The Great Recession offered quite a few distress acquisition opportunities for companies looking to grow their portfolios with some bargains.
But the pipeline of distressed assets (or assets from distressed owners) hasn't dried up completely yet; you just need to look a little harder.
Officials at Cortland Partners saw the chance to acquire distressed properties as an opportunity to dive into the acquisition market. The Atlanta-based company’s focus had been mainly on development deals prior to 2010. And as the market began to recover, the company began buying, CEO Steven DeFrancis said.
“We are a development company by DNA,” he says. “And we’re using that expertise to execute on acquisitions that need to be repositioned, renovated, have a new management plans (developed) and new marketing plans (put in place).”
Cortland went on to acquire 48 properties, which included over 15,000 units, over the past three years and they’re showing no signs of stopping.
The company recently closed a $130.3 million deal to acquire more than 1,000 units across Florida and Texas. DeFrancis says he is looking for the best opportunities in key markets and is keeping a keen eye on Austin, Raleigh and Nashville markets.
“Although we have looked at about 100 deals in those three markets, we have not found anything that looks interesting to us,” he says.
And development deals aren’t off the table either, DeFrancis noted.
“We are agnostic between development and acquisitions,” he says. “We just look at them relative to one another. When we get to the point in the market where we think the risk adjusted returns are greater in develop than in acquisition, then we will focus there.”
10 Federal Finance
Another up and coming company, Durham, N.C.-based 10 Federal Finance, also caught the acquisition bug over the last three years.
The company was able to seize the opportunity at the time, but the market is slowing down, company co-founder Cliff Minsley said.
The acquisitions window was relatively short-lived, Minsley says. With interest rates climbing and Fannie and Freddie tightening its grip, the amount of acquisition deals will likely wane. And the ultra-low debt costs over the last few years may have provided something of a mirage for short-term holders, complicating exit strategies.
“Their plan is to refinance out of those in three years,” Minsley says. “But I think that’s risky. If interest rates climb dramatically they’re going to have a real issue refinancing the piece of property at the same debt leverage. It can become problematic for a lot of our peers.”
Finding investors wasn’t a problem three years ago as the market was relatively ripe with distressed assets. The company quickly obtained over $15 million in equity.It wasn’t pitching a 20 percent rate-of-return type of deal. Instead, it looked for pure cash flow, which appealed to plenty of investors that were battered between 2008 and 2010, some of which had put equity into speculative development deals only to net cash losses and get 30 cents back on each dollar.
“We were tired of that,” Minsley says. “We wanted cash-flowing assets. We wanted good markets. We wanted a good product. And on top of that, we wanted good debt.”
Good debt to them was safe, fixed-rate debt which, when coupled with buying existing assets in high barrier-to-entry markets, became a value-added inflation hedge play for the team. Life company loans weren’t a viable option because the company founders, Minsley and his older brother, didn’t have a long-term track record.
But HUD loans easily fit the bill. The company stood “on the shoulder of giants,” Minsley says, with experienced sponsors and hiring the right third-party management companies before taking over.
“We were using the same assets, but we were using a lot of co-terminus, fixed interest-rate HUD debt, whereas a lot of other people were using a lot of balloon term, five- and seven-year deals,” he says. “We’re almost immune to where interest rates go, so long as the rising interest rates don’t cripple the economy as a whole.”
But even HUD debt has its pitfalls, with its costly front-end reserves and insurance requirements, making it difficult to get returns that are acceptable for investors. This, however, prevents 10 Federal from growing too fast, too soon. Over time, Minsley expects rental growth to inflate the company’s returns.
“Inflation will be an extra booster rocket, so to speak, on those returns,” he says.