Bakerson by Bruce: What is a "Sniff Test"?

May 11, 2022

In conversation in our business we often hear of the words "sniff test". So what is a sniff test? I remember when my sister got married and starting raising kids and she had a few kids running around the house. She is WAY older than me. In fact when I was 5 years old she was 10. So, I was doing the math and realize she is 106! Wow! That's crazy. Back to the kids running around the house. We would be visiting and a kid would run by ... actually, they wouldn't make it by because she would grab them faster than a king cobra grabbing lunch! She would swoop the kid up, turn them face down and smell the back pocket area of their trousers. This was a "sniff test" when I was growing up. Then, if she wasn't convinced should would grab the back of the pants, stretch it out, peak inside and see if the aromatic explosion contained substance. She would do all this without breaking stride in the conversation. The amazing supermom!

Sniff Test

Nope. That can't be it.

One time we were looking at a property, and this was many years ago. This was way back before there was a hype around real estate and we were buying houses for $10-$20,000 each. In Phoenix. Those were the days, hey? Anyway, we bought a house and brought our money partner out to look at the property. It was vacant in that there were no humans living there. However, there certainly were cats there and they did their duties all over the place. This money partner walked in and plugged his nose and scrunched his face and said, "It STINKS in here!" I turned to him with a megawatt smile and said, "It smells like money." He thought I was crazy. But you see, that is why we got a good deal, it was nasty. We made it clean.

That can't be it either. So, what is it?

The thing to realize is, it is different to each sponsor, buyer or operator. Some people have a simple spreadsheet. Others have a simple formula they can work out in their head. For me, there are six metrics to consider which give a good idea on whether a deal is a deal to underwrite or not. Now, it's not a guarantee nor are all six metrics required to get a deal. It's a sniff test, remember? So, what are they? The first three are about the property.

My Six Metrics

Price Per Square Foot. This one is important to measure to compare to other properties of similar vintage and property type, compare to replacement cost and even new construction if that so moves you. Builders and insurance companies spend time in this quadrant. Wait, if there are 6 it's not a quadrant now, is it? That would be a sextant, of course.
Price Per Unit. This is important to compare to other properties in the neighborhood. And after you compared them you would need to consider the number of square feet you have. You see, if most properties in a neighborhood are 600 square feet and yours are 425, you would have to bring other amenities to the party to compete. That's for another blog at another time.
Price Per Market. This is where you compare not to just your neighborhood but also to the surrounding market. Granted, once you cross the river you may have to pay double. Again, remember, this is a "metric" and not an underwriting tool. It gives you a general idea for what properties are selling in a broader sense.

The next three metrics to make up the six are:

Rent Per Square Foot. This is quite universal to see if we are pushing rent beyond market. And, smaller units are much higher than larger units. In other words, a 350 square foot studio would rent for much different per square foot than say a 1,200 square foot 2 bedroom unit. Get what I am getting at?
Rent Per Unit. This is the most universal way to compare rents. In fact, the residents are most likely to pay most attention to this number as this is what is taken out of their bank account each month. This is always set by the market and the residents' ability to pay.
Rent Per Market. Similar to the one above, this is to see how rent fairs with the broader market.

To recap, when I see deals cross my desk I run these quick 6 metrics to see if we would even be in the ballpark. In the current market, we are not seeing too many that meet what we are looking for. What are we looking for? We are buying cashflow, not appreciation. However, we accept and enjoy appreciation. What are the dangers with buying appreciation? That is a topic for another blog.

After that whole bunch of words, let's get to the Thunder Mountain update. Again, It's most fun to share through pictures. Less words. More action.

Lotsa Power!

Here is the new main power which comes into the building to the utility room. Now, those are size large wires! Here, let me show you.

Size Large

Don't worry. The power wasn't "live" so I wasn't going to get zapped. Well, it would have been a bit more than a zap I presume. Anyway, the wires are huge and the work is so neat! Neat as in tidy. These guys are doing amazingly clean work.

Electrical Panel

I mean, see what I mean? Maybe this doesn't get you charged up. Try touching it!

Neatness Counts

These wires are shockingly tidy! This is cool to see that these electricians take pride in their work. Every little detail counts!

How does it look in the rooms? Maybe you were curious. Maybe you weren't. Either way, you get to see behind the panel door. Not many people do! Well, they could. They just don't.