Targeted Occupancy for Multi-Family Syndication

[Mark S.]

What is a “good” target for occupancy on a mid-size (50-100 unit) apartment building? I’m invested in a couple of syndication deals where the occupancy had been around 80% as they work through turning the assets around and working through “bad tenants.” How long should this generally take on buildings of this size?

[Brian Burke]

This is a tough question to answer, @Mark S.  “Good” occupancy could generally be considered to be 95% to 97%.  Anything higher means rents are too low. But is that occupancy achievable?  Maybe, maybe not.

First, the subject properties are around 80% now. Why?  If it’s a bad operator or the property has physical deficiencies that’s one thing. But if it’s a bad market that’s a whole other thing. You can fix properties, you can’t fix markets. 

Second, each market, each submarket, and each property class within a sub market has an average occupancy rate. So a “good” occupancy rate is one that keeps up with the average, or perhaps exceeds it slightly. 

For example, if the average occupancy of 1970s built properties in the sub market is 90%, you shouldn’t expect your 1970s built property to sustain 95% unless rents are below market—no matter how good of an operator the syndicator claims to be. But 90% to 91% would be “good”.

So the trick here is to check the market data and expect performance in line with that data. Personally I like to underwrite our offerings below the market occupancy—this allows for some downside protection.  Let’s face it, conditions are unlikely to get better than where we are today and underwriting needs to acknowledge that and build in adverse cycles.  So if the average is 95% I’d underwrite to 93%-94% (physical...economic is another story entirely).

As to your second question—resident profile changes are a painful process. Whatever the occupancy is today you should plan for it to go lower in the first year if there are undesirable residents that you need to cycle out. I tend to joke that it’s difficult to underestimate your first year’s performance. 

A turnaround should take 2-3 years to complete, with the first year being the toughest.  You should see gains in occupancy and income in the second year. Year 3 should be close to full stabilization.  If the projected year 1 income is much higher than the trailing 3 month’s annualized performance it’s probably overestimated.