350 unit new construction - competition or upside?

Question

Hey you all. I am under contract on a 24 unit Class C building (one bedrooms and two bedrooms). The owner has been self managing and the property is messy and any work done on it has been "half-***" The building has good bones and with an exterior and interior (per unit) rehab this can be a nice Class B building. The plan is to raise rents from an average of $590 to $715 over 24 months as we do the rehab. Contract price is $1.1M with an additional $300K for rehab. A value add from rehab and professional management.

We just heard that the city just approved a 350 unit apartment building about 2 blocks away. These are going to be Class A with expected rents starting at $850 (studio) to $1600 (2 bedrooms). Construction to start in 2021. There is also a newly remodeled retail location nearby that has a couple vacancies (not sure how long these have been on the market).

The lender we wanted to work with backed out because of this issue. My question for you all: how would you assess our current situation? Our property is in a suburb that is seeing expansion from (Kansas City). It seems that our property after rehab will be B class so won't go after the same demographic as the new apartment complex. Is it a concern that we will be marketing to tenants who can't afford the new "shiny" development (with community center, fitness, etc)? Appreciate any advice on how to think through these issues.

Edward Liu · Answer

Are you sure lender backed out before of new construction?   Did you hear directly from lender?    This is really strange as new development will only benefit the value of your building.    Usually lender back out means building numbers don't work out (can not cash flow) or your finances has issues.   I assume numbers don't work out as the main reason why lender walked.   My suggestion is to dig deeper and contact lender directly and figure out the reason.   Same reason will likely cause next lender to walk also.

Raising rent to $715 per door does not sound like class B in the Kansas City area, I would expect class B to bring higher rent.   I have units in Kansas City area that easily bring $800+ for B-/C+ area.

Mark Welch · Answer

The Class A development should not have a negative impact on your project. To reinforce your confidence, have your commercial realtor run a Costar underwriting report and use the data gathered to strengthen your initial strategy. If you need another bridge lender reach out to www.kramcapital.com.

Mike Dymski · Answer

The class A property does not seem relevant with such a massive rent difference.

$715/month is usually C rather than B class (check the median income for the zip code).

$715/month rent with $58k per unit invested will be lean from a profit standpoint, particularly with no scale or appreciation.

Charles Seaman · Answer

@Carnet Williams Your thinking about the new construction property not being competition is absolutely correct because both properties will be competing for different tenant bases.  If anything, as more new construction occurs, it'll allow you to push rents at your property because it'll leave less non-luxury apartment units in the area, meaning that demand will be greater for the product that you're offering.

Carnet Williams · Answer

@Greg Dickerson what is a small balance agency loan? I thought agency loans had to be over $1M. Will they include the rehab/construction amount in the loan? If so we would be over $1M.

Greg Dickerson · Answer

First as others have said you are not in competition with the new building. They are two very different animals. The new building will not be ready for tenants for a couple of years. You will be fully renovated and hopfully 100% occupied. Also a small project like yours is much easier to keep full.

Second you do not want rely on information for the broker. Make sure to get past and current financials to base your assumptions.

Third I would do the entire renovations as planned.You may qualify for a small balance agency loan so you may want to look into that and get your agency experience going if you do not have that already.

Corey Reuter · Answer

@Carnet Williams hey Carnet. I live in in Kansas City and am almost certain I know which property you have under contract. I was lightly looking at it too.

PM me if you would like to discuss. I know out of state can be hard and I am not sure if you have had the chance to view the property in-person.

Carnet Williams · Answer

I've been running my proformas with three models. One is present day (what the broker gave me), one has what I believe we can get rents to spending 50% of total rehab costs and scenario 3 is stabilization and full rehab costs. Based on the model. Scenario #2 where we spend $150K of the $300K estimated for full rehab might get our rents 50% of the way to stabilization. It doesn't look very good. Spending the full $300K up front gets our return into expected ranges (IRR, CoC, AAR).

Question for you all. Do we bite the bullet and find a construction loan to get our full rehab in and get the property stabilized rather than do half and then try to finance the rest through cash flow? Eat a year or two of bad returns and get to our end goal in year 4?

I have also talked to a couple other folks and they feel that our property fits a missing niche. The new Class A is the high end tenant, we fit into Class B and a price point missing in the area. Full rehab gets our unit price to $58K and rents averaging $715. I have expenses at 39% which I know seems low, but I have 10% for maintenance, 10% for cap expenses, Vacancy and concessions 15%, proper mgmt at 8%, taxes 5%, insurance 4.25%. Am I missing anything?

Stabilized numbers are: AAR: 18%, IRR: 17%, CoC: 12%

Thanks for all your help! My first multi unit investment...

Henri Meli · Answer

@Carnet Williams . Looks like your bank fired themselves !!! Wish them good luck and find another bank.

David Stewart · Answer

What suburb of Kansas City?  Raymore, Lee's Summit, Liberty, Blue Springs, Grain Valley, etc are all growing.  I could look into the vacancies for you if needed to see if there are plans for new renters/renovations.  Let me know.

Thanks

350 unit new construction - competition or upside?

Most Popular Reply