1st development: Residential infill townhome vs Industrial warehouse?

Question

Hi BP community! I'm debating on which path to pursue as my 1st development project, and I'm hoping to hear what y'all think on this topic or what you would do if you're in my position. Any thought or comments are welcomed!

Goal of this project as my 1st development: minimize risk of losing money, make annual $100K profit within 18 months.

Goal for long term: build a system and repeat, become an expert within a specific niche.

A little background: For the past 10 years I've been working W-2 and on the side managing several rental properties, long term and short term, worked with contractors for remodeling, participated in multi-family deals as LP. Last year I left my W-2 job so have a lot more time in real estate and could really use some extra income. After diving in the different "trades" of an RE investor, I chose group up development as the part of the rope I'm going to hang on to. It will be a very steep learning curve, but I know which a right mindset and team, it is doable.

Currently I have cash to kick off only 1 out of 2 types of projects that I've gotten really interested in, and here're my mental models:

1. A. Residential, purchase a lot with cash, that has good walkability preferrably around downtown Dallas, vacant or w/ one SFH to be torn down, then build 2-8 units on it. The lot will be in an area with supporting rent so that at time of completion, plan A is to sell all units at completion, and plan B is to keep as rental, refinance and sell in 2 years.

Pro:

1) I can start building credibility as a developer and get qualified in affordable housing projects in the future.

2) I'm more comfortable at this point with what I know and have access to, including: familiar with this market, know the process on paper, know several lots in my buy box that are ready to build, motivated partner that are also ready to start.

Con:

1) Risk of having a saturated market in Dallas. Please tell me if you think this is a wrong statement, especially for townhomes under 2k sf and selling for 450k. This type of product is flooding realtor.com, the margin rate is easily eaten if market is low at the time of completion. Plus every lawyer or doctor I talked to seem be doing or have done some side projects like this.

2) Risk from having more complexity in residential comparing to commercial.

B. Commercial, purchase a lot with cash in city corridors, under 3 acre, build a small industrial warehouse, prelease and sell. If this is the path to go, I plan to join the FlexSpace Network by Hamza. I'm not affiliated nor connected with them in anyway, only had a 30 min sales call and felt like they could be a good entry point for education and network. Disclosure - I've joined residential development course before and talked to a number of land investment programs of which none I felt like proceeding.

Pro:

1) Access to a potential partner that has extensive experience in industrial warehouse design, permit and construction in his w-2 job, and is looking to partner with someone who has fund and time to drive the project.

2) Higher entry barrier, thus less competition from individuals if I choose to play at the right size (where institutions don't touch), hopefully

3) Better outlook on future demand for warehouses and office-warehouse.

4) Better profitability based on my own draft underwriting

Con:

1) Risk of lacking knowledge in this asset class, leading to unafforadable failures

2) Risk of spending the time learning this asset class only to find out that it won't work for me.

3) Risk of market slowing down or getting saturated in the next couple of years at project completion.

Given the negative outlook on macro economy evironment and builders holding on new projects, which path would you focus on for the next 12 months, if you were me?

Please also comment with clarifying question if I missed anything to make my question clear. Thanks a ton!!

Bruce Lynn · Answer

#1 Development is the most risky part of real estate.  Plenty of smart people with lots of money and expertise have lost everything they have.  So just understand you have a ton of risk that is perhaps impossible to minimize.

#2 I don't see much infill development right now with townhome type projects.  There were tons 10 years ago, but seems like almost none now.  Probably a combination of factors.  One is interest rates, another is land costs, another is the amount of apartments that have been built and their vacancy factors, another is cost of construction.  So go into it, knowing everything is working against you.

#3 Look around for affordable housing projects.  That is even tougher.  Unfortunately the numbers don't tend to work right for most developers right now.  I can't even start to tell you how difficult affordable housing is...beside all the normal headwinds, add political headwinds and absolute craziness.  To give you an idea the city of Dallas has purchased a couple of buildings to turn into supportive housing, and they still sit vacant 5 years later, meanwhile the homeless are still outside.

#4 Your doctor competitors also have super low expectations on what they want for returns.  It's not normal.  It's crazy low, but they have different factors at work vs many "normal" investors.  Instead of 1% rule, I see many take the 1/2% rule.  More of a place to park cash, than to be a real estate investor.  Very tough to compete against that mentality.

#5 I like the FlexSpace idea.  There is certainly a lot of it being built.  That seems to be one of the new "in" niches.  I'd guess the ROI is not good on infill type strategies, but most seem to have better luck on outer perimeter projects.  Maybe you go out to Princeton or Caddo Mills, or North to Gunter/Southmayd/Pottsboro/Sanger/Gainesville/Decatur/Weatherford.  Many of the projects I see seem full, so there must be some demand for it.  While it is a nice idea, not sure how easy or fast prelease happens.  From my casual observations I don't see them fill up day 1.  Not sure your barrier to entry idea is on target.  I see these everywhere for years and even more TODAY.  I think you will see more demand for small businesses as we move forward.  If corporate layoffs happen, people may try to start a business.  If construction slows, people may need the small flex space and some of these developments really do have a wide mixture of businesses that seem to work well together.

Best wishes and good luck.  Exciting times for sure.