Gross Income Multipliers again...

I have had some great conversations since my last post on using Gross Rent/Income Multipliers in inn sales. Thank you all.

One important issue that several people brought up was the Rent/Income component - what actually is INCOME when using the GRM method of establishing value?

To make things clean and simple, the income/rent we refer to when using the gross multiplier is room income. This is room income that does NOT include sales tax. Historically, it has never been consistent whether sellers are using sales tax in their income figure or not. This is the first thing a professional, experienced inn broker asks. Sales Tax is not your money, you are simply collecting it for the State of Maine and passing it on. It should never, ever be included in income when establishing value. Including sales tax can throw off the figure so much, in some cases, it can destroy a transaction.

Let's say that we are dealing with a popular inn where the gross rent income from rooms is $700,000. The sales tax charged on those rooms would have been $49,000. If included when the value analysis is done, assuming a 5 GRM, the indicated value is thrown off by almost $150,000. A buyer who has assumed that the seller and the broker have represented the income honestly is performing their due diligence based on an inaccurate number. When this discrepency is discovered not only will the buyers time have been wasted but the honesty and professionalism of the broker and seller will be questioned also.

The use of a GRM becomes more complicated when food service is included (other than breakfast which is expected) or other income sources such as gift shop in the inn. I recently reviewed an inn's profit and loss statement that showed six different income sources. I had to boil it down to the actual room rent and figure out the value of the other income streams on another basis.

Bottom line, there are many, many facets to establishing value of an income producing property. A Inn is even more challenging because of the hybrid nature where a business and a home exist in the same space.

The use of a GRM is a down and dirty way to look at value but it is not the final say. I use a GRM all the time when I look at properties to consider if they are in the ballpark - assuming that there are features of the property that I don't yet know which can affect the indicated value. If the asking price of the inn appears to be reflective of the GRM then I share it with clients, if it is way off I have to first investigate - Why? Are there other features to the property that would not show up in a GRM value calculation or is the property just overpriced?

One of the most important considerations in using a GRM is to establish that the seller and the broker have disclosed the income properly - ask the question. Most importantly, ascertain early that sales tax is not included in the stated gross income.