San Diego – Multifamily owners and developers stand to benefit from long-term positive trends in demographics and the economy, but they will still need to be armed with the best strategic and analytical tools to take full advantage of the situation.
Apartment professionals attending Apartment Finance Today’s second annual developer conference heard from a number of industry leaders about how the flood of equity is affecting apartment markets, how developers in weaker markets are finding success despite slow growth, where financing is coming from, and much more. The three-day event, restricted to apartment owners and developers, highlighted the many ways that multifamily companies can increase the value of their properties and make smart investments for the future. Linneman and Terwilliger praise apartment market fundamentals
The U.S. economy’s growth will continue for several years, buoyed by population and job growth and an unchallenged ability to attract global investment, said Peter Linneman, the Albert Sussman professor of Real Estate, Finance and Public Policy at the Wharton School of Business.
Linneman shared the keynote duties with his friend J. Ronald Terwilliger, chairman and CEO of Trammell Crow Residential. Together, the two experts explained why they believed apartment professionals should be bullish on the rental housing future and aggressive about their development plans.
Interest rates will remain stable for many years because the federal budget deficit is not out of line with the overall size and strength of the economy, said Linneman. There won’t be a recession for at least the next three or four years, but then, Linneman said, new elected leadership in Washington, D.C. – from either party – along with business leaders making unwise “strategic” moves with the cash they’ve built up in recent years could combine to slow the economic engine.
He predicted absorption of 400,000 units in 2006, compared to 340,000 in 2005. The 3 million people added to the country’s population each year are of particular interest to the apartment industry because they will continue to add pressure for new construction, said Linneman. He did have bad news for Rust Belt cities in the Midwest, many of which he said were in long-term decline because the industrial services they offered simply weren’t of high value any longer. “We just don’t need that many people to bend metal any more,” he said, likening the loss of population in many of the cities to the trend of people leaving the farms in the previous century.
The population trend was only one of the reasons Terwilliger remains an aggressive and optimistic rental developer. He also cited household growth of 1.4 million a year, a wide differential between the cost of homeownership and rental that favors rentals, a growing movement to develop housing in urban infill locations, and increasing ability to raise rents after five years of stagnation.
Linneman predicted a substantial decline in construction costs in the next few years as China and other developing countries bring online massive amounts of production in basic materials such as steel. Terwilliger noted that a large part of the cost hikes in the recent past can be attributed to contractors and subcontractors making huge profits, but he expects their margins to drop back to normal before too long.
How long will the condo boom last?
This year is going to be highly competitive for condo developers and investors who are seeing a shift from a sellers’ market to a buyers’ market, said Jack McCabe, CEO of McCabe Research and Consulting. What’s left in supply for conversion is much more challenging, he told a session on condos.
McCabe called the Miami-Dade condo market the biggest bubble in the country. “It’s like nothing you’ve ever seen,” he said. McCabe said Miami will likely suffer a three- to five-year correction, and major developers and lenders are going to take hits.
Developers and investors are starting to consider more inland locations instead of coastal areas for condo deals, the panelists said. Emerging markets include Asheville, N.C.; Nashville; Austin; and Phoenix.
Another trend in condo development and conversion is the condotel, a mixture of traditional hotel rooms and for-sale condominium units. “They could become the timeshares of this age until statutory reform happens,” said Trip Stephens of Zom Development. The condo/hotel combination can be created in several different ways, and the financing deals for such developments can be extremely complex. People considering investing in them should pick a solid brand to go with, Stephens said.
Agencies in action
Lenders using Fannie Mae, Freddie Mac and Federal Housing Administration (FHA) programs said they are seeing constant improvements to the programs to make them more competitive with each other as well as other lenders, especially Wall Street conduits.
Addressing a session on agency financing, Ken Bowen, Red Mortgage Capital, Inc.’s chief underwriter for Fannie Mae Delegated Underwriting and Servicing (DUS) Loans, said Fannie has been continuing to increase the amount of delegation it gives to its lenders. At the same time, the government-sponsored enterprise is meeting conduit competition head-on by increasing loan leverage with its DUS Plus program.
Similarly, Freddie Mac has been working to make its programs faster and more efficient, and recently rolled out its own high-leverage program, said John Cannon, GMAC Commercial Mortgage Corp.’s senior vice president and managing director.
One challenge for FHA lenders is the controversial proposal to increase the mortgage insurance premiums (MIPs) for most FHA programs from about 45 basis points to about 80 basis points (see page 12). Dee McClure, senior vice president of CWCapital, urged developers and lenders to contact their Congressional representatives to educate them about the importance of FHA programs and to argue against increasing the MIPs.
Hurricane housing
Apartment owners and developers in the Gulf Coast states are tackling the enormous task of rebuilding after the hurricanes that devastated the region in 2005, and several of them told a special “Housing After the Hurricanes” session that they are being stymied by incomplete regulations and guidance from government authorities.
In the end, New Orleans will “emerge a smaller, denser city,” said Larry Schedler of Larry G. Schedler & Associates. He said the city will likely adopt more mixed-use buildings, along the design of San Diego’s famed Gaslamp District, and also will see higher-density and taller buildings built to take advantage of the best sites in the city.
Different types of properties will be built, too, said Dan Markson, vice president of NRP Group, LLC. For example, he believes many seniors will not return to an environment that is likely to be difficult for them to cope with, so instead of 200-unit seniors projects, “we’re looking at 70-, 80-unit seniors developments.” Meanwhile, single-family construction in New Orleans is being held up because the Federal Emergency Management Agency has not yet released new specifications for property elevations.
Financing seniors housing and assisted living
The seniors housing industry has matured greatly over the last decade, as much better data has become available, higher-quality and more stable institutional capital has flowed into projects, and developers have come up with better products, according to investors, developers, and appraisers speaking on a panel on seniors housing opportunities.
“The bar has been raised significantly,” said Alan Plush, president of Sarasota, Fla.-based HealthTrust LLC, a seniors housing and healthcare real estate valuation company. “Fifteen years ago, it was a real Wild West town in a lot of ways.”
Now, more than a dozen companies have built strong management teams, an evolution that highlights the increasing professionalization of the industry and its emergence as a more stable asset class, speakers said.
“The real estate developers have been washed out, and I think that’s been good for the business,” said Craig Jones, president of the broker-dealer arm of Red Capital Group, a housing capital provider. “The people who have done well in the last few years are really operator-oriented.”
With demand for seniors housing consistently outstripping supply, the main obstacle to increased development is the overheated real estate market, which has boosted the cost of land, lowered cap rates, and made it much harder for projects to stay in the black even with strong rental rates, speakers said.
Getting the best loan for your deal
Borrowers looking to get the best financing deals for their multifamily properties should figure out what their exit strategy is, consider using a mortgage broker, and narrow their search to five or six lenders instead of asking two or three times that many to bid on their project, said participants in a lending panel.
Having a clear idea of their acquisition plan and holding strategy can help borrowers determine what type of lenders to tap and what kind of financing makes sense.
For example, a buyer looking to wring the maximum amount of cash out of a deal would probably want to go to a conduit lender, which can probably come up with the lowest pricing and offer a borrower access to mezzanine debt on top of the conduit loan. As they’ve pushed to gain market share, conduit lenders have also been aggressive in offering interest-only financing to borrowers who need that to make a deal work, panelists said.
“Every deal is below break-even now as far as their pricing model is concerned,” said GMAC’s John Cannon. “It’s a feeding frenzy for multifamily deals.”
NOI builders: Increasing revenue and cutting costs
Multifamily property owners can slice costs and boost rents by aggressively managing costs for everything from utility expenses to property taxes and by adding amenities and adjusting pricing where it makes sense, said participants in a panel on boosting net operating income.
One of the easiest ways to increase income is to understand that each unit can be priced individually, said Steve Donohue, president of Western National Property Management, which manages a portfolio of 25,000 units. “There are certain locations and certain units that command premium rents.”
A lucrative cost-cutting strategy is to appeal your property tax assessments as frequently as possible if you believe the assessed value is too high, said Richard Kelly, principal with LumaCorp., which manages 4,200 units in 18 Texas properties. Though the assessor may base her numbers on the price listed in the closing statement, you can probably make a case that the assessment should instead use prices of similar apartment communities for comparison, especially if they’re being assessed at significantly lower values, he said.
“It’s the one time you want to paint your property in the worst possible light,” added Kelly. Make sure you highlight environmental problems, point to deferred maintenance if there is any, and note whether obsolescence is an issue for the property.
