My first multifamily development

[Khizar Hanif]

Hey all. 

My dream has always been to get into commercial development and recently, I have found a developer/mentor whom I am doing my first multifamily deal with. The developer is giving me an opportunity to partner with them since I have a solid network of high net-worth individuals who I will be raising capital from. This will be a great opportunity for me to team up with a seasoned developer and learn the business from the ground up (literally) while bringing value in terms of equity partners. That being said, since I am starting a new endeavor which I wish to grow in and eventually be able to do on my own, I need to ask the right questions and make sure this is the right deal for me to begin with. On the other hand, it is very crucial for me to build a solid relationship with my investors right from the get-go. 

What are some questions and points to hit on when partnering up with a developer? These guys know what they are doing and are giving me the opportunity to join them, but I am also bringing in my own equity along with equity from my network, so I believe I am entitled to ask questions even though it may seem like I am interviewing them. 

Class B multifamily (garden style)

1 BR-90

2 BR-70

3 BR-5

Total units 165

Land: 6 acres @ $8/ft

Land cost: $2,090,880

Construction cost $115/ft (could be as low as $105, but we will use $115 to be conservative) = $14,875,250

Club house/gym/swimming pool = $375,000

Soft costs = $1,000,000

Developer fee = $1,800,000 (split 50/50 between developer and myself)

Total development cost = $20,141,130

Revenue

(90% occupancy) monthly = $182,750

Extras = $8,250

Total revenue = $191,000/month

Expenses

Interest (5.5%) = $64,500 

Taxes and Insurance = $45,000

"Extras" = $30,000

Total expenses = $139,500

"Monthly profit" = $51,500 

"Yearly profit" = $618,000

ROI 12%

After Construction loan is paid off and we move to a bank loan we start paying P&I--->

Expenses

Principle + Interest (5.5%) = $86,500

Taxes and Insurance = $45,000

"Extras" = $30,000

Total expenses = $161,500

"Monthly profit = $29,500

"Yearly profit = $354,000

ROI 7%

Capital raise of $5,035,283

Bank loan of $15,105,848

My questions/concerns:

We have only met once to discuss the deal and I was given the basic numbers. We haven't gone into much detail yet, but I have a few things to point out before even asking for advice from you guys. 

1. I would expect a proper excel model with line items broken down instead of just saying vaguely for example, "extras" on the expense category. But I am just assuming these guys are old fashioned and haven't brought on any partners as developers before so they are fine with a simple model that meets their needs.

2. Where is PM, utilities, payroll, leasing commissions, landscaping and upkeep, repairs, capEX, vacancies, and marketing?

When I asked them about that, they said all the above are included in "extras". Is it possible to have all of those expenses covered with $30,000? 

Here is what they broke down for me:

PM (4%) roughly $8,000

Payroll including leasing commissions (5%) roughly $10,000

Utilities, Landscaping, upkeep, and marketing is covered by the remainder of the $30,000

Since its a brand new development, they haven't allocated reserves to Repairs and CapEX. Which I don't agree with. We plan to hold and refinance, so for the long term I believe those reserves should be created.

3. Is the 5.5% interest on construction loan possible? I was told it should be closer to 8% on a construction, interest only loan. 

4. Overall I need to ask them for a detailed breakdown of the line items. 

What are some other questions for me to ask?

[Greg Dickerson]

I have a few questions before I could respond to your question  accurately . Has the land been purchased? Are all of the entitlements secured? Building permit? Plans specifications? Who is the general contractor and do they specialize in nothing but apartments?

 Before you invest in a deal or more importantly before you bring other peoples money to a deal you definitely need to have complete as  thorough financial modeling and complete and thorough cost breakdown of the construction project as well.

If the developer is also going to be a mentor I would think any questions you ask would be welcome as long as you are respectful and agree that you’re going to ask a lot of questions so that you can understand the process as well as be able to answer to your investors.

 I can’t speak to the numbers since I have not seen complete plans and specs and finishes level of construction site conditions etc. but overall they look average for a typical straightforward project with vinyl siding or fiber cement siding shingle roof mid grade level of finish. 

 You need to make sure you have a construction Contingency and interest reserves as costs have been going up  at a rapid pace and projects Have been taking 25 to 30% longer than in years past 

[Simon W.]

There are a lot of variables and questions within questions. First off, did you ever get to see their financials on their finished projects or current projects?

For 165 units and the soft cost is only $1M seems a little light.

Did you get a breakdown of the soft cost? How much is the architect fees will be? Inspections, Permits, Survey, Monitoring Services, geotechnical, insurance, environmental, violations, taxes, accounting, legal, office & misc, construction loan fees, acquisition fees, and so on.

Your development fee is too heavy. You're at 4.91% each. My company only do 4-6% TOTAL. Even then, the lender might not agree with your cost.

How long is the loan term good for? I highly doubt you will be getting 5.5%, we are getting them at 7-9% and some up to 10% depending on the terms.

I wouldn't focus too much on the P&L yet since the construction hasn't been started. Construction takes 1-2 years before completion and depending on the circumstances it may take longer.

I am a developmental controller and a property controller for stabilized assets.

[Chris K.]

@Khizar Hanif

My thoughts in no particular order:

• For operating expenses, their pro forma says it's about 40% of the gross revenue ($45k +$30k). That seems to be in the ballpark for something of this size.

• What's the exit plan for the development? How long do you guys plan to hold? The exit plan will ultimately determine your return so it's something to be clear about.  

• For a development of this size (and since it is brand new construction), your repair and CapEx reserves are going to be a smaller percentage than say owning an SFR. You can add it if you want for your own pro forma purposes. But assuming you avoid disaster during construction, it shouldn't really affect your calculations too much.

• For the loan, it's hard to say since the source is unclear. It's possible that they have something lined up for 5.5%. I've seen odder things. But they should be able to tell you.

• If it's an experienced developer, they should be able to provide you some more info about their past projects.

• Hard to say anything about the development costs. But it doesn't seem crazy/absurd at initial glance.

Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it for legal advice. Always consult with your attorney before you rely on the above information.

[Nik Moushon]

A couple questions:

• What building types are you doing? Is this a bunch of 12 plexs or a couple mid rise towers? Depending on const. type and design, 6 ac seems small for that many units but I dont know your zoning or const. type.
• I'm not sure of your market but, too me, it seems you are heavy on the 1 BR and light on both the 2 & 3 BR. Just an example an apt complex I'm working on is 7% 3 BR, 7% 1 BR & 86% 2 BR. Obviously different markets demand different things, but something to double check. This is more important on resale too. Unless the market is in real demand for 1 BR, too heavy of 1 BR apt is not something most investors look for.
• How are you planning on doing your Club House? Stand alone building or built into another building? The cost for all that seems low. 
• Your soft costs seem very low as well. Your architect fees alone are going to be in the $750k ball bark (@5% of const. cost). This is something you need to take a HARD look at.