Value Add Yield-on-Cost Spreads
How do you look at the YOC when evaluating a potential value-add deal? Is there usually a spread threshold you need to exceed in order to justify taking on the additional risk of a value-add vs. a core/core-plus? If so, how much of a spread are you looking for?
150 - 200 bps over exit cap generally
What I’m trying to understand is how that spread is targeted. Like why is it 150-200bps?
It’s a general rule of thumb that both the places I’ve worked for target. It all depends on your project and what type of returns you are seeking. You also want to be paid for the capital / risk you are deploying. Idk if this is helpful or not but let’s say you spend $10k renovating a MF unit, you will want to gain $750 in annual rent premium for this.
It really depends on risk profile, asset class, and market. In general, 150-200bs spread between stabilized yield on cost and exit cap feels right. The reason the spread isn’t usually much higher is because if you underwrote it that way, you likely wouldn’t win any deals.
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