Ground up development; apartment or senior living complex

13 Replies

Hello world of BP. As you guessed from the title, I'm looking for insight on how to dig into a potential ground up development opportunity I was presented with yesterday.

A little background on me: been investing for 5ish years, focused on small multi-family and some mixed use. Have successfully bought, rehabbed and sold several properties after 2-3 year holds and continue to hold a few properties that I want to keep long term. I have experience with decent sized rehabs on mixed use buildings, and put together a financing packages that included grants from the state and city where we did the work.

My question now is, how do I begin to dive into a much larger deal? I recently moved markets (and my home) and in that process came across a potential deal where the current land owner would give the land for development for equity in the deal. It's a little over 10 acres and is zoned for high density res (18 units/acre), and is 2 miles from a very well known university in NC. Being new to the area, and not fully understanding their processes for development, where would you suggest I get started? Who should I be speaking to, and how would you go about underwriting a project like this? I found an financial modeling tool on A.CRE that seems very robust, but there is a lot of data required that I don't have and honestly wouldn't know the best person to get it from.

Any input would be greatly appreciated as I hopefully take my next step into the CRE/Development playground!

Thanks - Jay

@Jay Mitiguy  Here are some of the first steps to take in the feasibility process. 

Do a back of the napkin FinanciaI analysts to determine if the numbers will work. You need to gather some income and expense assumptions, development cost estimates and terminal value. If this checks out proceed to next steps below.

Check with the city or county to determine what is required for all approvals including site plan and building permits, proffers, water/sewer tap fees, bonding requirements, inspections and CO process and time frame for all approvals.

You also need to check with the utility companies and get an idea of availability and cost estimates from them for water, sewer, power, gas, cable, installation and connection requirements, tap fees, hookup charges, transformer location and relocation, power line and power pole relocation issues.

Check to see if you have to install any manholes, fire hydrants, curb, gutter, sidewalks, street signs, street lighting any specific street design or access requirements,.

Check DOT requirements for access, stop lights and permits, traffic studies

DWQ requirements for permits, permit fees, time frames

This is a broad overview of the process and your civil engineer can handle all of this but it's good for you to know exactly what's required.

Hi Jay.  

You would need to get an Agreement in place with the landowner & then have monies for the soft costs of legal, architecture, engineering.  Then have enough monies through multiple options to have at least 20% of the total construction to be able to get a 70%-80% LTC.

The 20%+ could come from TIF, C-PACE, equity partners, bridge, mezz, pre-construction sales with deposits if you are going to sell the units, your own monies or any combination.  You might need a development partner with experience developing a project this size to get your construction loan.

My company does commercial construction financing starting at $10MM so let me know if you have any more questions.

Good Luck!

Justin J. Morrow

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As Greg Dickerson said, the first step is to do the back of the napkin analysis. The very next step is to get the property under contract. There is always a "dance" that goes on between how much time you spend running numbers on a property you'd like to but don't control vs spending time to control a property you don't know is feasible.

Aside from inputting data into a pro forma it is imperative for you to understand the development process itself which is accomplished by creating a critical path that shows the sequential order of the tasks that need to be executed along with their timing and the 3rd party players, functions and costs associated with doing those tasks.

The combined information you get from the pro forma and the critical path are foundational in forming the agreement that secures the property which will be articulated in a purchase and sale agreement or in your case a JV.

Once you feel comfortable with the deal at the project level, you need to structure the deal you are making with the landowner/JV partner and use the numbers and the time you have defined to shape your partnership agreement. Issues such as due diligence functions, Land value and what it "buys" the JV partner in terms of ownership % and control, does land value cover all the equity needed to do the project, breaking due diligence into milestones, risk mitigation and so on.

Feel free to contact me if you'd like to dig into this some more. 

@Greg Dickerson Thank you for the feedback. Based on some very rough calculations, this is what I'm coming up with:

10.21 acres @ 18 units per acre for intermediate density zoning = 183 max total units

@ $1,100/mo in avg rents (this is fairly conservative and could be closer to $1,200) x 183 units = $2.4m annual GR

Using expense ratio of 35% leaves $1.56m for NOI

Cap rates in the area are hovering in the 5-6 range depending on product class and neighborhood, so let's use 6%, leaving us with a stabilized value of $26m.

Not knowing the cost of construction in this particular market, I'm estimating a per sqft cost of $130 x average unit size of 1,000 sqft x 183 units = $23,790,000

Land is listed for sale at $995,000 but owner is willing to trade in kind for equity in the deal which eliminates capital requirements for land acquisition.

In my extremely inexperienced opinion, this deal seems too skinny to consider, but am I overlooking anything obvious? It goes without saying I understand the economics are very market specific, but can you point out any flaws in my logic? Would it make more sense to scale the project back and try to keep hard costs to a fixed number and work it from that angle? When you build your models, are your per sqft costs inclusive of all infrastructure and pre-building expenses?

@Justin Morrow I appreciate the input as well. I have some capital to deploy in the range of a couple hundred thousand bucks that I was willing to put in the deal to cover soft costs and any remainder would be applied to the equity piece. I appreciate the additional financing options, as I was unfamiliar with C-Pace. I'll do some homework on that and see if it's worth looking into down the road.

@Barry Ruby I wholeheartedly agree about the "dance" you speak of, but I suppose that's part of what I like about CRE. The game of real estate is fascinating and limitless which allows anyone with a good work ethic to thrive, which I really enjoy. You hit the nail on the head with some thoughts I had rattling around in my noggin, in regards to the path of progress for the project. Never having done anything to this scale, I'm a little unsure with what steps need to happen and when. I've started a word doc outlining my thought process and will be working on organizing those thoughts more methodically over the next couple of days. Regardless of the outcome of this specific deal, it seems like a good exercise as it will likely be needed in the future for any development project.

All that being said, if this deal comes together, then creating an investor pool is my next big hurdle. Is it safe to assume I'd have to create a syndicate in order to go about that? Can you syndicate development deals, or are they solely reserved for existing assets that need repositioning?

Thank you all again for the input!

Jay, doing a ground up development requires a great deal of additional functions and skills sets than those involved with vetting and acquiring an existing property. One major example of this is the amount of time required to build a project versus acquiring and even rehabbing it. Ground up development of a MF Rental Project typically occurs in the form of a "3 Act Play" which unfolds as Pre-Construction, Construction and Lease Up which hopefully results in positive long term operations.

Act 1 needs to be expressed in terms of functions, time, players and capital. The snap shot below shows functions, time and players.

This snap shot shows the capital needed to perform the functions with the players noted above.

As to your question about syndication, yes development deals can be and often are syndicated. However, in order for the deal to "come together" in addition to having control of the property and having a complete package that shows cost, income and performance on a project and stakeholder level, you will most certainly need to demonstrate capacity to execute the deal. This normally requires being able to show experience with the kind of deal you are syndicating in the form of a successful track record. This last piece presents "chicken and egg" situation...how do you get the track record if you need to show you've done this in the past?

The answer is to find a developer to partner with. Your way into this deal is to get the property under contract and find a developer that will take you under his/her wing that will allow you to stay in the deal for a negotiated piece in exchange for bringing the land AND performing a set of ongoing functions that become part of your job description as your role in the development process. You compensation for this kind of arrangement should include compensation (for brining the land and your work effort) AND just as importantly, the boost you will acquire to your learning curve.

That said, I took the liberty of using the factors you shared with Greg Dickerson and found that, as you correctly suspected the deal doesn't work based on them. This doesn't mean that the deal ultimately won't work. A few factors about the deal for you to know and consider are:

  1. 1.  The project will cost ~$32M and at a 75% LTC require $8M in Equity
  2. 2. A JV with the Landowner will do you a little good as land contribution with a $1M value still leaves $3M to be covered. Introducing the Landowner may work for part of the Equity, but also may prove to be more trouble than its worth by adding a layer of ownership with the landowner that may prove problematic for the $3M investors.
  3. 3.  Using your cost, income and expense factors produces the performance noted below on a Project Level. The only ways to make the project work is to reduce first cost and Op EX and or increase income.
  4. The best way to solve the balance of cost and income is to start by doing an income driven pro forma. It is easier and more logical to determine what is felt to be the rent rates than try to drill down into Cost which includes Hard Cost, On Site, Off Site and Soft Costs at this early stage of the deal.
  5. 4. By refining rent rates you can determine Income can be capitalized, which as you have done in your example. Once you have capitalized value you can run a residual analysis by deducting everything (including a development profit from the capitalized value. This exercise will tell you how much you have to spend on the above referenced costs. 
  6. 5. The best chance for this deal to work will be to raise rents as justified to a level you feel comfortable with and then play around with reducing the $130 psf hard cost you cited to see if these factors align to make a feasible project.

I have recently created a ground up development pro forma that can easily run this analysis and forms the source of the snap shots above. Let me know if you'd like to do a screen share session to play with the numbers to see if the deal can get to a place that shows acceptable returns using adjusted variables.

Best Wishes

Barry

@Barry Ruby Wow I'm going to have to read that a few times to get the whole jist of what you posted but outstanding post not only for Jay but others who want to learn or are considering a deal like this. Thanks for the time and effort it took to put this together for someone else who is trying to educate themselves in development syndication. 

It looks like you have done a wonderful job with your excel tool but I'm sure that came from many years of experience. 

@Jay Mitiguy Good luck with this regardless if you take it on or walk away and move to another deal. Sounds like you are well on your way to taking the next step. 

Thanks James, your post is appreciated. 

The Excel tool is a product of that has evolved over a period of time starting in 1980 when I built a high rise mixed use project adjacent to downtown Seattle. At that time, I knew nothing at that time about programming spreadsheets but knew there had to be a better way to grind through numbers than with a leal pad, pen and a hand held HP calculator. 

I realized how crazy it was to have to redo my pro forma every time something changed or if I had a "what if" question that needed to be pursued. Having a robust pro forma that can be used for a range of deal types is invaluable. It allows for the establishment of a base pro forma that can be "tweaked" with one or a group of variables that report the positive or negative impact a given input has on the deal performance. If done right, it also follows the development process itself and makes it very easy to replace estimates with hard data and input more accurate estimates as the project matures.

Please let me know if I ever help you in these regards.

Best,

Barry 

Originally posted by @Jay Mitiguy :
Hello world of BP. As you guessed from the title, I'm looking for insight on how to dig into a potential ground up development opportunity I was presented with yesterday.

A little background on me: been investing for 5ish years, focused on small multi-family and some mixed use. Have successfully bought, rehabbed and sold several properties after 2-3 year holds and continue to hold a few properties that I want to keep long term. I have experience with decent sized rehabs on mixed use buildings, and put together a financing packages that included grants from the state and city where we did the work.

My question now is, how do I begin to dive into a much larger deal? I recently moved markets (and my home) and in that process came across a potential deal where the current land owner would give the land for development for equity in the deal. It's a little over 10 acres and is zoned for high density res (18 units/acre), and is 2 miles from a very well known university in NC. Being new to the area, and not fully understanding their processes for development, where would you suggest I get started? Who should I be speaking to, and how would you go about underwriting a project like this? I found an financial modeling tool on A.CRE that seems very robust, but there is a lot of data required that I don't have and honestly wouldn't know the best person to get it from.

Any input would be greatly appreciated as I hopefully take my next step into the CRE/Development playground!

Thanks - Jay

I would get an agreement from landowner. Go speak to city, check Zoning and entitlement. See if any issue with school capicity, traffic's, the have a civil engineer do a site plan. 

Then from see who are your comps and create a unit plan and sq footage. Call a local apartment builder ask o am trying to build a class b complex or whatever I have a total of 180k rentable sq ft what should I use as cost number. Then have a 5k sq ft clubhouse. Then need to add third party fees and building per not fee. Stick a 15 percent rainy day line item.

then from try to find an apartment developer and JV with them.

Didn't read all of it.

A few things.

Labor,land,legal,material costs are all up. You are stating market cap rate is 5 to 6. That might be TODAY but the project of that size you are talking many years likely 3 to 4 for building it and stabilization.

The rents of 1,100 you are mentioning that might be for regular tenant apartments. Senior housing tends to command much higher rents per door than that and higher end finishes. The land might cost a lot more per acre to get vertical ready than anticipated. Construction loans might increase for next rounds of funding. Development tends to have the most risk so has to have lots of room for profit over stabilized properties churning out cash flow, existing buildings half occupied, or mainly vacant buildings that are still use able.

The big developers usually have the experience to tell you what you do not know and also can get things built cheaper with scale,more efficiently, and stabilized faster than a smaller developer can on larger projects.   

@Barry Ruby WOW! What a great post! I really appreciate all the information and I will definitely log your wisdom in my files. It's apparent you've spent many years not just developing real estate, but doing so successfully! I'd be glad to do a screenshare or something in the near future. I'm always up for learning new stuff!

@James Dickens Thanks for the vote of confidence.

@Roni Elias Thank you for the insights Roni. Any piece of new information is greatly appreciated! I wouldn't have considered school capacity as an issue for on-going development, but it makes sense when I think about it.

@Joel Owens Great input! All of those are important considerations for sure. My biggest concern is the potential for another recession before getting it stabilized which would crush a project like this. Until then, I only see cap rates compressing in this particular market, so future values could likely be based on a 3-4 cap, at least until the bubble bursts again.

@Guifre Mora Just shot you a PM

@Jay Mitiguy I understand you feel this is a great opportunity, but the mistakes you will make will be very costly and you are likely better to start on a smaller project and work your way up. This way you can find the contractors, architect, engineers, etc that you trust and do well. We are involved in building a 16-unit senior memory care facility in Minneapolis area and the costs are quite high before you ever get to the contractor bidding phase.

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To get a construction loan in the environment we are going into I think you will need a very strong sponsor and a strong track record. If you started tommorow I would budget 1.5 years to 2 years till finished.