YO UR BUSINESS
WI TH THE FUTURE IN MIND
F O2L| FALL/WINTER L O W U S2018 :
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The Growth and Future of Multifamily in
EDITORIAL & DESIGN LEANNE JENKINS CAT RAY ERICA RAGLAND ALFONSO LOMELI MARINA RUBIO
SPECIAL THANKS TO
Market Trends Amid widespread optimism, here is a snapshot of the commercial real estate market and the trends set to define dealmaking and investments.
To p 5 Tr ends
Apartments are still the most desired investment
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Industrial assets are in high demand
Construction prices are increasing
Technology will define the trajectory of CRE
Unknown surrounding rising interest rates
Overall CRE Market Cap Rates
Property Prices Office
20% YOY change in property prices
8.0% Cap Rate
Q2’ 18 | YOY Change in Cap Rates & Property Prices Source: RCA
$83 per sqft
$184 per sqft
$151,000 per unit
August ‘18 | YOY Change in CRE Source: RCA
price MATTHEWS™ | 5
Multifamily Market Construction Delays Have Mounted Preference for Yield in Key Texas Markets
Average Months Delayed - 3M Rolling Average Source: CoStar
Trailing 12-mth Source: CoStar
Avg Cap Rate
# of Months Delayed
(2) Jan 14
Volume YOY Change
Large Cities: Population, Housing, and Renters Source: 2016 American Community Survey, 5-year estimates, U.S. Census Bureau (Updated 10/2017)
TOTAL HOUSING UNITS
TOTAL OCCUPIED UNITS
APARTMENTS PERCENT OF ALL HOUSING
NEW YORK, NY
LOS ANGELES, CA
SAN ANTONIO, TX
SAN DIEGO, CA
SAN JOSE, CA
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Most Active Apartment Markets H1’18
U.S. Rental Apartment Vacancy Rate (5+ Units)
Source: U.S. Census Bureau
SALES VOLUME ($M)
10% 8% 6% 4%
U.S. Multifamily Permits, Completions and Starts (in 000s)
Permits Authorized, but Not Started (2+ Units, Unadjusted)
Source: U.S. Census Bureau Starts
July ‘17 Amount
U.S. Rent Inflation (Annual Rate)
Source: U.S. Census Bureau
Age of Population in Rental Housing
Rent Inflation Rate
Source: NMHC tabulations of 2016 American Community Survey Microdata
6% 3% 0% -3% 00
PEOPLE IN RENTAL HOUSING
Under 30 Years Old
30-44 Years Old
45-64 Years Old
65 Years and Older
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Q2â&#x20AC;&#x2122;18: Price Averages & Volume Source: RCA
SALES VOLUME ($M)
NUMBER OF PROPS.
YOY CHANGE (bps)
6 MAJOR METRO
Quarterly Change in Demand & Supply Vacancy
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2-Year Supply and Demand (Units)
5-Year Supply and Demand (Units)
Source: Yardi Matrix (2018)
Source: Yardi Matrix (2018)
2-Year Supply and Demand
5-Year Supply and Demand
Source: Yardi Matrix (2018)
Source: Yardi Matrix (2018)
National Rent Trends Year-Over-Year Change
Year-Over-Year Rent Change
Source: Costar: State of the Multifamily Market- 2017 Review & Forecast
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Retail Market Best Assets Still Alluring in Los Angeles Most Active Retail Markets H1’18
12-Month Trailing Data Source: RCA
Top Quartile Cap Rate
Avg Cap Rate
7.0% SALES VOLUME ($M)
North New Jersey
6.0% 5.5% 5.0% 13
Trending Drugstore Tenants Price and Deal Activity Source: RCA
Malls Are Highly Polarized Mall Vacancies By Rating
AVG CAP RATE
6% 5% 4% 3% 2% 1%
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Q2’18: Price Averages & Volume Source: RCA
SALES VOLUME ($M)
NUMBER OF PROPS.
YOY CHANGE (bps)
6 MAJOR METRO
UNANCHORED RETAIL CENTER
Quarterly Supply and Demand VS. Vacancy National Fundamentals Outlook
Quarterly Demand Growth
Source: CoStar Portfolio Strategy
Quarterly Support Growth
30 5% 20
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Industrial Market Most Active Industrial Markets H1â&#x20AC;&#x2122;18
YOY change in RCA CPPI
SALES VOLUME ($M)
North New Jersey
E-Commerce Will Contribute 40% or More to Industrial Absorption In 2018 Source: CoStar
Rest of E-Commerce
150 SF, Millions
20% 50 10% 0
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E-Commerce As % of Net Absorption
Q2’18: Price Averages & Volume Source: RCA
SALES VOLUME ($M)
NUMBER OF PROPS.
YOY CHANGE (bps)
6 MAJOR METRO
Markets to Watch for Amazon-Influenced Pricing Top Markets for Amazon-tenanted Industrial assets Source: RCA
Austin Average Sale Price is 80% higher than Long-Run Average for the Market 12-Month Trailing Data
300 Sale Price, $M
100 0 Austin
Past 24mnths, $M
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o n m u lt i fa m i ly r e a l e s tat e i n l o s a n g e l e s As interest rates begin to normalize, multifamily investors should consider the effect a higher interest rate environment may have on their portfolio. More importantly, investors can take proactive steps to better position themselves for this coming change.
By: Daniel Withers MATTHEWSâ&#x201E;˘ | 15
Learning from the Last Ten Years While the federal funds rate and market rates donâ&#x20AC;&#x2122;t always move together, in theory, interest rates mirror economic cycles. The fact is that the Federal Reserve can heavily influence interest rates in the market. A review of how the federal funds rate has correlated with moves in the market over the past ten years is therefore predictive of what is on the horizon today. Recessions vs Interest Rates (1950-2018) | Source: FRED Economic Data
20.0 15.0 10.0 5.0 0.0
Historical data illustrates that the Federal Reserve typically responds to recessions by dropping the federal fund rate. For example, ten years ago, in response to The Great Recession, the Federal Reserve dropped interest rates to historic low levels in order to stimulate the economy. Recessions vs Interest Rates (2010-2018) | Source: FRED Economic Data
3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0
The low interest rates for investors meant the cost of borrowing money was minimal, which encouraged investors to deploy capital and purchase commercial real estate. For banks, the low rates meant less risk of repayment, incentivizing the bankers to more easily lend to more investors. Together, the result was a dramatic influx of money chasing multifamily product acquisition, particularly in Los Angeles. In short order, the cheap money generated so much demand, that by 2011, the Los Angeles multifamily market was already reaching pre16 | FALL/WINTER 2018
recession highs, and soon after, moved even further along, and hit an all-time high. In 2015, this same demand lowered cap rates below five percent, while property prices skyrocketed. Even so, product continued to be acquired at an intense velocity. As the market charged ahead, the Federal Reserve simultaneously determined that the economy was healthy enough to begin raising interest rates. By the end of 2015, the Fed raised rates for the first time in almost seven years.
where the market stands today The number of transactions in the Los Angeles market drove forward and peaked in 2015 and 2016.
Sales Volume in Los Angeles | Source: CoStar
Then, in 2017, as interest rates began to make their impact, deal velocity finally began to slow. More specifically, compared to 2016, the sales volume in 2017 dropped approximately $8,436 million, and an additional $1,346.02 million in 2018.
The strength of the assets lie in two major camps.
SALES VOLUME, MILLIONS
From a valuation standpoint, however, in 2018, multifamily product is quite strong in nearly every part of Los Angeles. While underwriting is changing, investors still see Los Angeles as an overall strong market.
One is the large number of sources for money seeking the safety of multifamily investment opportunities in a major gateway city. As can be seen, there are a tremendous and varied number of investors now in the market for Los Angeles multifamily properties.
Investor demographics in the past 12-months for Multifamily in the LA Metro | Source: RCA INVESTOR TYPE
Institutional: Pension Fund
Institutional: Sovereign Wealth Fund
Private: High Net Worth
Institutional: Equity Fund
Institutional: Finance Institutional: Investment Manager
Private: Developer/ Owner/ Operator Corporate Government Non-Profit Educational
MATTHEWSâ&#x201E;˘ | 17
Secondly, the demand side of the equation is keeping rents at all-time highs across Los Angeles.
both start-ups and new offices for established major tech brands.
The demand is driven by multiple factors. One of these is that many former homeowners who lost their homes during the recession are still uneasy, and therefore choose to rent instead of buy a home.
Itâ&#x20AC;&#x2122;s become clear that todayâ&#x20AC;&#x2122;s renters are willing to pay top dollar to live in Los Angeles, pushing the average rent to nearly $2,000 a month, according to CoStar.
In addition, the average age to buy a home in Los Angeles is rising due to the notable price increases for residential real estate during this same tenyear period, which creates a larger pool of renters. Also, employment in Los Angeles has climbed, with Silicon Beach attracting people from out of state, and outside the country, into Los Angeles to engage in an increasing number of tech firms,
However, and it may be too early to tell, but for the first time in several years, rents seem to have begun to stabilize in pockets across Los Angeles. With tenants paying close to 50 percent of their income to rent, this may be right the time in the cycle when a correction needs to take place. From 2014 to mid-2017, rents were on a steep slope trending upwards, but by the end of 2017 a slight dip in rents can be seen.
Asking Rent Per Unit in Los Angeles | Source: CoStar
ASKING RENT PER UNIT
$1,700 $1,600 $1,500 $1,400 $1,300 $1,200
Cap rates and price per unit seem to be unaffected by the rise in interest rates. Cap rates are at the lowest they have been in decades and even though deal velocity slowed in 2017, prices climbed higher and continued throughout 2018. Values are still closing at
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record prices, and we are starting to see a decrease in the number of buyers who are willing to meet the dollar amount that sellers are demanding. Investors are still willing to pay a bit more to borrow money and at the same time, pay a premium price for their real estate asset(s).
Cap Rate in Los Angeles | Source: CoStar 7.0% 6.5%
6.0% 5.5% 5.0% 4.5% 4.0% 3.5%
Average Sale Price Per Unit In Los Angeles | Source: CoStar $320 $300
$280 $260 $240 $220 $200 $180 $160 $140 $120
INTEREST RATES PREDICTED TO MOVE UP The Federal Reserve kept interest rates at historical lows for several years after the recession, but in 2015, when the economy began to stabilize, they began increasing rates back to normal levels. At the end of 2017 interest rates were trending upwards at the time when the Federal Reserve officially raised the rate from 1.25 to 1.50 percent. The Federal Reserve then announced that they would continue raising interest rates and implemented an additional three rate hikes scheduled for 2018. As expected, in the first few months of 2018, the Federal Reserve pushed the rate up again. As economic conditions improved, the Feds decided
to throw a curve ball when they announced that they would be increasing the rate four times in 2018 instead of the original three times that was previously stated. In June, the Federal Reserve pushed the federal funds rate to two percent, and in September, up to 2.25 percent. During the Federal Open Market Committee in September, the Federal Reserve signaled it would raise rates to 2.5 percent in December 2018, 3.0 percent in 2019, and 3.5 percent in 2020. As we come into 2019, mortgage rates have already passed original predictions, and experts donâ&#x20AC;&#x2122;t expect to see the Federal Reserve taking their foot off the gas pedal any time soon. Major housing agencies are all forecasting rate hikes for 2019 and beyond. MATTHEWSâ&#x201E;˘ | 19
Mortage rate predictions for 2018 and 2019 Source: RCA
didnâ&#x20AC;&#x2122;t grow substantially. This leaves them with four options. Investors can either: Pay off their loans in full
MORTAGE BANKERS ASSOCIATION 2018 Prediction: 4.9% 2019 Prediction: 5.4%
Refinance at higher rate Pay down a portion of the existing loan and refinance at higher rates
2018 Prediction: 4.6% 2019 Prediction: 5.1%
2018 Prediction: 4.5% 2019 Prediction: 4.5%
2018 Prediction: 5.0% 2019 Prediction: No Forecast
NATIONAL ASSOCIATION OF REALTORS 2018 Prediction: 4.5% 2019 Prediction: 4.8%
2018 Prediction: 4.7% 2019 Prediction: No Forecast
NATIONAL ASSOCIATION OF HOME BUILDERS 2018 Prediction: 4.5% 2019 Prediction: 5.0%
the effects on multifamily Ten years ago, investors found themselves in sticky situations when rates were high, and valuations and liquidity were below normal levels. As a result, it led to a negative effect on values of commercial properties. In Los Angeles, the average loan term is five years. Investors who paid a premium for their assets during the height of the market in 2014 and 2015 are seeing their loans come to term, and with a net operating income that 20 | FALL/WINTER 2018
Sell their property
market slow down When rates go up, banks tend to pull back on issuing loans because there is more risk. To qualify for a loan, the net operating income (NOI) on investment properties needs to be enough to dilute the risk of a bank refinancing at higher rates. This is compounded by the fact that because interest rates are higher, the NOI must also be higher to counteract the banks risk. Traditionally, the best way to increase NOI is to increase rents. Unfortunately, as noted, rents in Los Angeles are beginning to level out. While continued demand may prevent rents from decreasing, many experts do not believe that rents will continue to rise. Furthermore, with the income to rent ratio being above average and the possible repeal of Costa Hawkins, many believe that there will be a downward pressure on rents. With the rental income plateau, it will be hard for investors to create enough NOI to support a refinance without having to pay a significant amount of capital towards the existing loan.
ytd 2018: Source: Costar
94% of transactions were less than $10M Of that $10M, the averages were: Sale Price: $2.7M
Price per unit $284k Asset class: Class C
Down payment: $1.4M
Investor Type: Private Clients
In 2018, 94 percent of all transactions were under ten million dollars, with the average transaction being about $2.7 million. Of those 94 percent of transactions below ten million, the average acquisition down payment was $1.4 million, according to CoStar data. The overwhelming majority of buyers were private clients. This would then also decrease the buyer pool for owners who bought at the height of the market and are now willing to dispose of their properties at a potential loss.
what should investors do? There is a path forward for investors who take the right steps to increase net operating income. As the economy continues to prosper, the Federal Reserve’s rate normalization is likely to continue. Investors therefore need to begin thinking about structuring their investments to withstand the rising interest rate market. On the income side, it is important that current owners coming to term on their loans ensure they are up to date with market rents in their area. If rents are below market, owners must begin making the increases as soon as possible. Rent controlled property: Owners must be sure that three percent rent increases are implemented If property requires more than a ten percent increase to reach market rents, a 60 day notice must be provided to tenants. Non-rent controlled property: Owners should consult with an agent to determine market rents Owners will also need to stay on top of their turnover programs to maximize rents and keep occupancy high during this strong period. Owners should take time evaluating day-today operations to make sure that they aren’t over spending and are maximizing the most out of their investments. In some cases, this may mean cutting people from payroll, rather than doing anything that would detract
from the maintenance or amenities at the property while seeking rental increases. Should the rental increases and expense decreases not solve the challenge, some owners may find themselves in an unfavorable situation where they would no longer able to obtain enough loan dollars from a lender to support the prices they paid at the height of the market. Their only options may be to sell, or pay down a significant amount of their current loan to secure new debt. For those owners, it may be smart to start taking a proactive approach and analyze their current portfolios today to get ahead of any issues that may arise. Investors seeking acquisitions in the higher interest rate market will need to anticipate a 200 to 300 basis point swing in rates compared to the past years. Although sometimes riskier, higher cap rates typically yield higher incomes. Investors able to underwrite their deals, as well as qualify for the loans, may find themselves in a superior negotiating position on the sale price. Owners and investors in Los Angeles multifamily properties do have an opportunity to continue to have positive NOI even with the higher interest rates. It will simply require more diligence in each aspect of the property, from qualifying for a loan, to ensuring strong tenant retention at market rates, to minimizing property expenses. For those with vision, the opportunity in Los Angeles is still very much in place. Owners are still experiencing low vacancies, historically, high rents and the current development pipeline for new construction apartments is still under supplied. All of these factors should help overall operations but, it’s important for owners to keep growing NOI to insure a successful refinance when debt comes due.
Daniel Withers Senior Vice President | Multifamily email@example.com 818.923.6107
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The Growth and Future of Multifamily in
By: Kyle Mirrafati
Los Angeles, also known as the City of Angels, is home to iconic celebrities, perfect weather, and some of the highest rental rates in the United States. Having the fourth highest share of renters in the country, the Los Angeles Metro Area averages a rental rate of almost 54 percent. That seems high, but in parts of Los Angeles, such as Central Los Angeles, the percentage of renters climbs even higher.
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Central Los Angeles Central Los Angeles, a historic area within the heart of LA, is a vital part of the Los Angeles real estate market. As the economic hub of the West Coast, some of the region’s top financial and professional service firms such as banking, engineering, law, and accounting firms occupy the Central Business District in Central Los Angeles’s downtown area. Beyond the tall skyscrapers of Downtown, Central Los Angeles is also host to many trade districts such as the flower and the fashion district. In addition, industrial buildings are spread throughout the districts, serving as the birthplace for many top designer clothing brands, toys, and various other products.
As of the year 2000 Census, Central Los Angeles was recorded as the home to over 900,000 people with the densest neighborhood being Koreatown and the least dense neighborhood being Elysian Park. In Koreatown, there are over 42,000 residents per square mile, making it one of the highest densities for the city and the County of Los Angeles. In comparison to Los Angeles’ percentage of renters, Central Los Angeles averages at just above 80 percent, higher than any other area in Los Angeles. Within Central Los Angeles, the neighborhood with the highest percentage of renters is Westlake, which bears an astonishing amount of renters.
94.9 PERCENT ARE RENTERS Due to the high demand for rentals, it makes sense that Central Los Angeles also possesses an extremely high number of multifamily buildings. There are over 7,000 multifamily properties with over eight or more units and 147,190 total throughout the area, both rent controlled and non-rent controlled. Matthews™ analyzes how the Central Los Angeles multifamily real estate market came to be, where it’s at today, and what’s in store for the future. 24 | FALL/WINTER 2018
The Comeback THE RECESSION In the years prior to The Great Recession, the multifamily market in Los Angeles was prospering tremendously. In Central Los Angeles alone, almost $900 million in inventory was traded during the year 2007, but by 2009, that number had dropped to under $170 million. Vacancy rates almost doubled, rising from an average of 3.5 percent in 2007 up to an average of 5.2
percent in 2010. Studios, one-bedroom and two-bedroom units were hit the hardest within the first few years after the recession hit, mostly due to families consolidating into three bedrooms to afford rent. Property prices instantaneously fell by almost $200,000 per unit and cap rates soared from the five percent range up into the sevens. Of course, all new construction came to a halt and absorption rates were in the negatives.
ABSORPTION, DELIVERIES, VACANCY
Absorption & Deliveries Units
JOBS LOST/GAINED DURING GREAT RECESSION SINCE DEC. 2007 SOURCE: HUFFPOST ANALYSIS OF BUREAU OF LABOR STATISTICS DATA Government
Financial and business services, construction, and retail trade were some of the industries hit the hardest during the recession. These happened to be the same industries that provided a majority of the jobs to the residents of Central Los Angeles. It wasnâ&#x20AC;&#x2122;t until a few years after the recession hit as economic factors began to align that the multifamily market started to dig itself out of the recession.
Other Services Leisure and Hospitality Education and Health Services Business Services Financial Activities Information Utilities Transportation and Warehousing Retail Trade Wholesale Trade Nondurable Goods Durable Goods Construction Mining and Logging
2,000,000 1,500,000 1,000,000
500,000 MATTHEWSâ&#x201E;˘ | 25
The Economy Responds In response to the Great Recession, in December of 2008, the Federal Reserve dropped interest rates to a historical low of 0.25 percent in hopes of kick starting economic growth. The lowest interest rates previously recorded had been at 0.63 percent in the late fifties. Nevertheless, the drop in interest rates worked and began to breath air into the economy.
unemployment rate decreased, the Central Los Angeles multifamily market began to prosper. This increase in employment brought people back to the city and created a demand for rentals as many households were opting into paying rent instead of buying property again. The demand drove rents up across all the prime markets in Los Angeles, including Central Los Angeles.
From 2010 to 2011, Los Angelesâ&#x20AC;&#x2122; unemployment rate was still hovering around 13 to 14 percent. It wasnâ&#x20AC;&#x2122;t until 2012 that the unemployment rate even saw the elevens. However, Central Los Angeles started to see recovery sooner than most of Los Angeles and the United States, as vacancy rates began to lower and rental rates began to climb at the beginning of 2011.
By the end of 2011, the Central Los Angeles multifamily market was on its way to making an incredible comeback. At the end of 2013, rents and transaction volumes had already surpassed pre-recession highs, absorption rates were outpacing deliveries, and cap rates were back to normal. Interest rates remained at historic lows, allowing investors to borrow money at a lower cost. Thus, the market continued to thrive, reaching record highs.
As GDP began to increase, surpassing prerecession levels by the end of 2010, and the
AVERAGE SALE PRICE PER UNIT SOURCE: COSTAR
AVERAGE SALE PRICE PER UNIT, THOUSANDS
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The Effect on Apartment Values Economic factors had aligned and Los Angeles was in the midst of an economic boom. Due to the increase in rental demand, low interest rates, rising GDP, low unemployment rates, and rising populations, the demand for rentals rose. Rents grew by four percent year over year from 2011 to 2017, thus causing property values to soar. In accordance to the rising property values came an increase in property sales. In 2015, the market saw multifamily transaction volume reach a record high. During the next year, the market pulled back slightly, most likely due to political uncertainty during the election, but it picked up again during 2017, only to succeed record numbers seen in 2015. In the first eight months of 2018,
a little over $700 million in assets have traded throughout Central Los Angeles. If momentum keeps up, by the end of 2018, the year’s total sales volume may be similar to 2017’s total. The increase in sales volume year-overyear drove prices higher and led to the compression of cap rates. Investors were taking advantage of the low interest rates and were willing to pay higher prices thus cap rates quickly compressed from the six percent range in 2011 down to the fours in 2017. In 2018, cap rates for the Central Los Angeles market remain at an all-time historic low of four percent.
CAP RATES SOURCE: COSTAR
7.5% 7.0% 6.5%
6.0% 5.5% 5.0% 4.5% 4.0% 3.5% 3.0% 05
MATTHEWS™ | 27
Current Trends On a risk-adjusted basis, Los Angeles multifamily real estate is one of the safest investment assets there is. Today, the market is sitting on record highs - rents are up, vacancies are down, and the number of renters in Los Angeles continues to increase every year. HOMEOWNERSHIP DROPS OFF For millennials between the age of 25 and 34, home ownership is down by eight percent across the nation when compared to Generation X. Due to the high entry barriers required to buy a home in Los Angeles, within five years from 2010 to 2015, home ownership rates dropped two percent throughout the County. If home prices continue to rise, ownerships are expected to keep moving downwards. With less people owning homes, the demand for rentals continues. In Central Los Angeles, asking rents have increased 30 percent over the last five years. Because of the incredibly high appreciation in property value, Los Angeles is one of the most unique rental markets there is.
HOME OWNERSHIP RATE FOR LOS ANGELES COUNTY Hom e O wn er s h ip R a te
SOURCE: FRED ECONOMIC DATA
51.5% 51.0% 50.5% 50.0% 49.5% 49.0% 48.5% 48.0% 2010
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2 01 2
2 01 3
2 01 4
2 01 5
2 01 6
The potential for huge upside in rents is attracting investors from all over the world to invest in Los Angeles multifamily real estate. In 2017, Los Angeles stole New York’s title as the top destination for foreign capital in the United States as investors pumped over $8 billion dollars into Los Angeles’ real estate market.
TOP 10 FOREIGN INVESTORS SOURCE: REAL CAPITAL ANALYTICS
1. SINGAPORE 5. SOUTH KOREA 2. QATAR
10. HONG KONG
7. CHINA 8. JAPAN
VALUE ADD PROPERTIES ARE A HOT COMMODITY Both domestic and international investors are purchasing value-add buildings, buying out tenants and renovating units to achieve higher market rents. Today, older class B and C value-add properties have become easier to sell than fully renovated class A or B properties. Many investors are purchasing class B and C value-add properties and taking advantage of the upside through tenant buyouts.
Tenant buyouts, also known as the “Cash for Keys” program, allows landlords to offer a monetary incentive for tenants to move out so the landlord can then raise the rent on an otherwise rent-controlled unit. Tenant buyouts have become increasingly more popular as the economy is supporting much higher rents. In the first nine months of 2017, almost 700 buyouts had been reported to the City of Los Angeles.
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The Outlook for Central Los Angeles RISING INTEREST RATES COULD LEAD TO A MARKET SLOWDOWN To maintain a healthy economy, the Federal Reserve prefers to keep interest rates between two and five percent. While the Feds kept interest rates at historical lows from 2008 to 2015, when the economy began to stabilize, they initiated raising rates back up to normal levels accordingly.
In 2018, alone there have already been three rate hikes pushing the Federal Funds Rate to stand at about two percent. In conjunction with these hikes, the Federal Reserve also announced that they plan to raise the rate four times throughout the year.
U.S. FED FUNDS RATE SOURCE: TRADINGECONOMICS | FEDERAL RESERVE
2.50 2.00 1.50 1.00 0.50
SALES VOLUME B Y B U Y E R T Y P E SOURCE: COSTAR
1% 17% 3% 5% 75%
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While interest rates are still at record lows in comparison to previous decades, an increase in interest rates could lead to a market slow down. As the two usually go hand in hand, raising interest rates have traditionally correlated with rising cap rates. Put simply, the raise in cap rates will begin to bring down the price of properties. A hike in interest rates makes borrowing money more expensive and investors will be less likely to borrow money at higher rates. For those buyers that are willing to pay the higher rates, it will become harder for them to obtain positive leverage on new acquisitions they are looking to finance. It may take a couple years to feel the full effect of rising interest rates in Los Angeles. Although more unyielding than other more volatile markets across the nation, the Los Angeles and Central Los Angeles markets have already seen a slight pull back begin in 2018.
Note: Since private buyers make up 75 percent of the buying pool in Central Los Angeles, the majority of acquisitions will need to obtain some form of financing to make purchases.
For the first time in six years, rents have stopped climbing upwards and are leveling out at around $1,600 for a one bedroom in Central Los Angeles. Consequently, the
average price per unit has also come down slightly from 2017. At the same time, many new developments and fully renovated units have hit the market in the last couple of years contributing to an increase in rent growth. Although there is a shortage of housing in Los Angeles and the demand for apartments is still high, any additional supply allows tenants to have more options and landlords more control.
5-YEAR TRENDS RENTAL RATES AND OCCUPANCY LEVELS
$1,250 20 1 4
20 15 OCCUPANCY RATE
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THE POSSIBLE REPEAL OF THE COSTA HAWKINS ACT With the possibility of repealing the Costa Hawkins Act in the upcoming fall ballot, investors are holding off before making any purchasing decisions. If passed, the measure would repeal the Costa Hawkins Rental Housing Act that was put in place in 1995 to set limits on the kinds of rent control policies that cities can institute. The repeal would allow the City of Los Angeles to implement rent-control policies on apartments that were previously exempt from rent-control policies, lowering the potential to raise rents and altogether the value of these properties tremendously. Investors who recently invested in Los Angeles multifamily real estate at a premium price in hopes of raising rents and creating
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a higher return may have drawn the short end of the stick. Now, investors currently in the market to buy are weary of putting down money on a project where they wonâ&#x20AC;&#x2122;t get a reasonable return. Therefore, unless otherwise incentivized, if the repeal of the Costa Hawkins Act is approved, transaction volume, renovations, and new construction would all drastically come to a slow. Overall, the multifamily real estate market is still sitting at an all-time high in Los Angeles and Central Los Angeles, but many experts believe we are on the precipice of a decline. Los Angeles is hitting a rent ceiling which can already be seen plateauing in the Central Los Angeles market. Investors are making purchases in hopes tthat rental rates will continue to rise, which is contributing to the overall inflated prices we see today.
However, with the possible repeal of the Costa Hawkins Act and rents beginning to plateau, the market will begin to see deflation and prices will start to drop. With leveling rents and higher interest rates, the rate of return declines and the level of risk increases for financers. The current financing landscape is driving lenders to pull back and become more selective on providing capital to the marketplace, slowing down deal velocity and increasing the cost of capital. Even so, the Los Angeles multifamily real estate market will continue to remain one of the safest markets for investors. The City of Los Angeles continues to see steady population growth in an already highly impacted market suffering from a housing shortage. Central Los Angelesâ&#x20AC;&#x2122;s heavy
density and high percentage of renters will ensure even stronger sustainability for the multifamily market than other areas throughout the region. Because of the crucial demand for rentals and shortage of housing in Los Angeles, Multifamily assets in Los Angeles and Central Los Angeles have proven to be resilient as demonstrated by the markets quick comeback from the recession. As long as this continues, there will always be a strong demand for rentals and multifamily assets will retain value throughout Central Los Angeles and the surrounding neighborhoods.
KYLE MIRRAFATI firstname.lastname@example.org (310) 295-4269
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For today’s consumer, a website’s functionality is as important as the look. Invest in professional web experts who can offer an online experience that is easy and intuitive to navigate. Additionally, make sure that those experts develop a version specifically for the requirements of the mobile phone/tablet environment: 51 percent of internet browsing occurs on mobile devices.
W HAT THEY WANT IS HOW THEY SEARC H Invest in a search optimization expert for your online presence. The process includes:
Optimizing the language of your website, from headlines to body text
Embedded photo & video descriptors
Search results descriptors
An investment in SEO can pay off quickly. An optimized site is more likely to place high in search ranking on Google and other search engines, meaning a property can enjoy more response from ‘organic’ search traffic and less from investment in AdWords, Facebook ads and other purchased marketing channels. A property can see a rise in search ranking in as little as 90 days. 38 | FALL/WINTER 2018
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HOW CAN AN INVESTOR PARTAKE?
In the case of real estate, developers can establish a Qualified Oppor tunity Fund in order to generate third-par ty investment capital for their projects. Fur thermore, they can use their fund to defer tax on the sale of capital assets. In addition, by investing the gain in a Qualified Oppor tunity Fund, they will be paying less in taxes. To illustrate this point , if an investor puts capital gains generated from the sale of a capital asset into a fund for eight years, with the basis increase and a five percent present value discount to value the deferral, investors will pay only 57 percent of what they other wise would pay in taxes. In the case of a passive investor, the investment into the fund allows deferral of tax payments on recognized gains for up to eight years (the latest date being Dec. 31, 2026) with up to 15 percent gain reduction and the possibility of avoiding any income tax on the Qualified Oppor tunity Zone investment if held for at least 10 years.
INVESTING IN AN OPPORTUNITY FUND VS. A STANDARD STOCK PORTFOLIO SCENARIO: A CAPITAL GAIN OF $100 IS REINVESTED IN 2018
Incentives offered by the opportunity zones program DEFERRAL + additional 5% step-up in basis
DEFERRAL + 10% step-up in basis
DEFERRAL + total 15% step-up in basis + permanent exclusion of O-Fund gains from taxes
After-Tax Value of Investment
It takes five years for a standard investment to recoup capital gains taxes paid in 2018
The Opportunity Zones program offers the most upside to patient Investors who hold their O-Fund investments for at least 10 years. All else equal, come 2028 an investor will be $44 better off for every $100 of capital gains they rolled over into an O-Fund in 2018 than if they had chosen a more traditional stock portfolio instead. Excess Returns Offered by an O-Fund Investment Standard Portfolio Investment
*Note: Assumes long-term federal capital gains tax rate of 23.8%, no state income tax, and annual appreciation of 7% for both the O-Fund and alternative investment SOURCE: ECONOMIC INNOVATION GROUP
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In recent repor ts, it is said that this program opens the doors for an approximate $6 trillion oppor tunity. In an analysis of the Federal Reser veâ&#x20AC;&#x2122;s of Consumer Finances and Financial accounts of U.S. data, it was found that U.S. households were sitting on $3.8 trillion in unrealized capital gains in stocks and funds at the end of 2017 and U.S. corporations were estimated at holding $2.3 trillion. The pot of potential capital eligible for reinvestment in Oppor tunity Zones totals $6.1 trillion. If only a small por tion of that $6.1 trillion flows into Oppor tunity Zones, this new provision could quickly become the largest federal community development initiative. It is anticipated that the Treasur y will release fur ther guidance on how to establish Oppor tunity Funds, as well as any additional rules investors need to know to get star ted. Depending on how the Treasur y implements these rules for Oppor tunity Zones, this program could be seen as a dynamic tool for gathering capital. Once we have more in depth answers to crucial components of the program, it will be up to the financial sector to set up investment vehicles and create the market for this exciting new asset class.
$3.8 trillion U.S. Households
$2.3 trillion U.S. Corporations
= $6.1 trillion Total
in potential capital to be reinvested in Oppor tunity Zones
BRADEN CROCKE T T email@example.com (214) 692-2040 ANDREW IVANKOVICH firstname.lastname@example.org (214) 692-2037
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LIST WITH MATTHEWS
TO EXPERIENCE THE DIFFERENCE TODAY.
W W W. M AT T H E W S . C O M 48 | FALL/WINTER 2018
OVER IN SALES VOLUME
Our professional team of agents have many years of experience representing the top institutions, developers and private clients in commercial real estate. We hire the best and provide them with top of the line support, systems, and materials â&#x20AC;&#x201C; with the goal of exceeding expectations. Our superior targeting creates maximum exposure of the assets we market, ultimately leading to higher net proceeds for our clients.
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IS E-COMMERCE SHAPING THE FUTURE OF
By: Alex Harrold
50 | FALL/WINTER 2018
Through recent years, the industrial sector has gone through some significant changes, primarily due to the rise in e-commerce. For example, companies like Amazon are expecting their goods to be shipped to their customers in two-days or less. As a result, logistics management has become increasingly more important and is being run differently compared to previous years. Logistics professionals can no longer merely go about standard operations, and seasonal peaks are a thing of the past. The race is on to define the future of industrial logistics. MATTHEWSâ&#x201E;˘ | 51
THE GROWING CUSTOMER EXPERIENCE MOVEMENT The following report will go in depth on how these three factors are altering the industrial market. 1. Customers are expecting more from online retailers 2. Customer demand is increasing at an accelerated rate 3. New technologies are disrupting the market 52 | FALL/WINTER 2018
THE LOGISTICS BATTLE: THE TOP 10 TRENDS THAT WILL IMPACT INDUSTRIAL LOGISTICS
FASTER TURN-AROUND TIMES TO MEET CUSTOMER DEMAND ON LAST-MILE DELIVERIES
LOCALIZED WAREHOUSES The high demand is causing a reevaluation of
Following the introduction of Amazon Prime’s
logistics strategies, ultimately affecting where
free two-day shipping, customers now anticipate
warehouses are built and how they are used.
their products to be delivered within 48 hours
Having just a few distribution centers is no longer
or less, with more flexibility, and at little or no
enough to satisfy this increased demand. Instead,
smaller and more regional centers are needed near customers to fulfill last-mile deliveries.
A new logistics protocol needs to be put into place to meet the demanded turn-around time. Industrial companies need to adapt to the changing market proactively. Logistics will need to work faster, harder, and with fewer resources to meet demand and stay competitive. This increased pressure on industrial logistics is not only aimed towards filling new orders and adhering to the latest regulations but also managing the increased influx of returns. Many online retailers are now offering customers the option to “buy and try” a product. This means that if a customer is not satisfied with a product, they can return it at no cost. Manufacturing is also becoming progressively customized, which means that the logistics industry must figure out how to get these personalized goods to the customer within the same time frame, and at the same cost as noncustomized goods. With customers expecting
Last-mile delivery is any movement of freight or product between a distribution center to the end customer. The customer could be a retail store, a restaurant, a rural home, a high rise, or a carrier designated pickup station, such as a specified UPS store or Amazon locker. Last-mile delivery is all that is seen, but not thought of in the daily urban or suburban space. Considerations for last-mile delivery has become widely popular as it is relied upon by various stakeholders in the supply chain, and is supplying the end customer with the experience. The firstmile and last-mile of delivery are both important but, the need for a middle-mile is essential. Freight brokers and third-party logistics are optimizing the middle-mile supply chain by consolidating shipments to satisfy delivery expectations.
faster time-to-market, reduced defect rates,
One strategy for minimizing the cost of delivery
and customized products, the industry is under
is moving less inventory using the just-in-time
pressure to deliver better services at a lower
model, a supply chain management system that
cost than ever before.
is designed to reduce carrying costs. It aligns raw material orders from suppliers directly with production schedules, requiring retailers to forecast demand accurately. MATTHEWS™ | 53
INFRASTRUCTURE IMPROVEMENTS The focus of last-mile delivery is to deliver items
SHOPPING SEASONS WILL BLUR Sales are no longer a rare occurrence, and they
to the end user as fast as possible. However, the
happen every-day, in-store and online. Logistics
main obstacle hindering the speed of last-mile
entities will face the pressure of moving more
delivery is infrastructure. Retailers must begin to
product on a regular basis while also providing
prepare their transportation networks for traffic
superior customer service. The lines between peak
fluctuations caused by the expected growth in
holiday seasons and traditional shopping will blur.
online sales. The Trump administration is already coming up with solutions and has been heavily investing in the nationâ&#x20AC;&#x2122;s transportation systems. This will make it easier and faster to travel, decreasing the cost of transportation. Truck drivers will no longer need to frequently stop, risk damaging tires or deal with congestion, lowering the overall shipping costs because the product will be moved more easily.
ONLINE INTERACTIONS Social media, news, events, and weather will all impact the reevaluation of the logistics strategy. In todayâ&#x20AC;&#x2122;s day and age, where the population is increasingly online, retailers aim to create a seamless brand experience for the customer across personalized marketing. This includes the physical store, the digital experience, and the payment options, all driven by a robust and coherent brand. Advancements in technologies that enable the ability to search for all opportunities and threats will instantly be the foundation of utilizing big data for decision-making throughout 2018 and into 2019.
STANDARDIZATION OF VARIABLE LOGISTICS OPERATIONS Customers will want to have options even if the best shipping option is available. Some customers will want two-day shipping while others will want three-day shipping and ship-to-store options. This trend is primarily due to increased package theft, and the burden of ensuring the package is shipped when the customer is readily available upon arrival. Logistics experts will have to implement mechanisms that will provide customers with the options to select a delivery that best fits into their schedule.
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BRICK-AND-MORTAR REMAIN A CONTRIBUTING FACTOR For some time now, it has been said that brick and
As a result, product inventory will no longer be
mortar businesses are slowly dying and the future
stored in a single location, and varying product
rests in online shopping. However, this doesnâ&#x20AC;&#x2122;t
availability is necessary to meet in-store and online
seem to be the case. As we have seen, in-store
demand. Channel boundaries are blurring, and a
purchases remain strong as customers engage in
uniform shipping standard must be allocated. When
the in-store shopping experience.
a customer is looking at a product in-store, they also expect to see that same product online and
The key success factor for retailers is to adapt
vice versa. Additionally, the customer expects to be
to the latest technology and present a more
able to order a product online with in-store pickup.
personalized shopping experience for customers.
There must be inventory wherever the customer
It is crucial that retailers continue to ask
decides to shop.
customers what they want as their needs change over time. MATTHEWSâ&#x201E;˘ | 55
IMPROVE RELATIONSHIPS WITH THIRD-PARTY LOGISTICS
NEW TECHNOLOGIES As with any industry that is changing, the primary
To stay competitive, logistics providers will
factor that will affect growth is the adaptability
increasingly improve strategic partnerships to
to technology. The ability to adapt and utilize
ensure adherence to customer expectations.
technology will be a significant priority in the mix
The collaboration and standardization between
of top logistic trends in the next five years.
logistics partners would increase efficiency and offer more convenient services.
Technology trends include data analytics, automation, and the physical internet. To keep
However, in specific logistics sectors, there
up with customer demands, companies must
are substantial benefits to having more
leverage this technology. Logistics professionals
consolidation, not less. Also, companies are
must consider and evaluate the utilization of
wary of delegating out the crucial last-mile of
new technologies outside of their traditional
the journey to an operator that may not reflect
technology partners. Technology will provide an
expected service levels.
overall improvement, and streamline delivery of
product to meet customer demands.
Innovation is Key! As logistics technology expands
Customers don’t just want to know where
to keep up with the increased demand, it is
products come from, they want to know where
imperative to know which technologies can make
they are made, how they are moved, who put
or break success as we come to the end of 2018
the products together and what their wages
and go into 2019.
are, whether people are treated fairly, where the
The i ndustry has never had access to so much data!
materials come from and if they are sustainable – and every other question you can think of. By utilizing data analytics and social supply chains, customers will be able to know all the touch points of their product, bringing about a sense of predictability and traceability. With increased transparency, customers will be more inclined to purchase products online.
Logistics is facing an era of unprecedented change as digitization takes hold and customer’s expectations evolve. The industrial sector is becoming an increasingly competitive environment and with this brings higher expectations. As a result, industrial operating models and profitability are under strain.
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TOP 8 LOGISTIC CHALLENGES
2 FUEL CO S T
B U S I N ES S P R O CES S I M P R OV E M E N T S
D R I V E R S H O R TAG E & R E T E N T IO N
4 I M P R OV E D C U S TO M E R S E R V I CE
7 G OV E R N M E N T R E G U L AT IO N S
E N V I R O N M E N TA L I S S U ES
EC O N O M Y
8 T EC H N O LO G Y S T R AT E G Y & I M P L E M E N TAT IO N
Smart warehousing solutions will become essential to overcome these logistic challenges. Transportation costs and adopting innovations and technology advances remain the top challenges as they cut into the budget. Other challenges include new entrants into the market. Over the next couple of years, it is essential that logistics and the industrial industry overall become aligned with customer demand. The needs of customers won’t stop growing, and e-commerce is expected to rise by 9.3 percent annually over the next five years to top $523 billion, according to NAIOP. Now more than ever, it is critical for industrial sites to gear up and prepare for the influx of service demands. For more information on the industrial sector and how to prepare for the future, please reach out to a Matthews™industrial specialist. Alex Harrold email@example.com (310) 919-5790 MATTHEWS™ | 57
s e l e g n A s o L in
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os Angeles is infamous for having one of the least affordable housing markets in the country. In the third quarter of 2017, Los Angeles was named the least affordable city in the nation in relation to average income according to the National Association of Home Builders. Prices in rent and the cost of a mortgage drastically outpace income growth throughout the city. According to a report by Apartment Lists, more than half of renters in Los Angeles are spending approximately 30 percent of their income on housing. And, of that number, roughly half -nearly one-third of the cityâ&#x20AC;&#x2122;s renters- are severely costburdened, and spend almost 50 percent of their income on rent. As a result, this has greatly depressed other types of economic growth in the city.
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RENTS & VACANCIES
between 2014 and 2016. However, for the past five years, current market conditions have held vacancy around four percent. This low vacancy rate gives Los Angeles the right footing to handle the incoming influx of new apartments in the next couple of years.
Faced with the unprecedented housing crisis, affordability in Los Angeles continues to be a hotly debated topic. Compared to last year, rents in Los Angeles grew 1.6 percent according to Apartment List’s rent report. This percentage is below California’s average of 2.1 percent.
VACANCY RATE IN LOS ANGELES
Multiple reports show that rents are expected to increase over $2,200 per month in 2018, a 6.3 percent increase from 2017, and up to $2,373 by 2019. Average rental prices have gone up 23 percent in five years across all of Los Angeles. Although still expensive, rent hasn’t increased a considerable amount in 2018. Based on CoStar data, the median rental price has remained consistent compared to last year. Across Los Angeles, the cost of a one-bedroom in Q3 2018 stands at $1,619. Twobedrooms are listed for $1,975, and three-bedrooms are listed for $2,288, on average.
source: Costar 4.6% 4.4% 4.2% 4.0% 3.8% 3.6% 3.4% ‘15 Q3
VACANCY RATE IN DOWNTOWN LOS ANGELES
asking rent per unit by bedroom
4% 2% 0% 2017 Q3
1 BE D
2 BE D
3 BE D
Some of the highest rents in the Los Angeles market can be found Downtown, where rents are approximately eight percent higher than the rest of the market. The price of a one-bedroom is currently $1,916, a twobedroom is $2,383, and a three-bedroom is $3,172. Not only is Downtown Los Angeles known for having the highest rent, but it also has the highest vacancy rate. At around 4 percent, Downtown Los Angeles has the highest vacancy rate in all of Los Angeles County. Following closely behind, vacancy is also tight in MidWilshire and Hollywood, where availability is limited and average rent increased to $2,435 per month over the last year. According to CoStar, the apartment vacancy rate reached an all-time high of 12.4 percent in September 2015 in Downtown Los Angeles. A direct result of nearly 8,000 apartment units being delivered to the market 60 | FALL/WINTER 2018
development in los angeles
Employment figures anticipate an estimated 53,000 new workers to enter the Los Angeles workforce in 2018, a 1.2 percent increase from 2017. Of course, with any growing population, more housing is necessary to cater the influx of people. According to a study by the National Multifamily Housing Council, the Los Angeles metro area will need 164,000 units by 2030 to keep up with the growing population.
L.A. APARTMENT CONSTRUCTION IS PEAKING source: Costar
15K 10K 5K 0 11
# of u nit s
In 2018 alone, 12,600 apartment units are expected to hit the market. CoStar identified 27,234 units currently under construction, the first wave of as many as 30,000 apartment units that are expected to hit the market in the next three years. This will be the heaviest period in multifamily construction in Los Angeles since the early 90’s, and it will grow inventory approximately 11.2 percent, raising vacancy to 5.2 percent. Currently, Downtown’s construction activity remains around three times the submarket’s long-term average.
Much of this construction is concentrated Downtown, where it is easier to build than in other parts of Los Angeles. Downtown development is showing signs of creeping into Mid-Wilshire, Burbank/Glendale/ Pasadena, and Marina Del Rey submarkets. Approximately 41 percent of these new apartments are being completed on the West side stretching from Silicon Beach to the 101 freeway downtown.
MAP OF DEVELOPMENT TAKING PLACE IN LOS ANGELES source: Costar
ZOOMED VIEW OF DOWNTOWN
re c e n t ly f i n i s h e d pro j e c t s
pr o j ec ts u n der c o n stru c ti o n
pla n n ed pr o j ec ts
MATTHEWS™ | 61
However, despite having more inventory on the market, it will not necessarily improve Los Angelesâ&#x20AC;&#x2122; affordability because only a small share of residents will be able to afford these highly priced luxury units. Los Angeles is already struggling to digest some of the units that have been brought to the market due to the mismatch of renter base to the type and price of apartments. The question then becomes, why are developers only bringing luxury apartments to the market? The answer, in a very competitive, expensive, and lengthy development process, the higher priced units reduce the developerâ&#x20AC;&#x2122;s risk. These above market rents cover the cost of upscale and costly amenities, allowing developers to hit pro forma numbers. Developers are strategically trying to target new products towards the luxury end of the price spectrum to receive profit back on their investments. And, as higher-paying professionals move to Los Angeles, the demand for luxury apartments has increased slightly. Seeing that the region can absorb at least some of the luxury apartments has restored confidence in developers who will be delivering a steady flow of apartments in the upcoming years. However, the problem remains that despite this small demand, approximately 75 to 80 percent of the new apartment supply in this cycle will be luxury or upscale. Soon, high rise apartments and luxury condos are expected to cover the downtown skyline. Apartment projects are becoming nearly impossible to build. According to the Associated General Contractors of America, contractors are expected to pay four to five percent more in 2018 compared to 2017 for construction materials, services, subcontracting, and leasing.
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Here are some major problems impacting development in Los Angeles: HIGH DEMAND AND PRICE FOR MATERIALS AND SERVICES Prices for materials like lumber and steel have increased substantially over the past year which has imposed a significant burden on developers. High demand for these materials has also pushed prices higher, placing more strain on developers. Additionally, construction workers have become increasingly harder to find, so the cost of labor has increased to attract more workers. SHORTAGE OF TRUCK TRANSPORTATION A lack of truck transportation is causing back up in product resulting in retailers having to pay hefty amounts to get to the front of the line. Many factors have contributed to this shortage including high freight volumes, retailers replenishing stock faster, and increased cargo shipping by manufactures. According to the federal reserve, in December 2017, industrial production had the most significant year-over-year gain since 2010. INTENSE COMPETITION AMONG DEVELOPERS AND INVESTORS Developers are competing with each other for premium build sites, materials and labor to complete their multifamily projects. This rampant competition has also lead to an amenities race among developers, who are trying to lure in residents by pushing the limits on modern living, trying to beat out neighboring multifamily developments.
REGULATORY ISSUES, CODE COMPLIANCE AND PERMITTING More than two-thirds of the cities and countries in California’s coastal metros have adopted policies that curb housing growth, according to the Legislative Analyst’s Office. It has been noted that some cities cap the number of homes that can be built each year and place limits on building heights and densities. The slow, complex permitting process has become increasingly difficult and added additional costs to the developer’s bottom line. Development fees are almost three to four times more compared to the rest of the country. Additionally, it takes nearly seven months in California to obtain a building permit, compared to the average four months in other U.S. states. This has slowed the progress down tremendously at a time when units need to be delivered to the market to meet demand. LENDER SCRUTINY Although banks love multifamily deals, bankers are becoming more selective. With record prices, cap rate compression, and increase rents, bank lenders are beginning to pull back on multifamily lending. While there is still demand for the right deals, investors are finding higher leverage requirements and more scrutiny. INCREASINGLY DIFFICULT APARTMENT DESIGNS Customers are expecting modern designs, high-end amenities, top-of-the-line technology, and expensive materials inside the units. These demands are affecting how a building is developed due to materials, services, and more importantly the cost. Officials are discussing ways to bring more affordable housing to the market, but developers are having a difficult time delivering products at an affordable price point. Consequently, occupancy levels have dropped, operators and developers are offering incentives to lure in residents, and the cost of rents have decreased in an effort to generate demand.
los angeles Metro’s Ranked by one bedroom rent Source: Zumper
sta te medi a n
Medi a n 1 B R R en t
Santa Monica Los Angeles Glendale Pasadena Burbank Culver City Santa Clarita Santa Ana Anaheim Alhambra Torrance West Covina Lakewood Norwalk Downey Inglewood Hawthorne Whittier Pomona Baldwin Park Lynwood Beliflower $4,500
Occupancy has fallen as much as 2.5 points from year-end 2016, and vacancy is decreasing in surrounding submarkets as people try to find more affordable housing.
With more high rent units available in the city, owners of existing lower priced apartments are using this opportunity to increase their rents as well. The highend units are ultimately pushing out people who cannot afford the premium rent into Class B and C properties. Owners of these properties are taking advantage and quickly making moves to bump rents to a “sweet spot” which is higher than previous rent averages, but still lower than Class A assets. This is a vicious cycle which is driving rents higher and higher. Currently, renter demand holds Class C vacancy below three percent, above the average rent growth. Soon, renters will have very few options when it comes to finding an affordable apartment complex.
MATTHEWS™ | 63
los angeles median 1-bedroom rent (summer 2018) Source: Zumper | CoStar
$600 - $1,199
$1,200 - $1,799
$1,800 - $2,399
whatâ&#x20AC;&#x2122;s to come
$2,400 - $2,999
$3,000 - $3,599
With any market bull run comes a corrective phase where values decrease and/or consolidate for periods of time. Many factors have affected market valuations, especially in commercial real estate. One of the most talked about topics is the tax reform.
rather locate their businesses in cities where they can find highly skilled labor, like downtown Los Angeles. Lower income residents will stay, as they donâ&#x20AC;&#x2122;t pay much in taxes, and have fewer options to move when it comes to affordable neighborhoods in Los Angeles.
Many economists and real estate experts have suggested that the tax reform will cause a flight of high net worth individuals out of California, especially those along the coast who have higher property values. If this is true, the increased construction of apartments in Los Angeles could potentially hinder out-of-state moves and become increasingly popular to those who are paying high property taxes along the coast.
The tax reform will mainly impact the commercial side, but even then, companies are chasing the skilled labor group. It is important for a Californian investor to realize that there are other pockets and cities out of state with similar characteristics to the Los Angeles Metro area. For example, Dallas, TX is becoming increasingly popular for Californian investors who are looking to invest in multifamily. Job growth and population growth in Dallas are increasing, which as a result has had a positive effect on multifamily investment. According to a report by Texas Association of Realtors, in 2015, 553,032 people migrated to Texas from out of state, an increase of 2.8 percent year-over-year.
Those that disagree say that the benefits to companies will offset the increased costs. People and their migration tendencies will make location decisions that are not primarily driven by tax considerations but 64 | FALL/WINTER 2018
It is still uncertain how the construction in Los Angeles will affect the multifamily market, but one thing we know is that Los Angeles will not see a decrease in rents or vacancy until the market adjusts to a supply and demand equilibrium. Recently, we have seen investors migrate towards nontraditional places, where they can find higher yields and are still within the borders of an employment hub. Renter demand for Class C apartments has also fueled investors desire for older assets.
Los Angeles multifamily development is incredibly robust. Soaring rents are continuing to encourage new development, especially Downtown, as investors look to satisfy the demand of young, affluent workers in this region. There is concern surrounding the costly oversupply and has people questioning how much longer this boom can continue? However, even with all the activity, Los Angeles is still extremely undersupplied, especially when it comes to affordable housing.
MATTHEWSâ&#x201E;˘ | 65
OUR TENANT REPRESENTATION SERVICES INCLUDE: Strategically identifying and touring potential neighborhoods or markets beneficial to the tenantâ&#x20AC;&#x2122;s business
Leveraging traditional and modern sales techniques to uncover off market opportunities
Preparing and negotiating offers on behalf of the tenant
Providing access to a network of professionals including contractors, attorneys, architects, and consultants to assist the tenant across all facets of the expansion process
Providing a detailed market analysis including area demographics, lease comparables, and more
THE KNOWN UNKNOWN OF
COSTA HAWKINS HOW
By: David Harrington & Daniel Withers In November 2018, California residents are expected to vote on Proposition 10, a statewide Affordable Housing Act which would repeal the Costa Hawkins Rental Housing Act and give cities the ability to impose rent-control policies. Costa Hawkins was put into place in 1995 in an effort to place limits on rent control ordinances by regulating the type of rent control rules that cities can implement. Proponents say Proposition 10 will fix Californiaâ&#x20AC;&#x2122;s housing crisis but, opponents say it will do the exact opposite. The following article will go into how the repeal of Costa Hawkins came to be, whatâ&#x20AC;&#x2122;s currently happening in the market, and the possible implications of Proposition 10.
68 | FALL/WINTER 2018
EFFORTS TO REPEAL COSTA HAWKINS
In California alone, 200,000 housing units are needed per year to keep up with rising demand, though
As a result of high rents and a shortage of affordable
approximately 80,000 units are being built annually
housing, the Affordable Housing Bond Act was
according to a statewide poll conducted last year by
introduced to the California assembly committee on
state housing officials.
February 17th, 2017. If passed, it will repeal Costa Hawkins and allow cities to implement rent control on all
While repealing Costa Hawkins and expanding
property types. It will free local governments to expand
rent control might seem like an obvious solution,
rent regulations however they wish, permitting them to
there are many negative side effects of Proposition
extend rent regulations to single-family homes, duplexes,
condominiums, and any buildings built after 1995. •
to all units, new or old
However, the bill was put on hold after landlords protested vigorously until October 2017 when tenant advocate groups proposed a ballot initiative (Proposition
committee announced that they rejected the Affordable
Worsening the Californian housing crisis by reducing the supply of rental housing and driving up costs
10) that would repeal Costa Hawkins without the help of the state. On January 11th, 2018 the California assembly
Allowing Los Angeles officials to apply rent control
Providing limited affordable apartment units that will benefit tenants
Housing Bond Act. •
Deteriorating the quality of buildings
Limiting an owners ability to maintain properties
qualify Proposition 10 for the November 2018 ballot.
Dramatically slowing construction of new units
WHY IS IT BEING REPEALED?
The repeal of Costa Hawkins will not fix the
On June 15th, supporters of rent control options from cities across California announced that they had gathered enough signatures, approximately 408,000, to
According to supporters of Proposition 10, California’s
infamous homeless and affordable housing crisis is a result of Costa Hawkins and the limits it places on the
Research demonstrates that mandating artificial prices
cities abilities to address the housing crisis. However, if
for rental units reduces the supply and drives up costs
passed, Proposition 10 stands as a threat to all renters
because it isn’t economically feasible to construct.
and property owners.
Additionally, it creates an economic disadvantage to lowincome families who need affordable housing the most.
The overarching problem California’s current apartment
According to a 2015 report by The Economist, those
market faces is an imbalance of supply and demand.
living in rent-controlled units in New York have higher
Using simple economics, rents and housing prices are
median incomes than those in market-rate apartments.
high because the demand for affordable housing far
This is primarily due to wealthier people being in a
exceeds the supply. There is simply just not enough
better position to track down and secure rent-stabilized
housing to keep up with the demand of the millions of
apartments. Furthermore, expanding rent control would
people who want to live in California, in proximity to their
not only place an immediate halt on construction, but it
jobs, without spending half of their income.
would also discourage future development.
MATTHEWS™ | 69
( S o u r c e : C l a r u s M a r ke t M e t r i c s )
MEDIAN HOME PRICES
AVG. MONTHLY APARTMENT RENT
East Palo Alto
WHAT’S CURRENTLY HAPPENING IN THE MULTIFAMILY MARKET? The potential repeal is imprinting
the hottest apartment markets of
Due to the uncertainty in California,
fear in multifamily owners. Owners
all time by selling their asset. Those
multifamily investors are moving
are currently experiencing
that are taking a “wait-and-see”
their equity to other parts of the
substantial increases in overall
approach are holding off on selling
country. Markets like Las Vegas,
costs to operate their building.
or buying due to such uncertainty
Dallas/Fort-Worth, Denver, Phoenix,
Utility, labor, maintenance, and
and waiting to establish a clear and
and the Pacific Northwest are
material costs have increased
confident plan of action.
all gaining traction in multifamily
drastically over the last 18 months.
investments. This investment shift
With these rising costs and the Costa
Research from Real Capital
is a concern for California, as it
Hawkins repeal in the forefront,
Analytics shows that there was a
will weaken California’s economy
many owners are evaluating their
22 percent increase, approximately
and its ability to attract talented
current position. Owners are taking
$4.8 billion, in multifamily sales
employees. Companies and the
two different approaches, some are
during the first quarter of 2018
multifamily market follow people,
watching diligently, and others are
compared to the same quarter last
and if people have to move because
narrowing their portfolio in an effort
year. In Santa Monica, for example,
they cannot afford living expenses,
to get ahead.
the number of properties on the
companies will follow suit. If California
market is at the highest level in 20
does not have a housing supply
Aside from the Costa Hawkins
years. This same data also reveals
that is affordable, people won’t be
repeal, increase in labor, a robust
that prices have risen eight percent,
able to accept jobs and companies
soft-story retrofit environment, and
demonstrating healthy demand
won’t want to stay.
rising interest rates are prompting
despite the potential repeal.
owners to take advantage of one of
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WHAT INITIALLY LED TO COSTA HAWKINS IN 1995? Beginning in the late 1970s, real
During 1978, Proposition 13 was
Angeles officials were unable
estate values and surging interest
approved and passed by voters
to expand rent control to newer
rates made single-family homes
which reduced property taxes by
buildings, and placed a cap of three
in California unaffordable to the
about 57 percent. Many voters
to eight percent on yearly rent
point where numerous residents
thought that this would lower
increases on buildings built prior
started moving into apartments. As
landlord property taxes, and they
to October 1st, 1978. For buildings
a result, the supply of apartments
would, in effect lower the rents.
constructed after October 1st, 1978,
became limited, and rental rates for
However, few landlords reduced
landlords could set their own rental
multifamily accelerated at a
their rents. In response to tenant
rates and change them after the
pressures, the Los Angeles City
term of the lease. By 1988, fourteen
Council responded to the shortage
cities had adopted full rent control
A majority of multifamily owners
of decent affordable housing
lawsâ&#x20AC;&#x201D;including Los Angeles, San
were suffering financially, as
options for tenants by placing a
Francisco, San Jose, and Oakland.
apartment buildings became
freeze on rents for six months.
dilapidated due to deferred
During these six months, the
As Californian cities began adopting
maintenance. Rent control laws
city council worked on the Rent
rent control laws, Costa Hawkins
thrived while at the same time driving
was put into place in 1995 to reign in
owners out of business, creating a
rent control in five California citiesâ&#x20AC;&#x201D;
decaying housing stock, drastically
This ordinance officially passed
Berkeley, Santa Monica, Cotati, East
reduced housing supply, and
in 1979, and prevented cities
Palo Alto, and West Hollywood.
multiplying rental rates even further.
from updating ordinances, so Los
The Costa Hawkins Rental Housing Act gave landlords the right to do the following:
Increase the rent to market
Exempt certain types of buildings
Prevent cities from establishing
rate on a unit once a tenant
from rent control including single-
rent control or capping rents
family dwellings, granny flats,
on units constructed after
The Costa Hawkins act was amended in 2002 to allow owners the ability to obtain a new certificate of occupancy after a condo conversion even without them selling any of the converted units. However, under this act, the rental units do not become exempt from rent control.
MATTHEWSâ&#x201E;˘ | 71
TIMEL I NE
COSTA HAWKINS HOW
CAME TO BE
JANUARY 11TH, 2018
Committee rejected the Affordable Housing Bond Act
Rent Stabilization Ordinance Passed
Real estate values increased & vacancy decreased
The city of Berkeley passed the first Californian rent control ordinance
JUNE 1978 Proposition 13 was approved & passed
AUGUST 1978 A six-month freeze was placed on rents
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14 cities adopted rent control laws
Costa Hawkins Rental Housing Act became a law
Costa Hawkins was amended
FEBRUARY 17TH, 2017
Affordable Housing Bond Act introduced
OCTOBER 23RD, 2018
Coalition for Affordable Housing, Sponsored by AIDS Healthcare Foundation and ACCE Action proposed the ballot initiative - Proposition 10
JUNE 15TH, 2018
Coalition for Affordable Housing, Sponsored by AIDS Healthcare Foundation and ACCE Action collected required signatures to place Proposition 10 on the ballot
NOVEMBER 6TH, 2018 Voters will vote on Proposition 10
IF REPEALED, WHAT EFFECT WILL IT HAVE ON… TENANTS
There may be short-term effects of skyrocketing
In the last 24 months, alone, construction costs
rents on the properties without current rent control
have increased 25 percent, and it doesn’t seem to
mechanisms in place. Especially for newer construction,
be slowing down. Therefore, developers will begin to
the repeal will cause high rents and fewer affordable
hold off on bidding on land to build new developments
apartment options. In the long term, properties will
because it will be financially unattainable, further
begin to deteriorate and supply will become limited.
worsening the affordable housing crisis. The supply of
Additionally, only the very few who are fortunate enough
rental housing will be reduced, creating more pressure
to obtain a rent-controlled unit will benefit.
for renters to find affordable housing. Unless the government funds developments, makes the permit process less burdensome or implements rent legislation,
INVESTORS Property owners will be forced out of business
developers will not be able to cover the costs and make a reasonable profit.
because they will no longer be able to maintain their properties adequately. According to one estimate, property values could decline 10 to 30 percent. Owners will not be able to afford repairs and maintenance, not
GOVERNMENT Without vacancy decontrol afforded under Costa Hawkins, municipalities can control the rental
to mention the city-imposed mandates such as reducing
marketplace in its entirety. Cities will have greater
seismic vulnerability. Owners will see profits deteriorate
flexibility when it comes to setting rent control policies,
as overall costs to operate increase and rents decrease.
and it will give them essential tools for protecting
It is anticipated that local municipalities will implement
stricter code enforcement guidelines for owners to oblige by, preventing owners from maximizing profits for investment. Additionally, individuals or corporations who are considering investing in buildings with newer units will no longer receive the protection from rent control for new construction further discouraging investment in new units. No legislation can persuade people to invest in money-losing enterprises.
MATTHEWS™ | 73
THE BATTLE IS ONLY BEGINNING On January 11th, 2018 the California Democratic Party voted overwhelmingly to endorse Proposition 10. These voters are historically known to be more emotional, and approximately 65 percent of those attending the polls in November 2018 will be non-republication voters. It is also important to note that 60 to 62 percent of these votes own homes, rather than rent apartments. However, numerous groups have joined together to oppose Proposition 10. These groups include California Rental Housing Association, California Apartment Association, and more than a dozen other housing groups.
TOTAL CAMPAIGN CONTRIBUTION FOR PROPOSITION 10
IN OPPOSITION OF
IN SUPPORT OF
REPEALING COSTA HAWKINS California Rental Housing Association Total Reported Contributions as of 9/22/18: $100,000
Californians for Affordable Housing, No on Proposition 10, Sponsored by the California Rental Housing Association Total Reported Contributions as of 9/22/18: $33,161,258.60
REPEALING COSTA HAWKINS Yes on 10 (Coalition for Affordable Housing), Sponsored by AIDS Healthcare Foundation and ACCE Action
Total Reported Contributions as of 9/22/18: $13,727,960.90
Make Housing Affordable- Yes on Prop. 10 Total Reported Contributions as of 9/22/18: $613,915.71
No on Prop 10- A Flawed Initiative that will Make the Housing Crisis Worse a Coalition of Housing Advocates, Renters, Large and Small Businesses, Taxpayer Groups, and Veterans Total Reported Contributions as of 9/22/18: $13,366,825.30
Californians For Affordable Housing, No On Proposition 10, Sponsored By The California Rental Housing Association Total Reported Contributions as of 9/22/18: $275,790.22
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It’s more about just checking a yes or no on the ballot in November. There are a lot of other underlying housing issues that need to be addressed, including affordable housing. Even with the repeal of Costa Hawkins, the affordability issue isn’t going to go away. The repeal will bring long-term ramifications that will include a lot less construction, investment and a
DAVID HARRINGTON firstname.lastname@example.org (310) 295-1170
decrease in the value of real estate. Common ground must be found. The challenge is to overcome the current barriers—whether regulatory, political, economic, or cultural—to unlock supply and build much-needed housing.
DANIEL WITHERS email@example.com (818) 923-6107
If you have any questions about Costa-Hawkins or the future of your investment property, please reach out to a Matthews™ multifamily specialist.
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A Crucial Component for Property Management BY: TIM WOODS
Before online payments and resident portals, the leasing office was guaranteed to see residents at least twelve times a year, specifically when rent was due. Today, the leasing office is seeing residents far less, and maintenance technicians are engaging with residents more. The introduction of technology has increased the importance of a highliy skilled maintenance team and made their role crucial to successful property management. Becoming a key player in the day-to-day management of a property makes personality skills just as necessary as the technical abilities of a maintenance technician.
A maintenance team can either systemically enhance or quickly collapse the infrastructure and reputation of a property. Therefore, having a high performing maintenance team can improve residentsâ&#x20AC;&#x2122; living experience leading to higher resident retention and renewals. However, most properties are short-staffed on maintenance and are getting further and further behind on property upkeep. It is imperative to have a maintenance team that can stay ahead of property functionality and resident work requests through effective communication.
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What to look for in an excellent maintenance team In today’s market, there are historically low
Year-over-year, employment in installation,
unemployment rates making it a challenging
maintenance and repair is growing at two percent.
environment for recruiting. The number one open position at a multifamily property is a maintenance technician. However, these skilled positions are becoming harder to fill as the nation’s job growth revolves around more lucrative positions, according to June’s U.S. Department of Labor job report. Additionally, the apartment industry is facing fierce competition from the construction industry for maintenance technicians. Construction jobs have accelerated over the years and are hiring people whose skill sets overlap with what the apartment industry is looking for in a maintenance technician.
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When finding a maintenance technician for your property, it is essential to know your property’s needs and prepare for the interview. Property management needs to make educated decisions when filling these positions due to the interpersonal relationship between maintenance and residents. A resident is more likely to put a face with a community through contact with maintenance technicians rather than the leasing office. Therefore, maintenance technicians need to be on top of their game at all times and understand the role that they play in the community.
5 ways an excellent maintenance team can improve a resident’s living experience 1. STANDARDIZATION
An excellent maintenance team can streamline the parts and products used throughout each unit and the property. Saving both time and money, this will lead to a simplified service process and quicker resolution of maintenance issues and repairs.
2. INSTILL CONFIDENCE IN RESIDENTS
It is important that the maintenance team has clean uniforms, and shows confidence, professionalism, and expertise. This outward appearance will secure residents confidence in the ability of both the technicians and the management company.
3. INCREASE COMMUNICATION WITHIN THE COMMUNITY
The most impressive maintenance teams consider themselves part of the leasing team. Everyone in the community must work together to create a great living environment. When residents feel comfortable with the staff in the community, they are more likely to express their concerns. It is important that maintenance technicians are able to communicate with residents to get the job done, especially when it’s resident error, a friendly and respectful maintenance technician will help keep residents happy.
4. EDUCATE RESIDENTS
Short videos of maintenance technicians correctly operating appliances in the units will further connect residents with the property’s maintenance technicians while also reducing service requests.
5. PREVENTATIVE MAINTENANCE
Long-term effectiveness is linked to effort. Proactively working to upkeep the community, not only ensures that systems are functioning correctly but also mitigates risk factors. An excellent maintenance team will do more than what is listed on the service ticket. For example, checking the standard safety features and asking residents what else can be done each time they are on a maintenance call or enter a unit. Often, they will find and correct unknown issues, taking every opportunity to fix the small problems before they become large-scale risks. Putting in the effort now will save time in the future.
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Tips for hiring a great maintenance team member •
Ask plenty of questions about their skills. A candidate, in addition to their mastery of technical skills, should also be competent and effective in their regular habits.
Understand the basic certifications. It might be beneficial to bring in a professional who understands these certifications and can ask specific qualification questions to make sure the candidate has the necessary certifications to mitigate risk and insurance issues that arise from unskilled workers.
Have the candidate complete a personality test. This test will help to determine if the candidate is a good communicator.
Make sure the candidate is knowledgeable on recent innovations in apartment living. They should be willing to learn and be able to adapt to a changing environment.
Are they familiar with using technology? It is necessary that they be familiar with cell phones, facilities applications, and online reporting.
Provide a maintenance test. A hands-on maintenance test will reveal their knowledge base.
Walk through the property and a vacant unit. The candidate should have a complete understanding of the properties needs before they are offered a job. They should be familiar with the systems in place and how to navigate unit features.
Check vendor references. It is important to get independent insight into the applicant’s reputation in the community.
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How to retain an exceptional maintenance team TRAINING ON NEW PROCESSES
TEAM ORIENTED EVENTS
Highly effective maintenance teams should
An event hosted by the apartment complex is a
continue to learn more effective methods even after
great way to let residents mingle with technicians
they are hired. The ability to continue sharpening
in a casual atmosphere. These type of events
their skills and keeping up with the latest regulations
will allow the tenants to share their thoughts,
and processes is vital to the community’s safety
communicate common service requests, and
and efficiency. Additionally, it provides them with the
provide tips on how residents can run their
opportunity to grow professionally.
apartments more efficiently.
CROSS TRAIN OFFICES
Educate office staff and maintenance technicians
It is the job of the property manager to make sure
on the roles individuals play throughout the
that the employees feel part of a larger team and
property. Invite the office staff to spend a day
are confident that communication is a two-way
shadowing a maintenance technician, and vice
street. The maintenance team doesn’t want to feel
versa. This activity will help the office staff to better
like they are taking orders and need to understand
understand what the technicians need in order to
the impactful role they play in the overall reputation
complete the job right the first time around. There
of the community. Having regular meetings will
needs to be good communication between offices.
help increase team mentality. When teams work
For example, if the office staff understands that
together, they are able to build a community by
the more information residents can provide about
doing what is needed when it is required.
a maintenance problem, the better educated the maintenance team is to assist and correct the
problem. It also teaches the right language for
Having a great team manager will motivate the
the office staff and maintenance technicians to
team. The maintenance team manager should have
use around residents, so there is a clear line of
the ability to mentor his crew and the community to
communication. Cross-training further improves
make them feel like they are part of a team. Regular
resident confidence in management’s ability to
rewards and recognition programs can also go a
resolve issues efficiently and effectively.
long way towards making a maintenance technician feel appreciated.
REFERRAL BONUS Properties always need more maintenance
technicians. Consider offering a referral bonus to
Documentation should be well organized which will
technicians and office staff. People want to work
allow maintenance technicians to balance an ever-
with people who are high-quality performers, have
changing workload and finalize tasks in an orderly
good work experience, and contribute to a positive
fashion. The maintenance team manager should
also report to management regularly to make sure the team is completing all necessary forms and keeping up with their digital reporting. MATTHEWS™ | 81
In an industry that is continually renewing and upgrading itself, it is necessary to make sure that the residentâ&#x20AC;&#x2122;s needs are being met. By retaining high-performing maintenance technicians, the residents will feel confident that they are being taken care of. If you have any questions regarding how to manage and enhance your maintenance team, please reach out to one of our property management specialists. Tim Woods firstname.lastname@example.org (310) 919-5725
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THE EXTENDED 1031 EXCHANGE PROCESS
An Improved Alternative Method to a Traditional Exchange
By: Daniel withers & David harrington
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Healthcare in real Estate
LEGISLATIONS MATTHEWSâ&#x201E;¢ | 97
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LOW Rent-To-Sales Ratio
HIGHER Poperty Value
HIGH Rent-To-Sales Ratio
LOWER Poperty Value
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S O U R C E : Z I L L O W A N A LY S I S O F U S C E N S U S B U R E A U
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In 1993, multifamily accounted for 7 percent of new residential construction spending, but that share has increased by more than 2.5 times, to 18 percent in 2017. This increase is partially attributable to the nationâ&#x20AC;&#x2122;s growing share of renters. As reported by the U.S. Census Bureau, between 2005 to 2016, 91 percent of all newly constructed households were renters, and renters currently occupy 87 percent of the units in multifamily properties.
The construction itself creates jobs and injects money which can be a boom for the local economy.
In 2017, annual spending on new multifamily construction totaled $62.6 billion; this amount is 3.8 times the amount spent in the post-recession trough of 2010, and it is just 2.6 percent shy of the pre-recession peak of 2006. In contrast, single family construction has failed to recover to the same extent, with real spending still at less than half its peak level.
The addition of new units to the housing supply serves to meet the need for housing, which helps keep rent growth in check
MATTHEWSâ&#x201E;˘ | 111
T O P 2 0 U S M E T R O S B Y P R O J E C T E D A PA R T M E N T D E L I V E R I E S I N 2 0 1 8
S O U R C E : YA R D I M AT R I X
NE W YORK , NY 17,132
DALLAS-FORT WORTH, TX 15,187
DENVER, CO 11,449
LOS ANGELES, C A
C H I C AG O, I L
MIAMI, FL AT L A N TA , G A
WA S H I N G TO N , D C
AUSTIN, T X
S E AT T L E , W A
HOUSTON, T X NASHVILLE, TN
S A N F R A N C I S CO, C A
CHARLOT TE, NC
P O R T L A N D, O R SAN JOSE, CA P H I L A D E L P H I A , PA TA M PA , F L
After peaking in 2017, apartment demand was expected to finally slowdown in 2018. However, demand in 2018 grew faster than expected, as developers started to build thousands of new apartments. Once again, apartment rent growth is on the rise, increasing average apartments rents to 2.9 percent, according to RealPage. Rents are growing as developers begin to open new luxury, class A, apartments. An immense amount of supply is still underway, especially in areas where the population and employment is growing. Throughout the nation, markets with high levels of multifamily construction have seen larger population growth, increasing employment, and strong rental rate increases despite the growth in total number of units. Texas, in general, is experiencing both population and employment growth, two fundamentals that go hand-inhand. A lot of this growth is happening with the “Texas Triangle,” which has shown a great amount of economic growth in the last decade. The Texas Triangle, is defined as the three corners Dallas, Houston, and San Antonio, and the area between. Currently, the triangle is comprised of 17 million people over 58,000 square miles, and by 2025, that number is expected to be over 30 million people. 112 | FALL/WINTER 2018
4,804 4,533 4,368 4,176
THE TEXAS TRIANGLE
The Dallas-Fort Worth and Austin-Round Rock metro areas are two key examples of the immense growth multifamily starts can bring to an economy. Matthews™ looks at the economic growth these areas have experienced and why multifamily investors should keep their eyes on these booming areas for investment.
FA S T E S T G R O W I N G C I T Y I N T H E U . S .
# 1 F O R R E A L E S TAT E I N V E S T M E N T S I N EMERGING TRENDS SURVEY
9TH LAR GEST CIT Y IN THE U.S.
10TH BEST PLACE FOR BUSINESS AND CAREERS
The DFW region’s attractive quality of life, strong regional and state economy, low cost of living, skilled labor force, pro-business mindset, and absence of corporate and personal income taxes all contribute to the thriving Dallas-Fort Worth area.
A FAVORABLE BUSINESS CLIMATE Home to over 22 companies on the Forbes 500 list, DFW has added over 122,000 jobs in the last year experiencing a growth rate of 3.4 percent with over 334 jobs per day. In the most recent data released by the U.S. Bureau of Labor Statistics, among the 12 largest metropolitan areas in the country, Dallas ranks second in the number of jobs added over the year and ranks third in the annual rate of job growth. 2 0 1 0 - 2 0 1 8 P E R C E N TA G E C H A N G E
Ranked as one of the top 20 place to live by U.S. News, Dallas-Fort Worth is leading the nation in population growth having over 7.4 million people. Home to a surplus of Fortune 500 companies, four times more restaurants per capita than New York City, and the most shops per capita in the world, this bolstering metro has grown to match the size of Seattle throughout the last seven years. According to the Dallas Regional Chamber, more than 780,000 residents were added from 2010 to 2016. In 2016, over 390 people were added per day to the DFW area in 2016 with 40 percent of that growth due to natural increase and 60 percent from net migration. It is estimated that 10,6676,844 residents will live in the DFW region by 2040.
EMPLOYMENT GR OW TH
SOURCE: BUREAU OF LABOR NE W YORK DALLAS-FORT WORTH LOS ANGELES HOUSTON PHOENIX AT L A N TA SAN FRANCISCO WA S H I N G TO N D C CHICAGO MIAMI PHILADELPHIA BOSTON
MATTHEWS™ | 113
U N E M P L O Y M E N T R AT E
U N I T E D S TAT E S
SOURCE: BUREAU OF LABOR
PERCENT 11 10 9 8 7 6 5 4 3 2009
The unemployment rate in DFW remains well below the national average of 3.5 percent, near historical lows not consistently seen since the high-tech boom of the 1990’s. With this low rate, it’s no wonder young professionals are flocking to this area for job opportunities. DFW is home to more than 100,000 businesses and 1,500 corporate headquarters — ranking 4th in Fortune 500 corporate headquarters and responsible for producing about onethird of all goods and services in Texas.
DE VELOPMENT PIPELINE
AS OF JUNE 2018 S O U R C E : YA R D I M AT R I X
PROSPECTIVE 53,965 UNITS
134,554 T O TA L
UNDER CONSTRUC TION 43,731 UNITS
DFW MULTIFAMILY: BOOMING IS AN UNDERSTATEMENT
With the prosperous business and job opportunity climate in DFW creating a steep increase in renters, there’s no surprise in the increased development and construction of multifamily housing in the area. With more than 17,000 new multifamily units projected to come online by the end of 2018, DFW is the second top multifamily market in the nation behind New York City in terms of apartment supply. Outpacing metros like Denver, Los Angeles, and Chicago.
PLANNED 36,858 UNITS
Just recently, Dallas-Fort Worth topped the annual Emerging Trends in Real Estate markets ranking on desirability in real estate investment for the second time in three years, helped by the metropolitan area’s affordability, available workforce, quality of life, emergence as a distribution hub and its focus on job growth. Dallas-Fort Worth has ranked among the top 5 markets six times in the past decade in the survey, which is conducted in a partnership between professional services firm PwC and the Urban Land Institute, a nonprofit research group focused on land use issues. 114 | FALL/WINTER 2018
TOP 5 SUBMARKE TS WITH MOST NEW UNITS IN PIPELINE
FRISCO/THE COLONY/LIT TLE ELM
4,645 M C K I N N E Y / A L L E N / FA I R V I E W 3,931 U P T O W N / D O W N T O W N / PA R K C I T I E S 3,897 DOWNTOWN/ THE CEDARS/DEEP ELLUM 3,284 R O C K WA L L / R O W L E T T / S A C H S E / M U R P H Y
With its vibrant business climate and quality of life, Austin has obtained a substantial amount of accolades: #1
BEST PLACE TO LIVE
U . S . C I T Y AT T R A C T I N G T H E MOST WORKERS
IN FORBES’ ANNUAL R A N K I N G O F A M E R I C A’ S B E S T CITIES FOR JOBS
BEST-PERFORMING CITY IN ANNUAL ASSESSMENT OF W H E R E A M E R I C A’ S J O B S A R E C R E AT E D & S U S TA I N E D
BEST ECONOMY OUT OF THE 40 BIGGEST CITIES IN THE U.S.
Austin is the country’s 11th largest city with all the positive attributes of a smaller town.
QUALIT Y H E A LT H C A R E
SILICON HILLS Like Dallas, Austin’s expansion is paced by strong population growth. Last year, the metro area had the strongest population increase and rate of domestic inmigration of any in the country with a population over a million. This population growth has translated into many things, particularly in retail sales, construction jobs, financial services and trade, helping boost a diverse job climate. Economists predict the Austin metro area will add 62,500 residents this year and another 65,000 residents in 2019, raising the region’s population from 2.1 million in 2017 to 2.24 million in 2019. The unemployment rate in Austin and the surrounding area is lower than the national average, and the average income is slightly above the national average as well. Austin will add 29,800 jobs in 2018 and 31,200 jobs in 2019 Many major employers have added to the population growth seen in Austin. Oracle, for example, unveiled its new Austin campus as a sales innovation customer experience hub to support increasing demand for Oracle Cloud and attract top talent. The Austin complex features a 560,000-SF facility and spans 40 acres of Lady Bird Lake waterfront property that could ultimately support a workforce of up to 10,000. Plans filed by Oracle in April will add an additional 420,000 SF that could house a couple thousand workers on top of the 3,000 already filling up the campus’ first phase.
LOW CRIME R AT E S
O U T S TA N D I N G SCHOOLS
LOW COST OF LIVING
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MULTIFAMILY CONSTRUCTION As one of the cities with the most robust apartment construction in the country, Austin is adding an impressive number of 5,758 new apartments by the end of 2018. As a result of the 19% increase in apartment construction, rents in the area have gone up by a shy 0.2% in the last year. The sizeable supply of apartments is pushing landlords to offer concessions such as months of free rent. It’s no secret that it is getting more and more expensive to build new apartment units. However, in comparison to other states with large metropolitan areas, it is much easier build in states like Texas that don’t have long a permitting process or strict regulations. In Los Angeles, for example, it could take over a year to get a permit compared to the average three month permitting process in the Austin metro.
DE VELOPMENT PIPELINE
AS OF JUNE 2018 S O U R C E : YA R D I M AT R I X
PROSPECTIVE 32,646 UNITS
71,075 T O TA L
UNDER CONSTRUC TION 19,441 UNITS
27.4% PLANNED 18,988 UNITS
AUSTIN ME TRO
2018’S HOT TEST MARKETS F O R N E W A PA R T M E N T S S O U R C E : YA R D I M AT R I X
AUSTIN - 5,758 ROUND ROCK - 796 PFLUGER VILLE - 721 LEANDER - 478 C E D A R PA R K - 7 6 0
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N AT I O N A L
U N E M P L O Y M E N T R AT E
SOURCE: BUREAU OF LABOR
The renter-age population is increasing/growing
Overall, the long term demand for rentals is likely to remain high for a variety of demographic and social reasons:
The renter-age population is increasing/growing There is demand from retirees downsizing from single family homes
Dallas-Fort Worth and Austin-Round Rock are not only the best cities for jobs and business relocations, but some of the best markets for real estate investments. Multifamily investors should keep their eyes on these active Texas markets as we will continue to see healthy activity.
D A N I E L . M C Q U A I D @ M AT T H E W S . C O M (214) 932-1284
C R A I G . I R V I N @ M AT T H E W S . C O M (512) 817-4975
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AWARDS & RECOGNITIONS
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TOP INFLUENCERS IN RETAIL
CRE’S BEST PLACES TO WORK
REAL ESTATE FORUM
REAL ESTATE FORUM
POWER BROKER AWARD - LOS ANGELES
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TOP BROKERAGE FIRM
CRE’S BEST BOSSES
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Industrial property types to know
Th e i n du s t r i a l s e c t or h a s be e n p re v iously ove rlooke d b y inve st ors, b ut w it h t he sky rocketing gro w th w e â&#x20AC;&#x2122;v e s e e n i n e - c om m e rc e in t he last d e cad e , ind ust rial prope rt ie s are now a ho t c o mmo di ty . A c c o rd i n g t o R e a l Ca pi t al A naly t ics, inve st m e nt act ivit y is at a re cord hig h lev el. Th e $18. 2 bi l li on i n d e a l v ol um e s e e n in Q 2â&#x20AC;&#x2122;18 is t he st ronge st Q 2 for d e al volum e in histo ry. In du s tr i a l va c a n c y i s c ur re n t l y t ra c k i ng at it s low e st le ve l of t he past 30 y e ars and is now a full 300 bps be l ow t h e 10-y e ar hist orical ave rage of 8. 3 pe rce nt .
B y : J o h n n y D u n n & Ky l e r B e a n 120 | FALL/WINTER 2018
Demand for industrial space continues to rise with an immense amount of foreign and domestic capital still looking to buy into this growing sector. As e-commerce continues to play an important role for retailers, industrial will continue to be sought out and be vital for business operations. Investors should pay attention to the benefits of this asset class, as industrial properties typically contain:
L O N G-T E R M T E N AN T S
LONG TERM SECURITY WITH THE
ABILITY TO RE-TENANT SHOULD THE OCCUPYING TENANT EXIT
MOST ACTIVE INDUSTRIAL MARKETS H1’ 18 2013
71% 41% 28% -6% 39% -23% 87%
DC VA burbs
-3% 167% 107% -1%
136% 0% 212% 59%
MARKETS IN ORANGE DENOTE RECORD HIGH H1 VOLUME IN H1’18 SOURCE: REAL CAPITAL ANAYTICS
Without increased construction in the industrial space, market fundamentals such as rents and occupancy rates will only rise on the basis of square footage demand predictions for the rest of 2018 and all of 2019, according to a forecast report by NAIOP. The bulk of economic indicators are showing positive rent growth which will continue to increase in the next year and a half, if not beyond.
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CONSTRUCTION IS BACK IN FULL FORCE BTS AND SPEC BULK-REGIONAL RBA UNDER CONSTRUCTION
210 180 150
139 139 111
185 190 189 180
MILLIONS OF SQUARE FEET UNDER CONSTRUCTION
88% 148 126
CURRENT OCCUPANCY RATE
INDUSTRIAL SALES VOLUME SOURCE: COSTAR
18 16 SALES VOLUME, MILLIONS
14 12 10 8 6 4 2 0 01
02 03 04 05 06 07 08 09 10 INFILL/LOCAL SALES VOLUMES
BULK/REGIONAL SALES VOLUME
With the excitement and interest of industrial assets, Matthewsâ&#x201E;¢ breaks down the different types of properties in this sector and what particular selection might be best for investors. 122 | FALL/WINTER 2018
Warehouses & Distribution Centers
While typically clumped together, warehouse and
through, both warehouse and distribution
distribution centers are quite different in terms
center buildings are designed with high ceiling
of use. Warehouses are used for storing products
clearances, sometimes reaching up to 60 feet
while distribution centers, in addition to storing
high, to facilitate specialized racking and material
products, also offer additional services, such as
handling equipment. Many buildings also have a
order-fulfilment, cross docking, and packaging.
section quartered off for office space.
Since online retail orders are usually shipped
Ideally, warehouses and distribution centers are
from a distribution center to their destination,
located near major transportation routes, such
distribution centers are considered the bridge
as railways and freeways. Although warehouses
between a supplier and customer. They don’t
within the “last mile” are becoming increasingly
store products for as long as warehouses do
popular due to the large demand in online retail,
and as a result, distribution centers have a
t he y are t y pically locat e d w he re land is cheap .
higher flow velocity. To better accommodate the
Most of t he t op w are house and d ist rib ut io n
higher velocity of order processing, warehouse
ce nt e rs in t he count ry are locat e d in t he
management, transportation and distribution
Mid w e st , spe cif ically in O klahom a, Ne b raska,
centers are more likely to be equipped with
Missouri, and I ow a.
sophisticated technology and state-of-the-art management systems.
In recent years, e-commerce has served as an explosive catalyst in the heightened demand for
When it comes to their physical build, both
warehouse and distribution centers across the
warehouses and distribution centers are uniquely
country. According to CoStar, current vacancy
designed to store and distribute items, and
rates across the country are at all-time lows,
share many similarities. Both warehouse and
demand is superseding supply, and rents have
distribution centers are generally single-storied
been on the climb. Many experts believe that the
buildings known to range anywhere from 5,000
rise in online purchases brought on by the growth
square feet to 500,000 square feet depending on
in e-commerce is the beginning of a trend that
their tenant and location. Along with large truck
the industry will see continue for years to come.
doors, numerous loading docks, and parking lots large enough for semi-trucks to maneuver
ASKING RENT PER SF
ABSORPTION & DELIVERIES IN MILLIONS
ABSORPTION, DELIVERIES, VACANCY
MATTHEWS™ | 123
Refrigeration & Cold Storage Buildings
Used as distribution centers for cold
Just as e-commerce has spurred
food products such as meat, produce,
a large demand in warehouses,
frozen meals, and dairy products,
it has also increased demand for
refrigeration and cold storage
refrigeration and cold storage
buildings are often classified under
facilities. According to a study by
the same umbrella as warehouses
Nielsen in 2015, 25 percent of online
and distribution centers in the
respondents said that they have
logistics industry. In commercial real
purchased groceries online, and 55
estate though, refrigeration and cold
percent said that they are willing
storage buildings are their own animal
to purchase groceries online in the
due to the unique requirements of
future. Another study done by Statista
found that in 2017, the online food and beverage segment had a year-on-
The specialized industrial buildings
year revenue growth of 18 percent.
offer large capacity cooler and freezer rooms. The large cooler rooms
To accommodate the growing impact
must stay regulated at 34 degrees
of e-commerce, more cold storage
Fahrenheit while freezers are expected
facilities are being built near ports,
to range from -10 to zero degrees
key border crossings, trade gate-
Fahrenheit. It is vital that refrigerators
ways and anywhere where people are
and building equipment operate
consolidated. In logistics, the longer
properly, or a facility may run the
a majority of product can be stored
risk of damaging goods. Because of
and transported together with like
this, it can cost double the amount to
products, the greater the cost benefit.
build a refrigeration and cold storage
This applies to both import and export
building than a regular warehouse or
distribution center. In the same way that e-commerce As for construction, refrigeration and
is expected to raise demand for
cold storage buildings can be found
warehouse and distribution space,
as large single story high ceiling
experts expect the demand for online
buildings or multi-level vertical
grocery shopping to rise as well.
buildings on small plots of land. Fully
Therefore, there will continue to be a
automated high-rise buildings are
strong rising demand for refrigerated
becoming more and more popular
and cold storage buildings, especially
in this sector due to land prices
in densely populated areas. As space
and space constraints. The vertically
is limited in densely populated areas,
designed buildings can not only operate
the vertically designed cold storage
in denser areas, but they are also more
facilities are expected to continue
energy efficient as heat infiltration is
growing in popularity as well.
greatest through the floor and roof.
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ABSORPTION & DELIVERIES IN MILLIONS
ABSORPTION, DELIVERIES, VACANCY
ASKING RENT PER SF SOURCE: COSTAR
$6.40 $6.20 $6.00 $5.80 $5.60 $5.40 $5.20 $5.00 $4.80
MATTHEWSâ&#x201E;¢ | 125
Telecom & Data Housing Centers
Telecom and data housing centers, also known
Tenants are always looking for a way to be
as switching centers, cyber centers, and
more efficient. Recently, several technological
web hosting facilities, are highly specialized
innovations have been introduced that may
industrial buildings used to centralize an
impact the way data centers are designed. One
organization’s IT operations and equipment,
type of technology gaining traction is called
which includes storing, managing and
all-flash, which is replacing rows and rows of
disseminating a company’s data. They are
spinning disks, creating a far more efficient
home to a network’s most critical information
solution to design challenges. By 2021, Gartner
and can be vital to the existence of companies.
predicts that 50 percent of data centers will use
Data must be made accessible to networks
this technology. The new technology also saves
24/7, so security and reliability are top
on power and cooling.
priorities for tenants. Buildings with new and efficient cooling and Data centers typically range in size from 50,000
power capabilities are in demand. It is estimated
to 180,000 square feet and must be equipped
that power costs for a telecom and data
and strategically designed to hold large
housing center are increasing by 10 percent a
computer servers, storage hardware, cables,
year, so the adoption of liquid based cooling is
racks, and security firewalls. This equipment
is extremely heavy, expensive and sensitive to temperature and humidity. Consequently, it is
Edge data centers have become increasingly
imperative that supporting infrastructure be up
more popular in the past year, which are
to par at all times. Floors must be reinforced to
described as microgrid data centers that literally
support the weight of the equipment, computer
extend the edge of the internet by building in
room air conditioners and HVAC systems and
tier-two markets. Data centers have traditionally
exhausts need to be maintained properly.
been built in core markets and hubs in places
These buildings consume enormous amounts of
such as New York, North Virginia, Dallas, or
energy and rely heavily on uninterruptable power
Silicon Valley. On the contrary, edge data center
sources to ensure that they never lose power.
companies are looking to build and occupy hubs in places that don’t have data centers but where
Security is also a key factor for telecom
the bandwidth is in demand. To demonstrate
and data centers, and biometrics and video
how fast the concept is expanding, a two-year-
surveillance systems must be installed.
old company, EdgeConneX, went from zero
Depending on the level of security needed
hubs to over two dozen and is continuing to
by different networks, more precautions may
be required. While the volume and velocity of data increases, Due to the massive amounts of power supply
and companies become more and more reliant
necessary to support telecom and data housing
on storing data, the demand for data centers
centers, they must be located close to major
is expected to grow. The types of data center
communications and power lines. Many data
in demand will begin to change though as
centers are located in California, Texas, Florida,
microgrids gain traction and tenants look to
Virginia, and Georgia. Massive new facilities
inhabit more efficiently designed buildings to
are being built in New Mexico, Nevada, Iowa,
maximize space and save on high energy bills.
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ABSORPTION & DELIVERIES IN MILLIONS
ABSORPTION, DELIVERIES, VACANCY
ASKING RENT PER SF SOURCE: COSTAR
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Flex & Heavy Equipment Rental Buildings
Flex buildings, short for “flexible” buildings cover an array of property types. The term is often used to describe an industrial building that combines one or more uses in a single facility. Flex buildings have a smaller amount of square footage, but have a high amount of office space to accommodate small businesses. These buildings generally accommodate small businesses that rely heavily on online sales or do not need as much exposure to heavy retail street traffic. Types of flex buildings include: •
Research & Development
Showroom Retail Sales
Warehouse & Distribution Use
Heavy Equipment Rental locations and demand have been increasing across the country. The growth has mainly been driven by companies’ desires to increase their bottom line. In many instances, it makes sense financially for companies to rent out equipment need for a job, rather than owning and storing their own machinery. Equipment Rental companies therefore need to be located in all major markets to provide convenient service to their customers. They require sites with: Grade-level doors Retail frontage Warehouse storage space Large acreage to display their equipment Due to these unique needs, they typically pay higher rents than similar size warehouse buildings.
128 | FALL/WINTER 2018
ABSORPTION & DELIVERIES IN MILLIONS
ABSORPTION, DELIVERIES, VACANCY
ASKING RENT PER SF SOURCE: COSTAR
$15 $14 $13 $12 $11 $10 $9
MATTHEWSâ&#x201E;¢ | 129
Manufacturing facilities are designed to house specialized equipment used addition to providing three-phase high capacity, electric power, these industrial properties may include heavy ductwork, pressurized air or water lines, buss exhaust systems, floor drains, storage tanks and cranes. According to the Institute for Supply Management, the overall manufacturing sector has grown for 22 months, registering one of the longest sustained growth periods for
ABSORPTION, DELIVERIES, VACANCY SOURCE: COSTAR
some time in the U.S. Growth in this
area benefits light manufacturing, assembly and even large-scale factories, and it also supports other components of the manufacturing supply chain such as warehousing and transportation.
ASKING RENT PER SF
Freight sites are used to distribute products for retailers and major companies. These site are located in Industrial corridors or near major highways and interstates for a same day delivery. Freight sites are industrial warehouses ranging anywhere from a few 1,000 SF all the way up to larger facilities in the 100,000 SF plus range. Freight sites are comprised of large truck courts with dock high doors to give 18 wheeler trucks the ability to pick up products and deliver. Major Freight Tenants include FedEx Freight, DHL, and Amazon. These buildings play an important role for retailers and businesses as the need for same day delivery has increased with the presence of online shopping.
130 | FALL/WINTER 2018
$8.00 $7.50 $7.00 $6.50 $6.00 $5.50
ducts, high capacity ventilation and
ABSORPTION & DELIVERIES IN MILLIONS
to produce goods or materials. In
What to Expect
As we see the demand for industrial space continue to increase from both investors and companies, there is a strong forecast of rent growth and increased asset value. Industrial properties are one that are not only the desired e-commerce proof investment, but actually grow as e-commerce expands. The need for more industrial facilities by companies who focus on online sales has driven this sector to be one of the fastest growing for real estate investors, all while providing a higher average yield than retail real estate offerings.
For more information on the industrial market, contact a Matthewsâ&#x201E;˘ specialist.
JOHNNY DUNN email@example.com (214) 692-2114
K Y L ER BEA N firstname.lastname@example.org (214) 692-2192
MATTHEWSâ&#x201E;˘ | 131
â&#x20AC;&#x153;It was a great pleasure to have worked with Matthews Multifamily agents. They presented a well thought out marketing strategy and an excellent financial analysis, all of which, contributed to ultimately earning our business over numerous other firms we interviewed. Their deep-rooted knowledge of the market, professionalism, and assertiveness achieved a sales price we thought was improbable. We cannot begin to express our gratitude for their diligence, hard work, and patience in getting us a great deal and putting us in an ideal 1031 exchange property.â&#x20AC;? - M A T T H E W Sâ&#x201E;˘ P R I V A T E C L I E N T
Choosing a Specialized Agent Makes the Difference When it Comes to Your Investments M A KE T H E R I G H T C H O I C E TO DAY C H O O S E M A T T H E W S™ ™
CALIFORNIA MULTIFAMILY DEBT MARKET: Financing options for the current climate By: Hugh Seifert & Brian Krebs Barrington Capital Corporation
As we approach the fourth quarter of 2018, the recent interest rate hikes are beginning to impact the landscape of commercial real estate finance. Rather than waiting for the next cycle of buying opportunity, many investors in the California market still seek to acquire multifamily properties under current market conditions, particularly when there is an opportunity for value to be added. The question for these investors is: What financing options are available to make their money work in the best way possible? Th is ar t icle exp lo res the benefits and con st rain t s o f three p rima ry fina nc i ng o pt i o ns an in ve st or ca n co nsider when util i zi ng d e bt f or an ac quisitio n.
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MATTHEWSâ&#x201E;¢ | 135
1. PERMANENT DEBT Over the course of the current cycle, permanent debt has made up a clear majority of multifamily financing across all markets. Specifically in Southern California, household name banks have become the most popular and sought-after apartment lenders. By offering aggressive rates and minimal cost, these banks have gained a loyal client base over the years. However, we are beginning to see a change. Although many of the larger banks are still extremely active, they are facing increased competition. As Treasury rates have started to move, regional and community banks are getting more creative by cutting spreads, limiting prepayment penalties, and minimizing bank fees. Yet even with these more creative approaches, based on the battle between rising interest rates and historically low cap rates, permanent debt is not as appealing, nor as workable, as it historically has been based.
136 | FALL/WINTER 2018
The fact is that with rising interest rates, many buyers are finding that it is nearly impossible to secure significant leverage on any acquisition utilizing permanent debt. Because most of the deals that are worth buying today are properties that have significant upside, this translates to rents that are clearly under market or investments that are mismanaged in some form. As cap rates continue to trend between the mid three and four percent range, permanent debt leverage becomes virtually unattainable from lenders with interest rates in the mid four percent that require a minimum 1.15x debt service coverage ratio measured on the current and historical income of the property. The result that we are seeing is loan-to-value ratios restricted to 40 to 50 percent of the purchase price â&#x20AC;&#x201C; which, in turn, is causing buyers to seek alternate lending sources that will make the acquisition financially palatable.
2. BRIDGE DEBT Bridge lenders offer an attractive option when compared to conventional financing sources. Bridge debt allows a borrower to attain significant leverage, and while interest rates may be higher, it is common with bridge loans that the term will consist of interest only payments. A typical bridge product for California multifamily will have a loan term of 6 to 36 months with a floating interest rate ranging between 5.5 to 6.5 percent. To qualify, lenders will want to see that both the buyer and contractor on the deal have significant experience in this type of project. On the plus side, in addition to payments calculated on an interest-only basis, the debt-service coverage ratios are typically less than 1.0x based on the current property income. Rather than look to current financials, lenders consider the proforma net operating income while sizing to a 1.20x to 1.30x debt service coverage ratio. The origination fee for this type of financing range anywhere from 1.5 to 3.0 points to the lender.
Bridge loans are typically scheduled on a loan-to-cost basis at a maximum of 80 percent loan-to-cost or 75 percent loan-tovalue â&#x20AC;&#x201C; based upon stabilized income. The benefit of being able to use the loan-tocost method is that investors can potentially achieve loan proceeds greater than the acquisition price of the property. While that sounds hard to believe, the catch is that the borrower will not get it all at once. Instead, the lender will release funds for the acquisition and then hold back funds to allow a buyer to make improvements over a defined period. This type of financing is ideal for a property that has light to medium rehab needs where the borrower can renovate the units in phases while increasing rents and maintaining a habitable and operational environment for the tenants. Alternately, if the property is in need of major rehab or is completely vacant, buyers will need to turn to alternative sources.
MATTHEWSâ&#x201E;˘ | 137
3. PRIVATE MONEY Enter private money â&#x20AC;&#x201C; an entirely different animal that is often a complete unknown to most conventional multifamily investors. Terms for a private money loan are typically 12 to 36 months, floating interest rates ranging from 8.5 to 11.5 percent, with loanto-cost up to 85 percent and two to four percent origination fees, depending on the borrowerâ&#x20AC;&#x2122;s level of experience and financial wherewithal. In addition to the high loan-to-cost ratio, another benefit of private money is that there is typically no debt-service requirement. This allows a buyer to clear all tenants out of a building without having to worry about a requirement for maintaining steady income they would incur with many bridge lenders. There are many debt funds and family offices that offer private money, and terms
138 | FALL/WINTER 2018
are typically determined by the borrowerâ&#x20AC;&#x2122;s experience, financial strength, and credit. Although it may sound like private money would be the last option when considering how to finance an acquisition, the benefits of private money can outweigh the higher rates. For example, closing timelines can be as short as ten days, and borrowers can achieve a high-leverage loan, even with a poor credit history. Private money loans are typically used strategically by borrowers wishing to maximize leverage, completely renovate a building, and replace the debt with permanent financing or sell the building as soon as the project is complete.
The debt financing landscape for the commercial real estate market has evolved. Although banks are somewhat more cautious in the lending process, they are still actively originating loans. Hereâ&#x20AC;&#x2122;s a quick breakdown of the terms associated with the three financing options discussed. Permanent Debt
30 years/Interest Only
75% LTV or 80% LTC
1.0x (interest reserve required if below 1.0x)
Rate Min DSCR
In summary, as the market continues the move and buyers seek alternative ways to finance their multifamily assets, mortgage brokers will play an integral role by effectively adding value to the process. Having experience with alternative types of financing is crucial to success, and investors will find it to their benefit, more now than ever, to reach out to professionals that understand the lending industry and can guide their clients to successful solutions. HUGH SEIFERT
Associate email@example.com 949.873.0271
Managing Director firstname.lastname@example.org 949.777.5988
MATTHEWSâ&#x201E;˘ | 139
Certainty of Execution
When an opportunity arises, you need the right partnership to experience real results. Customized capital placement solutions. Rooted capital sources. Secure financing. Our trusted advisors provide innovative financial plans with the most aggressive terms across all asset classes. Maintain control over your ventures and experience Barrington Capitalâ&#x20AC;&#x2122;s power of certainty.
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Recently Funded DOLLAR STORE PORTFOLIO
YORBA LINDA, CA
Loan Amount: $3,770,000 LTV: 60% Amortization: 25 Years Term: 10 Years Interest Rate: 5.25%
Loan Amount: $24,750,000 LTV: 75% Amortization: 30 Years Term: 10 Years Interest Rate: 5.01%
EAST SIDE APARTMENTS
MUNGER AVENUE APARTMENTS
Loan Amount: $1,260,000 LTV: 70% Amortization: 30 Years Term: 7 Years Interest Rate: 4.50%
Loan Amount: $1,350,000 LTV: 75% Amortization: 30 Years Term: 7 Years Interest Rate: 4.38%
BUFFALO WILD WINGS
Loan Amount: $1,935,000 LTV: 65% Amortization: Interest Only Term: 1 Year Interest Rate: 8.75%
Loan Amount: $1,890,000 LTV: 70% Amortization: 25 Years Term: 10 Years Interest Rate: 5.25%
SAN BENITO APARTMENTS
POST OAK HEAVEN APARTMENTS
Loan Amount: $1,015,000 LTV: 55% Amortization: 30 Years Term: 20 Years Interest Rate: 4.00%
Loan Amount: $1,550,000 LTV: 55% Amortization: 30 Years Term: 7 Years Interest Rate: 4.67%
SAVI RANCH CENTER
SHOPPES AT GLOUCESTER
Loan Amount: $2,180,000 LTV: 65% Amortization: 25 Years Term: 10 Years Interest Rate: 5.01%
Loan Amount: $3,745,000 LTV: 72% Amortization: Interest Only Term: 1 Year Interest Rate: 8.95%
Ref inancing | Acquisition Financing | Equity Placement W W W . B A R R I N G T O N C A P C O R P. C O M MATTHEWSâ&#x201E;¢ | 141