Airbnb market analysis: ultimate guide to cash flowing in the right market
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As a career analyst and overall details-driven guy, I love getting deep into the numbers on real estate deals. I love analyzing short term rental deals because of the incredible amount of data I have at my fingertips today. In this post, I will share how to cut through the piles of data and understand if a deal in a given market is going to make sense for your next short term rental.
Bottom line, a great Airbnb market will draw in tourism year-round, have favourable short term rental bylaws, and ultimately result in positive cash flow with a great cash on cash return on investment. If this sounds like the deal that you are looking at, you might just have a winner.
There is absolutely no need to go in to a short term rental property investment with your fingers crossed and hoping that it will work out. As you perform the analysis in your market by following this guide, you will be able to dive in head first knowing that your rental is based on solid fundamentals that has a very high chance of financial success. Let’s go!
What is drawing people to the market?
Although we will verify everything with data later, you will want to start with your head before you get too deep into a given market. You will have to ask yourself what will keep people coming to the area, now and in the future? Is there a specific attraction? This can be something like a national park, a city with great tourism attractions, an employment hub, or anything else that might draw people to the area. Most communities have a tourism website that can help you understand a market that you aren’t too familiar with. It is also valuable to consider how seasonal the location will be. For example, will there be a tourism draw in more than just the summer months? Is there something like a ski hill that might attract people in the winter?
I personally am interested in locations that are reasonably close to a larger city, that people actively seek out for getaways. This will allow you to capture people that fly in to the city from afar, in addition to city residents in the area looking for a holiday that isn’t too far away. Where I live in Calgary Canada, I like to run comparables on locations that are within a 3-5 hour drive from the city.
Verify the local short-term rental bylaws
Short term rentals are still a very new phenomenon, especially for smaller towns that may not have as many systems set up to handle and manage this kind of change. As a result, new laws on short term rentals are on the rise. These laws almost always mean new fees that will change your cost model, so it is critical to be aware of them. I’ve broken them down into the red light bylaws (potential deal breakers), yellow light (proceed with caution), and green light (small financial impact and overall not a major problem).
Red light bylaws:
Zoning requirements: some municipalities stipulate that short term rentals can only operate in certain neighbourhoods. This is extremely concerning for existing short term rental owners, as the implementation of new zoning requirements can completely shut down your operation. With that said, you may be able to re-zone your property. Your rezoning application will likely be subject to public feedback, so it is critical that you manage your property well to not be considered a nuisance to neighbours.
Maximum occupancy limits: occupancy limit regulations will have a significant impact on your ability to charge competitive premium for your property. In Sicamous BC, for example, they have capped occupancy at 2 adults per bedroom. If you have other ways to accommodate guests, such as pull-out couches, a loft area or basement, bunk beds, or some other shared area with a bed, you will not be able to list the property as able to accommodate extra adults in those spaces. Occupancy capacity is a major differentiator on nightly rate on Airbnb and VRBO, and this will have a significant impact. A 5 bedroom house with extra beds in shared spaces may have previously rented at a 16 adult capacity, would be capped at 10 under the Sicamous model. This could easily see your nightly rate cut in half.
Property manager requirements: some areas will require a designated individual to be located within the area, that has the authority to make decisions about the property. This would typically be a property manager, however would not be possible if you were looking to self-manage the property remotely. Although there are many benefits to hiring a property manager, this will add to your cost structure again.
Yellow light bylaws:
Collection of an additional sales tax: in BC Canada, this can represent up to an additional 3% Municipal Regional District Tax (MRDT) on sales, in addition to the already existing 8% Provincial Sales Tax (PST) and 5% Government Sales Tax (GST), for a total of 16%! Although this is passed on to your guests, the costs do add up and you will have to consider how well each market competes against each other. The next province over in Alberta, only requires the 5% GST, which is important to consider!
Property tax increases: many skeptics fear that changes to zoning requirements will leave property owners subject to higher property taxes. This is a real risk, and should be monitored closely. This will be another cost that you will have to pass on to your guests over time.
Green light bylaws:
Off-street parking requirements: changes to parking requirements may also have an impact on the occupancy limits that you are able to advertise, and will therefore have a significant impact on your nightly rates. Some areas ask for some off-street parking, and some will designate a certain number of parking sports per occupant. It is important to know the details here.
Required business license: a business license can start at only $100/year and go up from there depending on revenues. At $100 it is likely not to be consequential to your business, however it is important to watch for changes as these costs are likely to increase over time. All told, I am supportive of business licenses to weed out those that don’t want to take this business seriously.
Building code requirements and inspections: municipalities generally want to ensure that anyone providing accommodations is doing so safely, and meeting relevant safety code requirements. Things like smoke and carbon monoxide detectors, safe entry/exits, and safe electrical and heating systems are important and something you should be providing for your guests.
A solid understanding of all these rules and more is absolutely critical in running a successful short-term rental business in a given area. You may find that one town has employed all of these restrictions and more, while a location nearby has none. It is a worthwhile exercise to compare the regulations of your top markets to see which may be most favourable to your next short term rental.
Let’s get into the data!
Now that you’ve determined one or two markets that you believe will have strong demand and also have favourable regulations in place, it is time to check the data to be sure. Luckily, there are some incredible tools available that help us with this analysis.
My favourite of the bunch is AirDNA. AirDNA is a paid tool that scrapes data from Airbnb and VRBO and combines it with an algorithm to produce market specific information and reports for people like you and me. I am personally a paying user and highly recommend it. (Note: if you click on the link above and end up making a purchase, I will receive a small commission. With that said, I do truly believe it is an incredibly valuable tool for the money.)
Single Market Analysis
The 3 most important market factors will be occupancy rate, average daily rate, and overall revenue. These 3 factors will help to confirm your previous research about the tourism seasonality of a given area. The AirDNA overview page here can help you get a general sense of a market, and then dive into any of the details that you want to investigate further.
I also love that you can evaluate the data at different performance percentiles. I recommend targeting between the 75th and 90th percentiles in your research, and striving to keep your property in that top 25% through excellent management. Here’s an example of occupancy trends for one area I’m looking at:
This graph tells me that the top properties see a very slight low season, however are able to remain almost fully booked through the year. The properties at the 75th percentile are more influenced by seasonality, and the best ones remain almost fully booked throughout the year. It would be important to manage the property well to be in that top 25%, but it is certainly possible to keep occupied with good management.
Similarly, we can look at the overall revenue at 75th and 90th percentiles:
Here we see the huge seasonal swings in revenue, which combines those lulls in occupancy with shifts in the nightly rate. The summer months command a premium, and can still be booked out in well managed properties. The purpose here is to gain an understanding of the markets seasonal swings, and not necessarily looking at the gross revenue numbers. We will hone in on those in the next step, when we narrow down the property type.
Market Comparison
Next we will do an AirDNA market comparison to understand how nearby areas might compare to one another. This will help us use real data to select the best investment, instead of a hunch or gut feel. Here I’ve compared two markets that I am considering between the two for my next investment: Invermere in orange and Sicamous in blue. The graph below compares the two, filtered for 5+ guests, looking at revenue:
In this one it does look like Invermere has generated higher revenue in the last year and is seeing greater year over year growth. The tail end of the summer is better as well, which means that the peak season might last a little longer.
Finally, we’ll confirm our results with a comparison between markets on occupancy:
Again, Invermere has outperformed Sicamous, especially in the last year. The numbers may seem low because we are averaging out all properties, instead of taking the 75th and 90th percentiles as we did above. With that said, the peak season seems to start earlier and last longer in Invermere. Based on these graphs, Invermere is clearly the better choice at this point in time.
Run the numbers against a real property
Now it’s time to find a property. I’ve grabbed this one from realtor.ca (the Canadian MLS website) for comparison. It looks beautiful, likely only needs some small cosmetic touch ups and furnishing to be ready for market. Not to mention it’s 5 bedrooms (with space to add more in the future, a huge plus). In fact, this house has room to add extra bedrooms in the basement, and potentially even an ADU in the back yard! You can absolutely combine financing strategies to work in a BRRRR on an Airbnb, however for this one we’ll keep the numbers pretty straight forward.
Up front investment
Let’s use a purchase price of $700,000 and 20% down, which works out to $140,000 down. There are a few other up front expenses that we’ll add in before it would be rent ready. In BC, there’s a land transfer tax, you would have legal fees, appraisals and other related closing costs. After closing, we would also want to account for furnishing the space, miscellaneous repairs and maintenance, and a capital cost emergency fund, just in case something urgent comes up and needs immediate attention. With conservative estimates, $188,500 would be required upfront to get this property purchased and rent ready. It sounds like a lot, but this is a higher priced home. You can absolutely apply the same logic to properties at every price point!
Monthly expenses
To calculate your total monthly expenses, you will need to account for the mortgage payment, insurance, utilities, internet, cleaning, restocking supply of consumables, capital cost fund. For the mortgage, I have assumed 25 years at 3.59%. Note that I have omitted cleaning fees as they are typically charged directly to the guest. Here is an expense breakdown, courtesy of the Bigger Pockets rental calculator:
Monthly revenue
Now that we have our up front capital requirements and an estimate of our expenses, it’s time to understand and set our expectations for revenue. For that, we’ll play it conservative and run our comparables to those 4-5 bedrooms, even though we have 5 in this property. In AirDNA, we can check historical rental revenue and set the filters, looking again at the 75th and 90th percentiles:
This report shows some variability due to the limited number of properties with this much space, and also due to the impact that COVID has had over the last few years. The good news is that there is a pretty consistent upward trend for revenue. Let’s play extremely conservative and estimate an average of $8,000 in revenue per month, even though there are several months in peak season that can double that number. A safe estimate will also ensure that we are cash flow positive in each of all 12 months of the year.
Returns
Now what we’ve all been waiting for. Straight to the point: this property knocks it out of the park, no matter how you look at it. The Bigger Pockets calculator generates some great reports, but most importantly is the Cash on Cash (CoC) return: 19.41%!!! That means that every year, you will see a 19.41% return on your investment! (to calculate, take profit of $3,000/month x 12 = 36,000, then divide by the initial cash investment of $188,500) Not to mention that this improves significantly over time. Wow! You are free to set your own personal thresholds, however I like to look at any property that sits in the 15% CoC range or above.
Pulling it all together
Although this seems like a lot of work to get to your bottom line, it really becomes quite quick and easy once you’ve done it a few times. The key to everything is selecting the right market in the first place. After that, finding a great property usually comes much more easily.
So, have you ever purchase a short term rental investment property? Did you get into the details and run the numbers beforehand, or do it on a gut feel? Let me know in the comments, I’d love to discuss your experiences!