Projected returns are usually one of the first things investors notice in a multifamily opportunity.
IRR. Equity multiple. Cash-on-cash return.
Those numbers matter, but over time I have learned to spend more time understanding what has to happen for those returns to actually materialize.
Every projection is built on assumptions: rent growth, occupancy, renovation premiums, expenses, financing, and ultimately what the property may be worth when it is sold or refinanced.
Some assumptions will prove conservative. Some will be wrong. That’s normal.
The important question is whether you understand which assumptions matter most, what happens when they don’t materialize, and whether the investment still makes sense under a less favorable scenario.
When evaluating a multifamily opportunity, these are five areas I believe investors should understand before making a decision.
1. What Has to Go Right for This Investment to Work?
Instead of starting with the projected return, work backward from it.
Ask what is actually creating the return.
Is the business plan dependent on increasing rents? Renovating units? Improving occupancy? Reducing expenses? Refinancing? Selling at a higher valuation?
Then look at the assumptions supporting each one.
If renovated units are expected to command a $200 monthly premium, what evidence supports that premium?
If rents are projected to grow, how does that compare with current market conditions?
If expenses are expected to decline, what specifically will change operationally?
If occupancy is expected to improve, what is preventing the property from achieving that occupancy today?
This is one of the most important lessons I have learned from underwriting deals:
A projected return is an output. The assumptions underneath it are what create the return.
The objective isn’t to decide whether every assumption is conservative or aggressive. It is to identify which assumptions have the greatest impact on the investment and determine whether there is enough evidence to support them.
2. What Happens If Those Assumptions Are Wrong?
Once you understand the business plan, change the assumptions.
What happens if rents stay flat?
What if renovations take longer?
What if insurance or property taxes are higher than projected?
What if occupancy is lower or concessions are needed?
What if the property sells at a higher exit cap rate than originally projected?
A downside scenario should not simply show a lower return. It should help you understand where the investment begins to experience real pressure.
Can the property still cover operating expenses and debt service?
Are distributions reduced or suspended?
Could additional capital be required?
If additional capital is needed, who can or must contribute it? What happens to investors who don’t participate? Could their ownership interest be diluted?
These questions matter because a business plan shouldn’t depend on appreciation alone to compensate for weak operating performance.
Good underwriting isn’t about proving that a deal works. It’s about understanding which assumptions must hold true for it to work—and what happens when reality is different.
3. Does the Debt Fit the Business Plan?
I have become increasingly focused on debt when evaluating multifamily investments because financing doesn’t simply affect the return. It can affect how much time and flexibility an operator has to execute the business plan.
Investors should understand:
- How much leverage is being used?
- Is the interest rate fixed or floating?
- If floating, what rate protection is in place?
- When does the loan mature?
- What conditions must be met to exercise extension options?
- Is there an interest-only period?
- What debt-service coverage is expected?
- What assumptions are being made about refinancing?
Neither fixed nor floating debt is automatically better.
The better question is whether the financing structure fits the property and the strategy.
A business plan requiring several years of renovations and operational improvements should be evaluated alongside the maturity and extension provisions of the loan financing it.
Refinancing deserves the same scrutiny.
If the business plan assumes a future refinance, ask what happens if interest rates remain higher, property value is lower than projected, or the new lender offers less proceeds than expected.
Debt should give the business plan a reasonable opportunity to succeed—not force the business plan to succeed on a specific timeline.
For more context on the relationship between sponsors, investors and the investment structure, see Texalb Investment Group’s guide to passive multifamily investing and its discussion of multifamily investment risks.
4. How Does the Sponsor Get Paid—and When?
Fees aren’t inherently good or bad. Operating an investment requires work, and sponsors should be compensated for the value they create.
The important part is understanding how the compensation structure works and how it aligns with investors.
Identify every fee applicable to the offering. Depending on the investment, these may include acquisition, asset-management, property-management, financing, refinancing or disposition fees.
Then go beyond the name of the fee.
Ask:
What is it calculated on? When is it earned? Is it paid regardless of investment performance?
The same applies to the sponsor’s share of profits, often called the promote.
Investors should understand the preferred return, distribution waterfall and how cash flows are divided at different levels of performance.
Then look at the sponsor’s own investment.
How much cash is the sponsor contributing? Is it invested on the same terms as passive investors? How does the sponsor’s compensation change if the investment underperforms?
At Texalb Investment Group, we invest our own capital alongside investors. But co-investment alone doesn’t eliminate risk or guarantee alignment.
Alignment should be evaluated across the entire structure—not from one number.
You can read more about Texalb Investment Group’s ownership philosophy.
5. What Happens If the Property Cannot Be Sold or Refinanced When Expected?
Every investment has an exit assumption.
But an exit date is not an appointment with the market.
If the business plan assumes a five-year sale, ask what happens if year five is a poor time to sell.
Can the investment continue operating?
When does the debt mature?
Are extension options available?
What capital expenditures may be required during an extended hold?
What happens to investor distributions?
And does the partnership agreement give the sponsor the ability to extend the investment?
The exit cap rate deserves particular attention because relatively small changes in valuation assumptions can materially affect projected proceeds.
Rather than focusing only on the projected sale price, ask:
What NOI is being assumed at exit, what cap rate is being applied to it, and what evidence supports both?
Private real estate investments can also be illiquid, meaning investors may have limited ability to sell their interests before the underlying investment exits. The SEC notes that private placements may involve significant risk, including illiquidity and the potential for total loss.
The question therefore isn’t simply, “When do we expect to exit?”
It is:
“What options do we have if the market doesn’t cooperate with that timeline?”
A Practical Checklist Before You Invest
Before investing in a multifamily opportunity, I would want to be able to answer these questions:
- What specifically creates the projected return?
- Which assumptions have the greatest impact on that return?
- What happens if rents, occupancy, expenses or renovation timelines are worse than projected?
- Does the debt structure give the business plan enough time?
- What happens at loan maturity if refinancing isn’t available on favorable terms?
- What fees apply, how are they calculated, and when are they earned?
- How does the sponsor participate economically?
- What happens if additional capital is required?
- What happens to an investor who doesn’t participate in a capital call, if one is permitted?
- What NOI and cap rate are assumed at exit?
- What happens if the property cannot be sold when originally planned?
- How has the sponsor handled investments that didn’t go according to plan?
The offering documents, including the operating agreement, subscription documents and other applicable disclosures, should ultimately govern the rights and obligations of the parties. Investors should review those documents carefully and consult their own legal, tax and financial advisers when appropriate.
Texalb Investment Group’s investor FAQs provide additional information about our approach.
Final Thoughts
A projected return tells you what could happen.
Good due diligence helps you understand what has to happen to produce it.
There is no investment structure that removes uncertainty from multifamily real estate. Markets change. Expenses change. Financing changes. Sometimes an operator’s original assumptions simply turn out to be wrong.
The objective isn’t to eliminate those risks.
It is to understand the assumptions, incentives, financing and downside well enough to decide whether the opportunity fits your objectives.
For me, the best question is rarely, “What is the projected return?”
It is, “What has to be true for us to achieve it?”
To learn more, explore how Texalb Investment Group approaches multifamily investing.
