Brent Little, Place Properties: We’re a private student housing developer based in Atlanta, with a regional office located in Dallas serving the western half of the U.S. Like seniors housing and mixed-use housing, student housing is having its day in the sun. States and universities are having budget problems and can’t replace facilities, resulting in accelerating obsolescence. Students are staying in school longer, high school graduation rates are increasing, and the echo boom demographic continues to move through the country’s colleges and universities. There is a flight of capital to housing market niches like student housing. The greatest challenge is finding the sites, competing for land in mostly urban locations with condo developers and schools with unlimited capital, 100-year plans, and no taxes on real estate.

Michael Meers, Freddie Mac, Multifamily: I cover the Southeast region, so my comments relate to the markets for Maryland to Florida to Louisiana. Last year, most markets had rental income growth in the 4 to 5 percent range, and expectations are that we should continue to have that sort of income growth in 2007. Expenses are pretty well under control. Most of the opportunities and challenges center around the onsite management of the property and optimizing human capital to ensure that property operations perform at a level where investment returns are commensurate with investor expectations and requirements.

Tom Moran, Moran and Co.: My comments are limited to institutional sales in core markets like Chicago and Southern California where new construction is severely limited. Stabilized core properties are selling at a seven-year unleveraged IRR [internal rate of return] of 7 percent, and a leveraged IRR of 10.5 percent. These IRRs translate into a 4.25 percent cap rate in Southern California and a 5 percent cap rate in Chicago. Because it is difficult to buy stabilized core properties, more institutions are joint-venturing new construction. With the high costs of construction, the challenge is achieving an acceptable yield to cost. The yield to cost at stabilization in California could approximate 5.50 percent, with 6.50 percent in Chicago. At current cap rates, these are acceptable yields for new construction in these two restricted markets.

Because of the limited amount of new construction in Southern California and Chicago, institutional investors are very active in joint venturing the rehabbing of 10- to 15-year-old properties. The IRRs for the leveraged core rehab could fluctuate from 10.50 to 14 percent, dependent upon the rehab and market risks.

Samuel “Trip” Stephens III, ZOM Inc.: We’re a regional development company with operations in Florida, Texas, and now the Mid-Atlantic region. Insurance has skyrocketed, particularly in the Florida region where we currently operate, and also in Houston. [In places] that are exposed to hurricane activity, insurance premiums have gone up three-, four-, I’m hearing now even five-fold in the last two years, so as an operator of an apartment community, if you’ve seen your insurance go from $1,000 a unit to $3,500 a unit, you can imagine what that’s done to your cash flow. Property taxes will be an issue for owners as well, particularly in markets where you’ve had large property sales for much higher than appraised value. Condo conversion sales are also impacting tax assessments. In terms of opportunities, failed condo conversions may be an acquisition opportunity as lenders begin to foreclose. ZOM has also capitalized on two distress situations where would-be condo developers elected not to move forward. In both cases, we acquired land positions in excellent urban locales, and we are revising the existing construction plans to lower the average square footage and adapt the project to a rental format.

Bowen: I think it’s a good phrase, bubble-ized thinking. Lee said he didn’t think that things had changed that much the last 30 or 40 years, and I think one thing that has changed quite a bit is the liquidity of the market. There’s a lot more capital more easily coming into real estate, on both the debt and the equity side, and it doesn’t look like that is going to change. And in one form or another, I mean this conduit business, it really works. You can get people investing in commercial real estate mortgages at various levels of risk. You can put it together and some people have extremely safe investments in those AAA-rated bonds. Others were buying the subordinate bonds. They’re taking more risk and getting rewarded for it. But will that ease of capital coming in and out, will that have an extreme effect in the other direction when the cycle turns?

Kelly: Could the money dry up and the capital flow go the other direction and would that mean a capital crunch like we had in ‘89, ‘90? And all of a sudden, we’ve been playing musical chairs, and when the music stops, I don’t have a chair.

Shashaty: As Charles mentioned, regulators are cracking down on regulated institutions and giving them trouble about their commercial real estate loans. He also mentioned the problems with subprime lending in the home market. What does it mean for mortgage terms and availability?

Berman: The Mortgage Bankers Association just did a study on the future of real estate finance. And the clear consensus among industry experts in the capital markets is if you look at the trends over the last 40 years, every downturn has been shorter, and the abilities of the markets to come back have been more and more resilient. Part of the reason for that is that there is so much capital and liquidity, and it’s globalized. We are no longer in a market that’s controlled by U.S. capital. It’s a global industry. There’s more and more money coming from more and more institutions spread out all over the world. And any time anybody withdraws from that, it’s like water—it just gets filled in immediately.

The subprime lending problems will have an effect on investors generally, which will spill over into the multifamily and commercial real estate sectors. While there will continue to be plenty of capital available, we expect that underwriting will become a bit more conservative and that credit spreads may widen, at least in the short term. We have been seeing a very high percentage of loans that have some component of interest-only, while debt service coverage is down in many cases from 1.20x to 1.10x. It goes down to 1.0x and even a 0.95x on some value-added transactions. We believe that this interest-only trend and low debt service coverage trend will be corrected, as the underwriting has gotten too aggressive. Investors in debt will generally demand more disciplined underwriting in the multifamily and commercial sectors. As a result, we will see more equity invested in multifamily acquisitions. This may also have some impact in the form of modest increases in cap rates.

Harris: The one thing we have never seen before is this almost total lack of risk premium. Maybe with the global nature of capital, that no matter what happens with the underlying asset, maybe there’s no need for the level of risk premium that we’ve all grown up thinking we needed to have. I guess the only question I would pose in the current environment is what is the exit strategy? If you’re a buyer today you’re looking at three, five, seven years. I think there is still tremendous volatility in our industry particularly as we become a global economy. What happens seven years from now if you have to sell?

Shashaty: The fastest-growing group of prime apartment renters is immigrants and other households who don’t earn enough to pay rent for a typical newly constructed apartment. How can the industry meet the need for workforce housing?

Hart: The challenge is avoiding over-improvement to the property. It requires a lot of restraint, and a lot of revisiting one’s business plan and understanding when you made the decision to simply re-glaze counter tops versus replace them with granite, things of that nature. It requires high-quality underwriting and precision, balancing your rehab budget with your rental growth projections.

Doug Bibby, National Multi Housing Council: Echo boomers are looking for jobs and we aren’t creating them [high-paying jobs]. This is the big issue we face. For legal immigration we’re on pace to break the record of the biggest surge in our country’s history. And then you have the downsizing that’s gone on, particularly in the auto industry. Take a look at just GM, Ford, and Delphi—hundreds and thousands of jobs paying between $40 and $60 an hour are lost. And they’re moving in, they’re moving their jobs, they’re moving into $10- to $12-an-hour jobs. The demand side for apartment living is just enormous and will be strong for years to come.

Shashaty: We have a question from the audience.

Dan Lieberman, Horizon Management Group: I’m going to ask the panel for some specific cost-saving measures that have worked, to allow one to work in the environment where people can only afford so much.

Bibby: The No. 1 way a municipality can help developers control costs is to buy down the land. The Urban Land Institute and NMHC are doing a study that will showcase a lot of examples around the country of strategies that have been used to try to help educate local leaders on things they can do. Even those municipalities that don’t have a very healthy economy still can do things. They’ve got buildings, they’ve got land they can use.

Little: It’s an educational process with these cities sometimes. They don’t know the arsenal of weapons that they have at their disposal, so we have a list of items we can go through with various leaders of the government. It can be things as simple as not charging impact fees for schools if you’re not contributing to the burden of the school system. There are so many things that cities can do if they are familiar with them. You will go to them, and they will say, “We’d like to help you, tell us how.” Reducing impact fees for water and sewer, tipping fees at the landfill, providing improvements in the public rights-of-way—there are all kinds of things that they can do to help you.

Shashaty: Let’s switch gears to markets. I want to go around the table and see who wants to talk about markets, what markets are looking better than they were; what markets are looking worse; and how much of a factor is the condo slump at this point on rentals?

Bowen: We have a research department that covers the 30 top markets in the country. There’s some softening in Florida and in San Diego, which may well be attributable to the condominium effect. We’re seeing that the high-barriers-to-entry markets have gotten so high-priced that the opportunities are more difficult than they were a couple years ago there, and places like some of the Texas markets are looking like a more reasonable value. Even though the capitalization rates there may seem low at first glance, there are still good prospects for population and employment growth. It may be a good bit similar to some of the Midwestern markets like Cincinnati, if you choose your location or suburb very well, or St. Louis.

Friedman: The New York market, of course, is very good. We’re not seeing any condo impact there. We have converted a couple of properties from condominium to rental during the construction period. But in Florida, especially in the Southwest where we do have some condos that we’re converting to rentals, the rental market has been impacted. We have not seen any significant impact in Orlando or Jacksonville or South Florida from condo conversions.

Cooley: We looked at Las Vegas recently for an apartment complex, and we’re looking at what’s going on with condos there. They canceled 11,000 units. There’s just this huge amount of stuff coming online there and it made us nervous. Here in Florida, it’s just so localized that I’m not sure that you can generalize about the impact of condos. And there are going to be some markets that maybe you wouldn’t look at before, but you will now just because they don’t have this impact.

Kelly: In Texas, there has not been a whole lot in condo development and hence, not much condo conversion. But if you strike out the words “unsold condos,” and insert “foreclosed houses,” we’re right at the top of the pack. Dallas County has 2,500 foreclosures a month. And what’s that done for us, because those units don’t go away even when there’s a foreclosure, it has beaten up vacancy and rents on two- and three-bedroom units. My rents on three-bedroom units have dropped from $1,100 a month to $800 a month, simply because of the competition from single-family housing, and there’s a whole lot of it.

I would say every market in Texas is better now than it was a year ago, and it will still be better next year with the exception of Houston.

Roundtable participants

Andre Shashaty, editor in chief, Apartment Finance Today

Michael Berman, president, CWCapital

Douglas Bibby, president, National Multi Housing Council

Kenneth Bowen, senior managing director and chief underwriter, Red Mortgage Capital, Inc.

Thom Cooley, vice president, ARCS Commercial Mortgage

William Friedman, CEO and director, Tarragon Corp.

Mel Gamzon, president, Senior Housing Investment Advisors, Inc.

R. Lee Harris, president and COO, Cohen-Esrey Real Estate Services, Inc.

Bob Hart, president and COO, Kennedy Wilson Multifamily Management Group

Richard Kelly, principal, LumaCorp, Inc.

Charles Krawitz, managing director, Multifamily Finance Group, Lasalle Bank

Brent Little, development partner, Place Properties

Michael Meers, managing regional director, Multifamily, Freddie Mac

Tom Moran, chairman, Moran & Co.

Samuel "Trip" Stephens III, CIO, ZOM, Inc.