Real Estate Investment Analysis

This is by no means a comprehensive list, and there are so many ways to create and find value in commercial real estate.

However, if you’re working as an analyst or associate and tasked with screening investment opportunities, these are three ways you can narrow down that search and maximize your chances of finding profitable deals.

And if you want to learn more about the real estate investment analysis process and take a deeper dive into commercial real estate valuation and financial modeling, including how to build a real estate pro forma model from scratch in Excel, make sure to check out our all-in-one membership training platform, Break Into CRE Academy.

A membership to the Academy will give you instant access to over 120 hours of video training on real estate financial modeling and analysis, you’ll get access to hundreds of practice Excel interview exam questions, sample acquisition case studies, and you’ll also get access to the Break Into CRE Analyst Certification Exam. This exam covers topics like real estate pro forma and development modeling, commercial real estate lease modeling, equity waterfall modeling, and many other real estate financial analysis concepts that will help you prove to employers that you have what it takes to tackle the responsibilities of an analyst or associate at a top real estate firm.

As always, thanks so much for reading, and make sure to check out the Break Into CRE YouTube channel for more content that can help you take the next step in your real estate career.