Multiple lots development in San Jose: anticipated 30% return in 1.5 years. Your gut feeling?

Land & New Construction
11yFollow

Multiple lots development in San Jose: anticipated 30% return in 1.5 years. Your gut feeling?

Nhi Nguyen
Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes

Greetings everyone.

As some of you know, I'm building a new house in San Jose, documented here: http://www.biggerpockets.com/forums/522/topics/154... , which scheduled to be finished in a couple of months.  So I'm itching to look for a similar project.

I'm really passionate about spec homes and major addition projects in better neighborhoods in the Bay Area ($300+/sqft).  That's why on my hunt for projects to line up after I finish the current, my cousin (broker) introduced me to the following.  

I've been reading on this sub-forum that some of you been suggesting to keep the return at least 20% to make sure it's worth the time & effort.  Please give inputs/advice on this deal.

+ High overview numbers:

- Land acquisition: ~$2M

- Soft cost: $600k

- Construction cost: $2M-$2.25M

- Sale price: $7.2M

- Closing costs: $850K

- Net return: $6.35M - ($4.6M-$4.85M) = $1.75M-$1.5M

==> %of return: ~30-35%

His office wants to structure as follow, roughly:

+ Partnership structure:

- Broker firm (owner of project): up to 50%

- Max 6 partners, preferably less

- Min to enter: $500K

- Min for project to start: $1.5M from partners other than the broker firm.

I would be both investing and building the project to have my skin in the game.  It's a 6 units subdivision that has all plans approved waiting for permits to be pulled (I'll verify with the building department this week).

So, those who have a better sense of market condition in the next year or so for Bay Area - Silicon Valley: what's your gut feeling about this project?

Anything I should check/know in term of paperwork, legal documents, structure of the partnership, etc...  ?  

I'm talking to some of my clients to see if they're interested in joining.  So I'd like to arm myself with as much knowledge as possible before asking.

Thank you.

2Reply
51 views

Most Popular Reply

Account Closed
Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
11y

Nhi,

Sounds like a good and fun project.  You shouldn't have any issues selling new construction at $500/sq.ft. in Evergreen or some other decent parts of San Jose.  

@J. Martin mentioned above, I'm a vivid student of economic and history.  What's the point of building a real estate empire only to lose it all?  Knowing when to hold and when to fold will help you win half of the battle.  

As I posted on here before, at the top of the market in 1989, the housing affordability index (HAI) hit 13% for our Santa Clara County.

At the bottom in 1994, the HAI reached 45%.

At the top in 2007, the HAI hit 11%. (Note:  Loose lending drove it this high)

At the bottom in 2011, the HAI reached 56%.

We are currently at 19% HAI.  We are definitely closer to the top than the bottom.  The good thing is that the housing inventory is only about 1.5 months, and we have some good wage inflation in the Tech Industry.  I have to agree with @Johnson H. that there's a high probability that the market will stay relatively flat to single digit movement in the near future.  

Looks like things are still humming in the SFBA so the market should stay healthy in the next few years.  However, it's much more fun to sell in 2005 then 2007.  When the market tanks, be sure you have staying power if you don't get out in time.

Here is a summary of Bruce Norris' 3rd quarter newsletter.  Many CA investors consider Bruce is the Oracle of Real Estate.  Here is the recap of what Bruce learned in 2014.

1. 2014 was unlike any year California has ever had.

2. We can have declining sales in the same year that we have affordability over 30%, declining interest rates, improving employment, a decline in foreclosures, a decline in short sales, a decline in delinquencies, and a decline in negative equity.

3. He has to re-examine his future expectations about what's about to happen in 2015 and get to the bottom of what happened in 2014.

We can't ignore what happened in 2014. It happened despite some very positive forces and defied history! IT'S A BIG DEAL. His question is if we can have a lousy 2014 after a great 2013, what guarantee do we have that 2015 will be any different?

There are a few very bright people who expect 2015 to range from bad to awful. Bruce is going to take a serious look at all of this in the next 90 days and report his finding in the January 2015 newsletter. The title will be: 2015 Proceed With Caution! We may well be in uncharted territory so be careful!

5Reply
See this reply in the discussion

50 Replies

Jump to latestLatest
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    11y

    @Jay Hinrichs  @John Blackman 

    1Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    Thanks @Jon Klaus but your mentions don't work yet.  :) 

    0Reply
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    11y
    Originally posted by @Nhi Nguyen:

    Thanks @Jon Klaus but your mentions don't work yet.  :) 

    No, I'm on IOS, where they don't work, but presumably Hinrichs and Blackman have key word alerts set up for their last names, something everyone should do (unless you have a very common name, if so use first and last).  

    2Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    oh okay.  Thanks @Jon Klaus .  I have to toy more with the keyword alerts.  I only used one or two of them I think.  :)

    About the @: I used it on my iPhone too and it worked. 

    0Reply
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    11y
    Originally posted by @Nhi Nguyen:

    oh okay.  Thanks @Jon Klaus .  I have to toy more with the keyword alerts.  I only used one or two of them I think.  :)

    About the @: I used it on my iPhone too and it worked. 

     What version IOS?

    0Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    I have 8.1 on 6+ & iPad.

    0Reply
  • J. MartinPro Member
    Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
    11y

    @Nhi Nguyen ,

    "So, those who have a better sense of market condition in the next year or so for Bay Area - Silicon Valley: what's your gut feeling about this project?"

    I won't pretend to have a crystal ball, but since you're asking for gut...

    I think the market is turning from fiery to just hot, but directionally cooling, and (un)affordability on the Peninsula is creeping into 2004-2006 levels, so I don't predict a long, hot run ahead of us for the next 9-18 months. Having said that, if your numbers are correct, it looks like there's some good margin in there to absorb the downside if you and your partners have the capital and reserves to manage risk, and aren't betting the bank on it..

    2 things: Recent Trends and Where we are in the Price Cycle

    There is softening nationwide that's happening in the North Bay, and days on market are increasing and fewer offers on multiple offers than there used to be, even on the peninsula, from what I hear. Still hot, but decreasingly so.... Some flippers and construction guys I know are shortening their time frames, or using other things like prefab to shorten the time from start to finish. Because they don't want to be as exposed to a change in prices, or a slowdown in purchases that increases holding costs.. But others are still doing spec from the ground up. Maybe @Peter K. can chime in on what he's seeing..

    For the cycle, the housing affordability index on the Peninsula is starting to approach its record lows (unaffordable) as during the peak of the last cycle. The majority of the people on the peninsula can't buy a home, but this is countered by the top 20ish% of income earners who buy their own, then a couple for their family and/or investment portfolio for long term investments, even if they don't cash flow with leverage.. Maybe @Account Closed can talk about his perspective on the cycle, as a student/professor of financial history..

    All in all, I think there is more upside, and more risk today, than there was a year or two ago in ground-up construction projects. Always good to have a Plan B. Could it be rented OK to get by? Do you/investors (or partnership) have plenty of liquidity and/or reserves for contingencies? What % of our personal cash or net worth would be tied up in the project? Will you be OK IF the market does slow down or turn? The margins look pretty decent if those are all the real costs, so hopefully somewhat mitigated, but hard to say..

    2Reply
  • Jay HinrichsBusiness Member
    Real Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
    11y

    @Jon Klaus 

      Jon Unfortunatly non of my alerts work.. I can't monitor a topic.. I don't get any key word alerts the only way I can use BP is to scroll through and open up threads.

    I do get alerts if someone votes for me or is trying to send me a PM

    I have asked the mother ship for help but still in limbo here.

    As for this deal.. how it was described is a little confusing so I could not comment on it.

    There are better guys in the bay area for forecasting the market.. Big dollars playing in the SF bay area building game that's for sure...

    Podcast Guest on Show #222
    JLH Capital Partners51 Review
    WebsiteView Page
    1Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    Thanks @J. Martin : thanks for bringing it up. Basically it's a $5M total cost projection, to develop a 6 SFHs, expected to make a 30-35% net profit (about $1.5-$1.75M). The owner of the project (broker) is looking for max 5 other investors, with minimum $500k/ea to join. He can handle from $500k to 50% of total cost on his share. I want to invest as one partner, and would be the builder as well. I just wanna bring it up to see what everyone's thoughts are. That's all. 

    1Reply
  • Jay HinrichsBusiness Member
    Real Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
    11y

    from your perspective getting the build job and equity as an investor seems pretty good to me.. I assume your allowed to make normal builder profits or are you expected to build at cost.. if the later then I would not put the 500k in and just take equity.

    Podcast Guest on Show #222
    JLH Capital Partners51 Review
    WebsiteView Page
    2Reply
  • J. MartinPro Member
    Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
    11y
    Originally posted by @Nhi Nguyen:

    Thanks @J. Martin for the 2 solid points.  I wish I know where the market is in its cycle :). But I definitely agree with you that pricing around our area has gone up quick and is at an amazing high level right now. That for sure is one of the key measures we're taking heavy consideration on. 

    As for plan B, I guess they're still counting/betting on the market condition heading up for at least 2 years, plus the high return (given those are executable numbers, just like you said) as a safety net. Unless market crashes 50% or more. :). 

    On my part, I'd be the builder with some profit doing it. So that would be my second level of buffer cushion. 

    @Jay Hinrichs : thanks for bringing it up. Basically it's a $5M total cost projection, to develop a 6 SFHs, expected to make a 30-35% net profit (about $1.5-$1.75M). The owner of the project (broker) is looking for max 5 other investors, with minimum $500k/ea to join. He can handle from $500k to 50% of total cost on his share. I want to invest as one partner, and would be the builder as well. I just wanna bring it up to see what everyone's thoughts are. That's all. 

     Nhi,

    No one really knows the top, but it's more about what it is relative to. The fact that the market has gone up quickly and is at a high level was also true 1-2 years ago, but there was still more room to move in measures such as the Housing Affordability Index, which is one measure that's popular.. Less so now.

    Regarding Plan B, it doesn't really sound like a Plan B. Plan B is not as much about assessing the risk of Plan A failing. It's more about saying IF Plan A failed, what is the plan..?

    In this case, since it sounds like you're not using financing (shocking!), and you're paying cash, it would just be to absorb it..

    I think you could very well make great money on it. But some considerations about both the trend and the cycle..

    2Reply
  • Account Closed
    Investor · San Francisco, CA · Member since 2014 · 577 posts · 203 votes
    11y

    @Nhi Nguyen 

    My educated guess based on market cycle analysis... San Jose is at a peak coming down.

    Tech has stretched out the market cycle, but I'd be nervous and wouldn't expect price growth to continue much further.  Not the best market in which to begin building projects.  I would imagine you'd want to be building only in expanding markets.

    0Reply
  • Account Closed
    Investor · San Francisco, CA · Member since 2014 · 577 posts · 203 votes
    11y

    @Nhi Nguyen 

    Please disregard my prior comment.  That was more of a summary for San Francisco.

    The 3Q14 market cycle report below shows that San Jose already hit a bottom and is entering the expansion phase.  Although this is just one source of information, if your particular deal has merit I'd say it would be worth taking the risk to build the project.

    0Reply
  • James Peterson
    Residential Real Estate Broker · El Dorado Hills, CA · Member since 2011 · 101 posts · 40 votes
    11y

    @Nhi Nguyen 

     How about some detail on the units themselves? Single Family, Townhouse, Condo? Bed/Bath?

    And more specifically what area in Silicon Valley?

    Based on the description, 6 units, and sale price of $7.2m, you're projecting a $1.2m sale price of each unit.  

    Sounds like a win-win in hot areas like Sunnyvale, Santa Clara, or the 85 corridor North of Blossom Valley.   Softer areas of South San Jose, East San Jose and North San Jose may be of concern.

    Looking forward to hear more!

    2Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    ahhh it's so frustrating. I've typed up some rather long responds, but had to stop for lunch & talk to the guys. Both times when I came back it's all gone even though it said clearly that's "draft saved at hr:min:sec". Not sure if it's the forum bug or Apple browser.  Haha. 

    Anyway, 

    @James Peterson : I don't have the information with me but it's about 2400-2500 sqft SFHs, about 5500-6000+ sqft lots. It's in San Jose where the comps are very favorable. 

    @Account Closed : I'd be financing the investment of course. I'm not at that level yet J :) I wish to be in near future though, hahaha. As for plan B, I know what you're talking about. They have not spoken about it specifically. I guess if the numbers work, and market drop from 10-30% then selling out quickly to break even or lose a bit would be one plan. Renting would probably be a must depending on the market conditions and all partners' votes I guess. 

    I have a meeting with their office tomorrow. Will see if they have anything else solid. 

    Thanks again everyone for the great inputs. 

    As for partnership structure and paperwork/lawyer kinda stuffs: is there anything I should be aware of, or need to find out? 

    0Reply
  • Johnson H.Pro Member
    Investor · San Francisco, CA · Member since 2010 · 910 posts · 889 votes
    11y

    @Nhi Nguyen  - Exciting project you have here. I think the San Jose market will go sideways for awhile and you are targeting an excellent price point at $1.2 million. Questions I would have to the broker and group would be the following:

    • If this project will be financed, is this a recourse or nonrecourse loan, who is guaranteeing the loan if it is, and what are the terms of the loan? Construction loans may have third party inspections and draws based on a well defined construction schedule.
    • As the contractor on the project, how will issues be resolved? Will it come out of your pocket as the contractor or will the partnership pay for it? Issues need to be well defined upfront or the group could continually point fingers at you as the contractor for issues and get you to pay up for addressing mistakes that you didn't do.
    • Can issues be resolved through arbitration? If so, that needs to be expressed in the partnership agreement.
    • What are the roles of everybody? Who will make the final decision? 
    • If loss were to occur on this project, who will bear the loss and how will it be split?
    • If one partner cannot live up to their $500k commitment, how or where will the additional funds be obtained?
    • Will this partnership obtain insurance in case of buyers suing the developer?
    • How many homes will be built at a time and will homes be presold?

    You can see, most of my questions are for when something goes wrong, who is to blame and who pays up. You should try to protect yourself upfront as much as possible as you are the contractor and investor.

    3Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    thanks @Johnson H.  

    Only some of the points were in my list. Most of them are solid questions to raise at my meeting. 

    As for contracting, all details would be spelled out in the scope of work. Which if the project goes through, there would be another thread to poll for advices from me :)

    1Reply
  • Johnson H.Pro Member
    Investor · San Francisco, CA · Member since 2010 · 910 posts · 889 votes
    11y

    No problem! Once you hear of the details, it would be great if you could post those as well. I always enjoy hearing how others put together their partnerships. My day job is to criticize, find faults, and point out risks so I am happy to help you where I can. My best advice for you is to think up the worst possible situations and ask how the partnership will handle it and have it written out. I'm sure you've had a lot of demanding customers in your business as a contractor so you probably have a few situations thought up already!

    2Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    cool Johnson. 

    Btw, are there lots of interest in this Friday meet up?  I'm trying to go this time too. 

    0Reply
  • BeBe Cheng
    Investor · San Jose, CA · Member since 2014 · 65 posts · 52 votes
    11y

    Draw up a well defined partnership agreement. My friend lost all her partnership holdings to short sales during the last turn.  The partners just could not come to agreement to sell before the avalanche arrived.

    3Reply
  • Nhi Nguyen
    OP
    Contractor / Flipper · Hayward, CA · Member since 2014 · 195 posts · 86 votes
    11y

    thanks @BeBe Cheng 

    They have a lawyer writing the paperwork for them. 

    Once anyone is determined the numbers make sense and is ready to move forward, they advice to look at these with personal attorney. So I'd definitely do that. 

    0Reply
  • Johnson H.Pro Member
    Investor · San Francisco, CA · Member since 2010 · 910 posts · 889 votes
    11y
    Originally posted by @Nhi Nguyen:

    cool Johnson. 

    Btw, are there lots of interest in this Friday meet up?  I'm trying to go this time too. 

     Yeah, even though the thread doesn't have many posts, the meetup.com group I set up has 20+ people confirmed attending. A lot of people don't post and just show up. Looking forward to seeing you there if you can. 

    0Reply
  • Account Closed
    Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
    11y

    Nhi,

    Sounds like a good and fun project.  You shouldn't have any issues selling new construction at $500/sq.ft. in Evergreen or some other decent parts of San Jose.  

    @J. Martin mentioned above, I'm a vivid student of economic and history.  What's the point of building a real estate empire only to lose it all?  Knowing when to hold and when to fold will help you win half of the battle.  

    As I posted on here before, at the top of the market in 1989, the housing affordability index (HAI) hit 13% for our Santa Clara County.

    At the bottom in 1994, the HAI reached 45%.

    At the top in 2007, the HAI hit 11%. (Note:  Loose lending drove it this high)

    At the bottom in 2011, the HAI reached 56%.

    We are currently at 19% HAI.  We are definitely closer to the top than the bottom.  The good thing is that the housing inventory is only about 1.5 months, and we have some good wage inflation in the Tech Industry.  I have to agree with @Johnson H. that there's a high probability that the market will stay relatively flat to single digit movement in the near future.  

    Looks like things are still humming in the SFBA so the market should stay healthy in the next few years.  However, it's much more fun to sell in 2005 then 2007.  When the market tanks, be sure you have staying power if you don't get out in time.

    Here is a summary of Bruce Norris' 3rd quarter newsletter.  Many CA investors consider Bruce is the Oracle of Real Estate.  Here is the recap of what Bruce learned in 2014.

    1. 2014 was unlike any year California has ever had.

    2. We can have declining sales in the same year that we have affordability over 30%, declining interest rates, improving employment, a decline in foreclosures, a decline in short sales, a decline in delinquencies, and a decline in negative equity.

    3. He has to re-examine his future expectations about what's about to happen in 2015 and get to the bottom of what happened in 2014.

    We can't ignore what happened in 2014. It happened despite some very positive forces and defied history! IT'S A BIG DEAL. His question is if we can have a lousy 2014 after a great 2013, what guarantee do we have that 2015 will be any different?

    There are a few very bright people who expect 2015 to range from bad to awful. Bruce is going to take a serious look at all of this in the next 90 days and report his finding in the January 2015 newsletter. The title will be: 2015 Proceed With Caution! We may well be in uncharted territory so be careful!

    5Reply
  • Aaron Norris
    Lender · California and Florida · Member since 2008 · 319 posts · 194 votes
    11y

    This report will be far more than a newsletter. If like our other reports, it should be around 250 pages with 400 charts. Chart nerds only. :)  I'm working on it as we speak!

    1Reply
  • Peter K.
    Investor · San Jose, CA · Member since 2013 · 115 posts · 76 votes
    11y

    Congrats Nhi.   Sounds like a good potential project.  

    @J. Martin And the others had some great feedback and input.  Here are my thoughts and questions. 

    You mentioned a 30-35% return, but it seems like your calculations are based on profit.  Not a big problem , but you may want to be clear for the investors.  There are so many ways to calculate and analyze a deal.  When I calculate Net Profit Margin, I simply subtract ALL of the costs (including closing costs) from the sales price.   Using this formula, I calculate 24.3% to 20.8%, which still meets your 20% + criteria. 

    Net Profit Margin (20.8%) = net Profit (1.5M) / sales price (7.2M)

    When analyzing for Return, that is a little more involved and usually takes into account each individual players' contribution, the timeframe to get the money back and the amount of profit for that player. If you haven't already done so you can put together a pro-forma that gives projected ROI based on the projected costs, sales price and time to complete the project. This is usually an annualized number to make it easier to compare to other investments that the investor may be considering.

    Good luck!   Keep us posted. 

    Peter Karasseferian

    0Reply
Join the conversationCreate a free account to reply, vote on answers and follow this thread.
Log InJoin for Free