The idea of “optionality” is an important one for property investors to grasp. Put simply, in general there is more value in finding properties that afford you more options compared to those that offer you fewer.
Optionality: “the quality of being available to be chosen but not obligatory”
These options provide value in allowing you the flexibility to pursue different avenues of opportunity in the future, depending on your personal circumstances and the prevailing property market. As an example, an investor that has the option to buy and hold, renovate and hold, or develop the property to sell is usually in a stronger strategic position compared to an investor that only has one option.
How to ensure you benefit from optionality in your next property purchase
Strategic options
Renovation potential, the ability to sub-divide, add a second dwelling or even develop are all strategic options that can be canvassed by investors as they research a particular property. For example, if I was looking at a property that could benefit from a cosmetic renovation, but already has a secure tenant in place and has a decent yield, then I have the option to renovate but not the requirement to immediately start works.
When deciding whether to exercise this option, I’d weigh up the cost of doing the renovation and then compare this to the expected return (in terms of added value and/or the increased rental potential), to work out an estimated return on investment figure. Finally, I’d compare this expected return on investment against any other options that I could also use those funds for. This inherent optionality has value from both a strategic and risk management perspective.
Finance options
As I outlined in this article, property investment is a game of finance. If I can find properties that are favoured by banks, then I’ve got options with regard to choosing a lender to fund the purchase. This will also benefit me in the future, if I look to re-finance the property to leverage into another investment or to restructure the debt and take advantage of lending products such as a line of credit.
Resale options
When you first purchase a property, it’s important to at least consider what the end goal is. Whilst you may not have any immediate plans to sell a property, things can and do change, and changes in personal circumstances often dictate selling a property earlier than first envisioned. The vendor that only has one option for a potential purchaser is in a really tricky position, and won’t have any type of pricing power. That’s not a position you want to be in.
Put another way, if you’ve managed to purchase well and have bought a property that affords you options, then there are also potential benefits available to potential future purchasers. One of the properties I have has significant development potential, but is performing well with a steady tenant, low maintenance requirements and is in an area that is growing steadily. It’s currently not in my plans to look to develop this property, however the fact that I have options to develop will also be of value to any future purchaser.
Client purchase case study
- Purchase price: $370,000
- Rent: $420 per week
- Location: Brisbane
- Option 1: This two storey property has the required legal height downstairs to convert this from a 3 bedroom house to a 4 bedroom one. Converting to a 4 bedroom dwelling would increase both rental appeal and be more desirable to future purchasers.
- Option 2: This property can also be converted to a dual-living property, where part of the ground floor of the property could be separated out for a teenager/elderly parents etc. This would see benefits from an increased yield due to the increased utility of the property to the tenants.
- Option 3: This property could also (STCA) be divided and rented to two separate tenants, which is allowed by the local council in this particular part of Brisbane. To give you an idea of the value of this option to my client, the potential rental under this scenario was appraised at between $580 to $600 per week at the time of purchase, for a modest renovation budget. From a risk management point of view, this is arguably preferable to the often used strategy of increasing yield via adding a granny-flat, as the property would still be attractive to a sizeable component of the owner-occupier market.
In summary
As with many things in life, having more options is preferable than having fewer. For property investors, the main ones to consider relate to strategic options, financing options and re-sale options. However, it’s important to weigh up the benefit of having these options with the cost to acquire them. This is particularly the case when looking at properties with development potential. Often, the value in having the option to develop just isn’t worth the price you’d need to spend to acquire the property. In this case the best case is to walk away and find something else.
Please note: the above information and analysis does not constitute financial advice in any way, and it should not be relied upon. It’s important that you seek guidance from licensed professionals, who can provide advice based on your individual needs. No investment decision or activity should be undertaken on the basis of this information without first seeking qualified and professional advice.
