HOW WILL IT PERFORM AS AN INVESTMENT?
EVALUATING THE ROI
Opportunity cost of redirected investment capital is an important consideration for most prospective purchasers when evaluating whether or not vacation homes makes sense from a financial perspective. If net worth is sufficiently large so that the down payment, mortgage debt, and cost of carry obligations do not affect longer term financial goals and objectives, then you probably fit the buyer profile. Alternatively, if return is the all-consuming measure there are better performing investments but keep in mind that only one half of the benefit stream can be measured on a Return on Investment basis. The ideal blend for vacation home ownership is lifestyle enhancement and financial performance commensurate with stock and/or bond instruments which sit in a file folder and are not nearly as much fun as creating family tradition legacy asset experiences.
Constructing a valuation profile that represents an accurate return on invested capital took more than 10 years of trial and error refinements. The presented capital stack has three cash infusion elements. Initial down payment is the most transparent and easiest of the three to identify. Negative cash flow occurs over an extended period period and greatly depends on short term rental income offsets and frequency of use. Remodeling expenses are the last and most challenging element to estimate. It is very difficult to buy property that was built between 1968-1994, use it for 10 years, and then remarket the asset at a 50% markup without spending money on an interior upgrade and/or deteriorating shell and core components. Most purchasers buy property, catch their breath, get familiar with local design styles, and start construction in about 18 months if not sooner.
Due to timing variations as to the capital stack, a Weighted Cost of Capital (RWCC) approach is presented in order to calculate ROI performance. The fractional denominator consists of day one down payments, an average outstanding negative cash flow balance equal to 50% of the overall total, and 85% of the renovation expense assuming construction starts month 18 of a 10 year term.
As to the calculated returns a number of assumptions should be explained. The buy price is estimated at 95% of list based upon an average negotiating discount of 5% for all countywide transactions as reported by Land Title Guarantee Company. Renovation increases value but a 100% flow through has not been widely reported leaving us to assign a lesser best guess of 70% based upon our 22 years of resort experience These two projections when added together form a base line number which is appreciated at varying rates for sensitivity analysis purposes. The most conservative estimate of 3% is essentially an inflation projection regardless of what the government claims as the actual number. Five percent (5%) reflects the 25 year compounded average rate growth rate for ski proximate neighborhoods as illustrated in the Investment Characteristics CAGR chart. Eight percent (8%) is an ambitious windfall outcome where global events, demographics and/or wealth concentration drive prices higher due to financial market stagnation and/or lifestyle considerations becoming more important as the population ages.
The RWCC numerator is computed using differing appreciated values less selling costs, repayment of outstanding loan balance, reimbursement of all negative cash flow and a recovery of remodeling expenses. The presented returns are not meant to be a definitive conclusion as to the financial benefits of resort property ownership but is rather a “proof of concept” illustration of our target outcome where clients create legacy assets, diversify their portfolios, and enhance lifestyle without sacrificing opportunity cost on diverted capital.
Purchasing resort property is generally regarded as a frivolous high end luxury good decision akin to boats and airplanes, but data analyses contradicts this opinion. Resort real estate can be real investments if you know how to go about it, where all monies are fully recovered leaving a remaining balance that produces returns equal to or greater than stock or bond market alternatives. In the spirit of our client fiduciary obligations Summit Property Brokerage offers a “buyer beware warning”; all projections are based upon estimates of future property appreciation and are arithmetic in nature, with no recognition of Internal Rate of Return which reflects time value of money.
HOW WILL IT PERFORM AS AN INVESTMENT?
COMPOUNDED AVERAGE GROWTH RATE BY AREA
Among the five micro-markets we track, Breckenridge has proven to be the best performing area based upon greater affordability and what we see as increasing demand from the Denver standard metropolitan statistical area’s (SMSA) population growth. Central Breckenridge has enjoyed a stellar 25 year appreciation rate of 5.78%; edging out Vail and Lionshead by .18% and Beaver Creek by 1.4%. While historical performance does not necessarily guarantee future results, the demand vs. supply metric confirms that Breckenridge enjoys an enviable position as the market with least inventory as compared to prior 12 month demand indicating that its #1 ranking is likely to continue. Data supports long range growth for the Central Rocky Mountain region despite an eight year Great Recession, tech stock implosions, wars in the Middle East, debt sequestration, Eurozone instabilities, China’s GDP slowdown and a host of other real and/or imagined problems. The worst performing periods were 1998-1999 when money chased the tech market’s unsustainable double digit bubble returns, post 9.11 terrorism/war years, and a deterioration of lender underwriting standards which began in 2004 resulting in the biggest real estate bull market run since the 1930’s followed by a 2007 collapse, which in our part of the world amounted to something less than 20%; a remarkable achievement all things considered.
World Class Resort Real Estate has proved itself as blue chip, low volatility, rebounding asset class which is more than what other capital market investments can claim. The point here is that destination resort properties are not frivolous boat or airplane purchases which suffer high operating costs and massive losses of value. If carefully researched and methodically approached, buyers can enjoy the dual benefits of lifestyle and financial performance, and from a portfolio diversification perspective there should be a place for vacation and/or retirement home investments. While the world is an uncertain place there are risk profiles associated with most everything, but at least in the Central Rockies owners are guaranteed an immediate dividend which is enhanced wellness, time with family and friends, and the opportunity to create a legacy tradition that will not be soon forgotten.