Many supposed investment experts will say that the most important metric for a real estate investor is cash flow. They advise that if an asset doesn't provide positive income from day one of your holding period, you shouldn't buy it. For some investors, they're right, but not for everyone. Determining the importance of cash flow is a slightly more complicated process than simply using it as a yes-no decision maker.
Here's the key to understanding cash flow. Every investment should have the ability to cash flow within a reasonable period of time, even if it won't cash flow from day one. Applying this rule will stop you from making unwise investments while not closing you off from the large universe of excellent value-added properties.
Why Cash Flow (Now) Isn't Important
The old adage that it takes money to make money holds true in real estate. If you have a large war chest of available equity, you can turn around and buy multiple cash flowing assets. They won't grow much, since their value is usually close to being maximized -- that's why they're cash flowing -- but they will provide you with ample income and, over time, normal appreciation and principal pay down should give you enough equity growth to stay ahead of inflation.
As a newer real estate investor, though, you may need to build your war chest by taking more risk. Buying distressed assets for a low price can be an excellent way to do this. If you can buy a property for $200,000 less than its true value and spend $100,000 to get it there, there's a $100,000 in profit for you to pocket. While you're doing this, though, you're not collecting rent. That negative cash flow might be unpleasant but, in the long run, you'll come out ahead of it.
Why Cash Flow (Eventually) Is Important
Whether you're a real estate investor that buys to hold or one that plans to flip, a path to cash flow is still important. You can't hold properties that don't cash flow forever, so it's a must if you're a long-term holder. While the potential cash flow might not seem important if you plan to fix-and-flip, it protects you in case the buyers don't show up. If the market contracts and you can't sell, cash flow-capable properties give you the opportunity to earn profit while you wait to execute on your primary strategy.