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HMO Purchase opportunity - what would you do?

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I have an opportunity to purchase a 9 bed HMO in Stoke on Trent. Fully tenanted. 5 double bedrooms, all ensuite. Went to see it yesterday.  It has a decent kitchen, separate laundry room and a large basement with boilers etc.

Numbers look quite good on the face of it. Monthly gross rental income £3,870.  Purchase price £335,000 (plus £4,000 to sourcer) so 13.5% gross yield. And tenancies seem pretty stable with few voids.

Based on existing costs of operation and using a 75% LTV interest only mortgage at 4.59% and a commercial valuation of £380,000 (if achievable) would represent over 20% RoI on all the money left in the deal including stamp duty, legals etc.

The question mark I have is the bricks and mortar valuation.  The property was actually purchased for just £95,000 as an office with a smaller HMO above back in late 2015.

Planning permission was agreed and the conversion / refurb was done.  I have no way of knowing the costs but I can't imagine it could have been more than about £130-150K.

Property values in Stoke have not gone up that much in 4 years, maybe 15% and there are no obvious comparables locally for B+M valuation but small terraced houses and flats in the same street still only seem to sell for around £50,000 so I am wondering how the value of the property alone (putting aside the HMO income) could be worth anywhere near £335,000.  Therefore if something were to change with the rental market would I be left with an asset that is completely over valued?

If you were me would you:

a) not worry about bricks and mortar value, look purely at the business numbers and go ahead on that basis

b) walk away because the vendor expectations are so far adrift from the net property value

c) point out the above to the property sourcer who has presented this to me and make a much lower offer.  If so, how much would you offer (I haven't been able to speak to the owner directly yet)?

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a commercial valuation of 380k says to me its a workable project. The banks aren't going to lend on anything with risk thesedays and with any commercial loan its about the returns rather than bricks & mortar. Nothing to stop you offering 290 or something and seeing if there is scope to reduce the price. I am in the process of converting a 100k property into 8 bed costing 150k more and I am not worried about bricks and mortar value as the returns stack up

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The commercial/investment valuation with Shawbrook is likely to be 7 x the gross annual rent, or £325k. On the other hand, I had a 7-bed all-ensuite HMO in Stoke revalued recently by Kent Reliance and that came in at £312k based on a gross annual rent of £37,500.  If you could get the Kent Reliance method of revaluation, then you could have it values as much as £386k. There are lots of variations in an HMO valuation.

As an investor, we must decide how much an asset is worth to us. In this case, the income ROI, if this is an operating HMO, would be the net cash flow after all costs & provisions / your cash left in. Then how does this compare to your target rate of return? 

The bricks and mortar value is relevant in case you need to revert to a plan B as you suggest, but how likely is that to happen?



Richard W J Brown a.k.a. The Property Voice

Property Investment Strategist

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