I was in line at Starbucks and then it hit me. The perfect analogy for price per sq ft in real estate. While ordering my Grande drip with no room, I began to wonder how much I was paying for each ounce. Maybe that means I’m a geek, but was I really getting the most bang for my buck to buy a Grande (medium)? Or should I go with a Venti (large)? Take a look at the image below to see how price per ounce works at Starbucks, and then let’s consider a real example of this principle in real estate.
Big Point: The larger the cup, the less you pay for each ounce of coffee. Or we could say it a different way. Smaller cups of coffee tend to cost more per ounce. This is interesting, but it’s not really surprising because it’s merely an example of economies of scale, right? We see this principle all the time when buying bigger or smaller items, yet it’s easy to ignore when it comes to housing. So let’s take a look at all residential home sales from last month in Sacramento County. Do you see a similarity with the coffee?
Big Point: The larger the house, the less you tend to pay for each square foot. Or we could say it a different way. Smaller homes tend to have a higher price per sq ft compared to larger homes. This is a principle we see when looking at county-wide data, but it’s also something we tend to see by neighborhood (assuming we have enough data). Just like coffee costs less per ounce the more you buy, it tends to cost less per sq ft for the more house you buy. That’s the big idea.
Be a Great Explainer: I love this analogy. Maybe it’s partly because I’m a coffee fanboy, but in truth talking through price per sq ft is hands-down one of the most relevant conversations to master in real estate. I hope the next time the topic comes up with a client, maybe you’ll think about using Starbucks cups to explain how price per sq ft tends to work in a neighborhood. For a refresher post you can read 5 things to remember about using price per sq ft in real estate.
Question: What drink do you order at Starbucks?
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Wow, great analogy! I’m going to steal this with attribution….
Next question: Is Starbucks Q4? Peets Q3? Temple Q2?
Thanks Joe. I’m so glad you’re on board with the analogy too. 🙂 I was excited when it came to me in line a few weeks ago. We can’t forget about Temple Coffee too.
Temple coffee is East Sacramento. Very pricey per sqft but worth it to those who pay the premium
Now that’s a metaphor, Matt. Well played (and true). I think I paid $2.75 or so for a cup of coffee there a couple weeks ago. Their coffee is loaded with caffeine though, so it certainly does the trick.
You might want to add something about fixed costs vs. variable costs for why PSF tends to go down for larger homes. Same applies to coffee-fixed costs are large (site, power, etc.) while variable costs are low (cost of coffee grounds).
That would be good, though you just said it, so there it is. Thanks Joe. Like any good post, so much value is found in the comments, so I appreciate your take. There is honestly so much that could be said in each blog post. I find it’s important to be selective and just leave room for comments and exploring ideas and issues in conversation and future posts. I have one friend who emails me after some of my posts to say, “Dang Ryan, that was way too long.” In his honor this post was written. #shortandsweet 🙂
Love this analogy! I think that it is one the many could understand. The same would apply to valuing land. The larger the lot, the smaller the price per square foot or price per acre. Of course, as a fellow coffee lover, I really like it. Thanks! 🙂
Thanks Shannon. Excellent point on price per sq ft per acre. I’m so glad you mentioned that.
Just for fun: The correct coffee size is small!
http://domesticity.gawker.com/the-correct-coffee-size-is-small-1638084505
And, here’s an analogy to go along: A smaller house may be better:
http://www.thesimpledollar.com/why-you-should-buy-less-house-than-you-can-afford/
Thanks Mike. Classic coffee article. I appreciate it. Speaking of small houses, I just finished up a show on Netflix called Tiny House Builders. It’s amazing how much utility you can find in a smaller space. I’m not about to try living in 128 sq ft, but I find it intriguing nonetheless.
Home run analogy Ryan. The Law of Diminishing Returns is alive and well in real estate and coffee.
Thanks Gary. Yes indeed my friend.
Great analogy for explaining why larger homes (or larger lots) sell at a lower price per unit. Another way of looking at the data is the marginal cost for each additional ounce. The first 12 ounces sell for $0.16 per ounce. The next four ounces are priced at $0.075 per ounce. The next 8 ounces are priced at $0.025 per ounce. As Gary pointed out above, the law of diminishing returns. A great way to explain to the layman how you developed lot size adjustments or a simple GLA adjustment.
Tom, I love it. Thanks for the different look at things. Very useful. I think sometimes it’s easy to look at something that is twice the size and think it is worth twice as much, though it’s simply not how it works in many cases.
Great analogy to help people understand value to size. And since you asked for the Starbucks order I may never order again as my .38 each K Cups I tried for a 12 oz pour is .03 per ounce. Never really compared at that level it till now, no more Starbucks for me 🙂
Thanks Steven. You know, we do really have to count the cost to what we are spending on coffee and lunch and such. I definitely buy coffee every week because I’m a fan, though at the same time I’m careful to not buy too much (or every day as much as I’d like). It starts to add up if we’re not careful. It’s amazing how buying coffee every day or eating lunch out really adds up over time. Just $10 per day (M to F) can be $200 per month and then $2400 for the year.
Good stuff, Ryan. The article and Starbucks that is ?
Thanks Wendell. Speaking of coffee, it’s time for a refill.
Great analogy. A mix of fixed costs and variable… but they’ve adjusted them to market. They are charging somewhere over $1.. $1.25-$1.35 for service, pour and cup and 5-6 cents per oz for the coffee.
Buy a home and you pay $____ for the lot, permit, connections (mostly location costs) and $50-200 per foot for the house on top depending on condition…. Older neighborhoods the value of the remaining construction, especially if neglected is smaller than most buyers understand and the location costs is much higher.
Fantastic, Jeff. I appreciate your breakdown of coffee and real estate. I know you bring a unique angle in light of your building background too.
I was going to use 45th x M in East Sac as an example but couldn’t find a current comp … but then got a new listing email for something newer near by… $2.5 mil for 5800 sf @ 1441 40th… about $1mil for the lot, existing connections and permits & $250 for the freshly remodeled home. New construction for this level of home is likely $300-400 per foot, but sight unseen it could be more.
Nice example (and nice street). That’s one of the big ones for sure. I just ran some Fab 40s graphs yesterday actually.
Great analogy and I not only enjoyed the article but all the insightful comments as well. Keep up the great work my man!
Thanks Matt. I appreciate it. I’m enjoying all the comments too. Comments often take a post to a whole different level. Thanks everyone.
Hello Ryan,
I’m new at this real estate investing and I want to learn from as many resources as possible. Love to read the comments and I’m sure I will be investing in the SAC area eventually being that I live just north of you in Redding. Thanks for the post, great example. As I start this journey I decided to build a website around real estate investing. http://reddingrealestatepros.com/
I have lots of work to do.
Thanks again.
Chris Tuttle
Hi Chris. Thanks for reaching out. Congrats on the adventure of real estate investing. Keep me posted if you have any questions or insight. I look forward to hearing how things go for you.
Great analogy Ryan. It’s so simple but sometimes we forget to carry over that basic economic principle to other things like housing. Something else others may want to consider is what happens when you start adding extras. When you make that coffee a Mocha or a Cappuccino then the pricer per unit will change and vary similar to adding additional features to your home like a finished basement or granite counters instead of laminate. Just some food for thought.
Thank you so much Tom. I’ve not compared the price of lattes or mochas. I would be curious to see if they keep their pricing at a similar rate of change as drip coffee per ounce. Next post. Starbucks Salted Caramel Macchiatos and Price Per Sq Ft (kidding).