Science involves distilling events down to a formula – so what is the simple formula for making money with a mobile home park? In this Mobile Home Park Master podcast we’re going to examine what the key profit drivers are and unveil some simple formulas to help you understand the potential that many properties have to deliver significant gains. Unlike calculus, this is math that you get paid for.
Episode 176: The Simple Science Of Making Money Transcript
For thousands of years, mankind has tried to use science to explain the world around us. There's every reason you'd want to do that because we all take great comfort in being able to control our environment, our surroundings, our behavior, and make sense of how it all works. This is Frank Rolfe, The Mobile Home Park Mastery Podcast. We're going to talk about the simple science of making money with a mobile home park.
Let's start off with one of the big items that you need to be aware of, and that's the multiplier effect. We are in the income property business, and when you apply a CAP rate to our income, you end up with a price that is much, much larger than that amount of income. Where did that come from? It came from appraisers and lenders, and the simple fact that there are some basic science, based on coverage ratios and other items, that give lenders comfort that you can take out a loan on a mobile home park and pay it back. If you couldn't, they wouldn't do it.
In fact, CAP rates vary based on asset classes, based on the expectation of return and safety and security. In our industry right now, those CAP rates can be quite all over the board based on the quality of the mobile home park. CAP rates can often be as low as four or five percent on certain properties, to as high as 10 or 12 on others that have real challenges. For the sake of this discussion, I've chosen an eight percent CAP rate, kind of a mid-range CAP rate, not reminiscent of the best of properties, but also not reminiscent of the worst, kind of an average.
At an eight percent CAP rate, one dollar of income is valued at $13, so that's kind of a rough eight percent CAP rate transference of amount of net income to amount of value. If that's the case, if it's 13 times to come up with a multiplier of value, then let's look at the four key drivers to making money with a mobile home park and see what those limitations actually are.
The first and foremost way that most mobile home parks generate additional value, additional money, is to raise rents. Now, why do we raise rents? Do we raise rents to gouge people? Are we just cruel and evil, as the media would portray? I don't think that's true. What happened is that mobile home park lot rents have sat at levels that make no sense based on inflation from the past. If you look at the rents back when these properties were built, back in the 1950s and '60s, a very common number was $50 per month.
Now if you inflation adjust that through today, that's $500 per month. Yet our US average on lot rent is only about $280. What happened? How come a mobile home park lot today is half the price as it was in the 1950s and '60s? It's very simple, mom and pop quantitative easing. They never raised their rents annually in line with inflation, so today mobile home park owners are faced with trying to catch up with decades of deferred inflation to make sense of their rents.
In many markets that we serve, apartments cost $1,000 a month more than mobile home park rents, and it doesn't make any sense from a fairness perspective, our product is superior. We give people a detached dwelling, no neighbors knocking on walls and ceilings, your own yard, the ability to park by your front door, and the ability to be a homeowner, so why are we so much cheaper? We shouldn't be. On top of that, if mobile home parks don't get in the game and raise the rents, you'll never be able to have the parks maintained. It takes a lot of money to bring old mobile home parks back the life. The other problem is redevelopment.
If parks are not the highest use for the land, then they'll typically be redeveloped into another use. What's that most common use of redeveloped into? You guessed it, apartments, because they're like a $1,000 a month per unit more than we are. What is the impact? What is the science that I'm making money by raising rents? If I have a 50 space park that have 50 customers in it, and I raise my rent $20 once a year, that's all, $20 increase once a year, times 12 for 12 months, times 13 for the multiplier, that one rent increase increases the value of that mobile home park by $156,000.
If you repeat that every year, you would be increasing the value by another $156,000, so that's the first way parks make money. How they create value is the very simple economics of raising rent, coupled with the multiplier. Now what's the next way? The next way is, in many mobile home parks are sadly behind the times, and the park is still paying all of the water and sewer for the residents, and we all know that's wrong. If you want to foster conservation, people need to pay their own water/sewer, no one disputes this.
Typically, when you have the resident pay their own water/sewer, their bill drops by about 30%, so everyone out there who doesn't have to pay for what they use typically overuses utilities by about a third. What happens when you install sub-meters and have the residents pay their own water/sewer, which is fully justified and perfectly reasonable? If you assume the average American spends about $40 a month with water and sewer, then 50, times 40, times 12, times 13, you've just increased the value of that mobile home park by about $312,000, simply by having people pay for the utilities that they use.
Now the third way that you create value and the science behind it is to fill vacant lots, assuming in this example, the mobile home park has 50 occupied lots, but it has 10 that are vacant. If I can go out and fill those 10 vacant lots, and I'll have to put some work into it to do that, I'll have to go buy new homes or used homes and bring them into those lots. I'll need to find a lending source like 21st Mortgage to provide a mortgage on them.
If I can get those homes sold off, and let's assume that lot rent is $300 a month, then what I have is 10 times $300, which is the new lot rent, times 12, times 13, and now I've increased the value by $468,000 on that mobile home park. Now the fourth way is to cut costs. Now the two typical largest leaders in cost cutting with mobile home parks in our experience, one is fixing waterline leaks. It's very common that mom and pop has never put any effort into that at all.
There's a company out there called American Leak Detection that can go and find all your mainline leaks for you, if you can find one of their franchises near you. If I fix those water leaks and/or if I change my manager out for someone who is a little less expensive, because many mom and pop's horribly overpay managers, then let's assume that in doing so, I save a total $30, right, times $130,000 a year in total costs saved, and that could be a mixture of water, could be mixture of the manager plus water, all costs cutting $30,000.
If I cap that one time improvement, so multiply it times 13, I end up with $390,000 of additional value. If you total the four things I just mentioned, raising rents, pushing water/sewer back onto the customers to pay, filling lots and cutting costs, I've just created $1,326,000. If I work backwards, if I look at that value creation at that CAP rate, I've also created about $100,000 of additional cashflow. That's the end results of my work.
What does it all mean? What does the science mean? What does it mean as far as the way to make money and the 13 times and all the rest of it? It means number one, that mobile home parks can be very, very profitable, because typically when we're buying these things from the original mom and pop, there's plenty of room to raise rents, plenty of room to cut costs, room to fill lots, and typically we're the folks who ultimately install the meters and have the people pay for their own water and sewer usage.
First off, first observation, mobile home parks just have a lot of value built into them, but the other part is every park doesn't have to share all of these attributes to succeed. If you buy a mobile home park that's already completely full, it already has the water meters installed, it already has all of the cost cutting already done on the front end, you can still do incredibly well with just raising rents.
Based on this example, if I was to raise those rents $20 a month, one time a year, within five years, I've created almost $800,000 of value. I've already almost made my way back to at least a million dollars of value creation, just with those five $20 increases on my 50 lot property, so you don't have to have all of them. You might say, well, this property I'm looking at, the rents are fully at market, but there's a lot of vacant lots.
Once again, you can still make a lot of value with that mobile home park, so there's lots of opportunity in it. Now one thing people are going to ask is, can you do these on all parks? Are these options available? The answer is no, you still have to buy the right park. Now think of it this way, if these are the additional things you can do to create money, all you'd have to do is buy that 50 space park at whatever price would just cover the mortgage, because we're not trying to make a fortune off just the park.
Think of the park kind of as the chassis of the car, where I'm creating my value is what I do when I fine tune that engine and put a really nice body that's streamlined on it. Now I can make it go really fast. If I can just find really any 50 space property that's got a decent location, decent infrastructure, decent economics to it, decent location, I should do just fine because I typically can find at least one of these four items that I can press forward on, and that's basically the science of making money in the industry.
You'll notice it's not pioneering. It's not exciting. It's not like Steve Jobs inventing the iPhone. I'm not going to drop the iPhone in the aquarium and say, look, I can still make it smaller because I see air bubbles. No, this is basically taking traditional paths that have already been forged, simply applying the simple science, and that's how you make money with mobile home parks. This is Frank Rolfe, The Mobile Home Park Mastery Podcast series. Hope you enjoyed this. Talk to you again soon.