Lifecycle of a CA Multi-Family Development Deal

Lifecycle of a CA Multi-Family Development Deal

Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes

Hi Everyone

After reading through many excellent posts, include the "Diary of a New Construction Project" by @J Scott and @Joshua Dorkin, I thought I might add our voice here on BP. I am proposing to track the entire life cycle of an urban infill 4-unit rental housing development project in my hometown of Long Beach, CA. My proposal is to create weekly posts that cover a development project from beginning to end, and to give explanations about what and why we do things certain ways in this project, as well as, the logic behind our decisions. We will share site selection, initial underwriting/proforma analysis, design development, permitting, construction/build out, lease up, and (for this project) final sale. 

First, an introduction. My name is Scott Choppin. I have been married to my college sweetheart Rebecca for 17 year (together for 23) and we have three kids 15, 13, and 9 years old.

The purpose for this series of posts, is to walk everyone through the development process, demonstrating the details and life cycle of a development project. I have had the great benefit of many very savvy teachers, and would like to give the gift of passing on knowledge to others. As well, my purposes include building my own networks of help (tactical, transactional, and professional) to learn, raise more capital, and find more great projects to work on. This is, as you all know (or you do now), the lifeblood of all developers.

Finally, out of respect to my partners in this project, some details and proprietary information will stay private and so you may see redactions from time to time. As well, I will try to answer questions, but must limit cost in regards to time, so may be not be able to answer all questions. My goal, is simply to pass on knowledge, be an offer of help, and facilitate new folks in my network. So here goes....Sláinte.

Project Basics:

City: Long Beach, CA

Unit Count: 4 units, rental housing, to be sold upon completion and lease up.

Construction Type: Type V, 1 hour, with sprinklers. 

Type V (pronounced Type 5) is a reference for wood framed construction that most of you are familiar with, with "1 hour" referencing the fire rating between occupancy areas (say between a garage, or other units) where extra drywall is added in the walls between these areas (there's more to it than that, but keeping it simple). The other types are Type I, II, III, IIIa, etc. These would be various forms of concrete, steel, wood and steel mixed. "Sprinklers" means what is says, all units and garages will have residential grade sprinkler systems installed (residential sprinklers normally have plastic or PVC pipes versus steel that you see in commercial applications).

Construction style: 3-story on grade town home, direct access ground floor garage. 

"On grade" is the typical construction methodology that you are all used to where forms are built for the slab and poured onto the graded dirt pad, this is in contrast to "podium" where the cars park underneath in a concrete garage, and another type is high rise construction. "Town home" describes a type of unit, where the living space is on multiple floors, with the same tenant on all floors. Versus stacked flats, like typical apartment units, where different tenants live above and below each other. Garages are the bottom floor of the town home and are direct access to each unit.

Unit Type: Multiple bedrooms rented to families.

Some maps and then that'll be it for today. Next time, site selection including site photos and discussion about zoning. 

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Jay HinrichsBusiness Member
Real Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
9y

@Scott Choppin  After reading this unbelievably accurate and comprehensive post about developing from ground up.. and there are still those that want to do it?   LOL...  

I think for most starting out financing will be their biggest stumbling block if they have zero track record.  Along with sufficient working capital and equity requirements.

Keep up the great and detailed post that is most kind of you to take the time... !!!!!

See this reply in the discussion

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  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    8y

    So here's the order of build for a MF development deal, our videos will roughly follow this order:

    Survey

    Demolition

    Rough Grading

    Foundations/Underground utilities

    Framing

    INTERIOR (starts after rough framing complete):

    Rough Plumbing/Electrical/Mechanical

    Rough fire sprinklers

    Insulation

    Drywall/Texture

    Paint

    Cabinets

    Flooring

    Finish Plumbing/Electrical/Mechanical

    EXTERIOR (starts after rough framing complete):

    Windows

    Exterior carpentry/fascia

    Roofing

    Exterior Insulation

    Stucco

    Exterior paint

    Deck coating

    Exterior metal work/gates/fences/railing/architectural metal

    Underground utility connections from public to building - water, sewer, gas, electrical, sprinkler (backflow and detector check)

    Hardscape - walkway/driveway/block planters

    Fencing

    Landscape

    While this list is linear, after framing is complete you move into two separate by parallel processes - interior work and exterior work. As well, some of the trades will overlap. Example, you may be able to build your fences at the same time as you pour your driveways and walkways.

    I have not included inspections in the process above, but you can assume these inspections generally:

    • Demolition final
    • Rough grading - bottom and final
    • Foundations - concrete form and rebar inspections, trench bottoms by soils engineer, rebar and framing hardware by structural engineer
    • Underground utilities under slab - plumbing (water/sewer), electrical, gas
    • Rough framing
    • Rough plumbing, electrical, gas, sprinkler
    • Insulation and fire stop/fire caulk
    • Drywall nail/screw
    • Finish plumbing, electrical, mechanical, sprinkler
    • Final underground utility connection - as needed for utility install - water, sewer, gas, electrical, sprinkler
    • Final landscape, exterior - planning department
    • Final building inspection, issuance of Certificate of Occupancy (C of O)
  • FL · Member since 2013 · 14 posts · 3 votes
    8y

    This is awesome Scott, following closely. Thanks

  • Arcadia, CA · Member since 2018 · 10 posts · 0 votes
    8y

    @Scott Choppin, thank you so much for this post. It's been super helpful for someone who is just starting out. I sincerely think you should write this all into a book. There are so many great books out there on development, but they are too general, both substantively and regionally. I'm in LA as well so your post is very relevant. I wish there's some kind of sources out there for LA specifically. 

    In one of your posts, you mentioned that your company does a lot of land sale after you obtained entitlement. Is that something your company is still doing in this market, besides your UTH project? I'm looking for opportunity in developing condo/townhouse.  

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    8y

    Here we go to the next stage of our CA Multi-Family project:

    https://youtu.be/liFR9dXTQVw

    Completion of the concrete foundation formwork and underslab plumbing

    Installation of rebar, visqueen, sand, and framing hardware

    Pour and finish concrete

    Ready for framing

  • Rental Property Investor · Anaheim, CA · Member since 2015 · 138 posts · 37 votes
    8y

    Thanks for sharing all this information @Scott Choppin

  • San Francisco, CA · Member since 2014 · 345 posts · 281 votes
    8y

    Hi @Scott Choppin - 

    Nice of you to document your project.

    I understand you don’t want to share price per square foot construction costs.

    If you divide your annual pro forma NOI by your total project cost, what cap rate are you building and at what cap rate do you think the market value your project when it is stabilized.

    Will you get 200bps of cap rate change?

    Keep at it,

    Tom

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    8y

    Hi @Tom V.

    Great question.

    Exit caps vary in each particular micro market as you would expect. Generally, with the exit caps we are seeing on new construction sales between 4 and 4.5, we are regularly producing 200 to 240 bps spreads at time of sale of the asset. 

    Hope that helps! Appreciate the question.

    ~ Scott

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    8y

    Thanks @Account Closed!!

  • Rental Property Investor · San Francisco, CA · Member since 2013 · 1k+ posts · 1k+ votes
    8y

    @Scott Choppin thanks for doing these. Right amount of details imo, as it’s nice to get another builders perspective on the nuts and bolts of construction w/o getting into the weeds too much. It’s helpful for me as I compare my renovation projects. 

  • Rental Property Investor · Los Angeles, CA · Member since 2015 · 32 posts · 18 votes
    8y

    Great detailed content Scott.  Good to see how development is actually executed up close in my local market. Please keep the updates coming!

  • Architect · San Diego, CA · Member since 2013 · 244 posts · 101 votes
    8y

    @Scott Choppin thanks for the articles, the one on the opportunity zone incentives is really interesting to me.  I looked up a vacant property I own in National City and it happens to be in one of these zones.  How do I take advantage of this?

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    8y
    Originally posted by @Colin L.:

    @Scott Choppin thanks for the articles, the one on the opportunity zone incentives is really interesting to me.  I looked up a vacant property I own in National City and it happens to be in one of these zones.  How do I take advantage of this?

    Colin, depends on the zoning of your property. Check that out and post a reply here. We are focused on multi-family zoned properties for development in OZ's. 

  • Architect · San Diego, CA · Member since 2013 · 244 posts · 101 votes
    8y

    @Scott Choppin Yes, sorry I should have specified, it is zoned for MFH, it is a small lot 6,200 SF but zoned for 75 DU/A.  With the state density bonus I am planning on 14 units.  2 work/live units and parking on first floor, and 2 floors of studios & 1 br's above.  I'm currently in the design phase.  

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y

    Hi Everyone, I have been remiss in my posting consistency. We have been moving forward on Cedar even though my posts have not. The pace should pick back up now. 

  • Los Angeles, CA · Member since 2018 · 95 posts · 46 votes
    7y

    Hi Scott,

    Great thread. Thank you for the thorough explanations. It is frankly one of the best posts on this forum.

    One question pertaining to financing development projects

    Back in Europe where I come from, the government promote new condos constructions with a number of incentives.

    Among them, zoning bonuses against social housing, substantial tax breaks for new homes buyers and most importantly a legal framework allowing builders to pre sell the condos with a pre defined universal payment plan. 5% earnest money 35% at completion of fundations, 70% at walls / roof completion 95% at project completion, 5% on final delivery

    In counter part, the developer must get an insurance covering the buyers in case he doesn’t deliver

    Funds are managed by a notary / escrow co.

    Developers get the land under contract but won’t complete the land purchase before having the land fully entitled, pre sold a minimum of 50-60% of the project and secured financing.

    At least 70% of the project is usually financed by pre sale proceeds, 10-15% by the developer own funds and the remaining by a bank loan (rates around 1%). It is common that developers pull almost 100% of their equity out by raising mezzanine debt (eg. by issuing securities on crowdfunding platforms). I’ve seen many projects running with as low as 3% developer’s own funds. Even 0 sometimes. That amount of equity is discretionnary and up to the developer.

    Developer & sales fees & commissions run from day one, so the developer can pay himself a nice monthly salary from the beginning of the project.

    A safe bet is also to build affordable housing programs for social landlords. Government buys the whole program in bulk to house low income families and government employees. Very safe and easy to finance.

    In the us beside a measly 5% non refundable deposit, and a few zoning bonuses, i haven’t found anything close to that, but i may be wrong.

    Are US developers really working without any meaningful incentive or garanties?

    If that is the case it is like spinning a roulette wheel and hoping the market will still be the same 2 or 3 years from now.

    I frankly wouldn’t understand why would any developer take the huge risk to get into that kind of business especially in hostile regulatory / tax environments like California or NY where the construction code and red tape are an absolute nightmare.

    Your insight on how financing is typically structured and how developers can take advantages of available incentives in Southern california would be greatly appreciated

  • Investor · Seattle, WA · Member since 2015 · 39 posts · 41 votes
    7y

    @Scott Choppin - Scott, love your posts, great detail, looking forward to the rest of it! One thing - I couldn't make out the content on your images for pro-forma, cash flow, IRR, etc. - I even downloaded the images and enlarged them, but the content is too fuzzy to make out. Do you think you could either re-post higher resolution (or bigger) images, or could I PM you to get those? I realize you've redacted some info, but seeing the categories and a general idea of how you've put it all together on the spreadsheets would be extremely helpful, at least for me.

    Thanks again, and best of luck on your project and business plans!

  • Member since 2019 · 8 posts · 2 votes
    7y

    Extremely new to Re devlepment here...upon my own studying I noticed that HOA is a huge component in determining the for-sale price in development projects. I'm wondering if anyone can share their experience in determining the HOA of a residential condo project? Do you get a quote from a management company? Do you look at how much neighboring communities are quoting for HOA?

  • Rental Property Investor · San Francisco, CA · Member since 2013 · 1k+ posts · 1k+ votes
    7y

    “I noticed that HOA is a huge component in determining the for-sale price...”

    err....not really. The developer basically sets up the hoa as they see fit. It just needs to make sense and be legal. 

    Pricing is determined by market values. 

  • Member since 2019 · 1 post · 0 votes
    7y

    Great post and very detailed. The only part I don't agree with is the explanation about IRR for projects with different completion time frames. Rule of finance, which you probably won't know if you never studied the subject, states you cannot compare internal rates of two projects with different time frames. i.e. a project that takes 2 years to complete verses 3 years. Basic reason, without going too much in detail, is the concept of assumed reinvestment at maturity. To learn more about the concept, Google "IRR Reinvestment Assumption" and you will find many articles explaining it in detail.

    Don't mean to point out errors, but thought this was important to note; otherwise, this is a fantastic tread about a full-cycle ground up development project. 

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y
    @Account Closed:

    One question pertaining to financing development projects

    Back in Europe where I come from, the government promote new condos constructions with a number of incentives.

    Among them, zoning bonuses against social housing, substantial tax breaks for new homes buyers and most importantly a legal framework allowing builders to pre sell the condos with a pre defined universal payment plan. 5% earnest money 35% at completion of foundations, 70% at walls / roof completion 95% at project completion, 5% on final delivery

    • We also have zoning incentives, in California it's called the "Density Bonus or Zoning Incentives" Law for affordable housing. These can be applied to both for-sale and for-rent, although they are most often applied to rental housing. If a project supplies enough of the low and very low income units, the project can apply for a "Welfare Exemption" which is a reduction of the property taxes paid on real estate in California. There is not tax break for rents of any significance, there are some tax credits available, but they are complicated and small in savings, so in my experiences most renters don't use them. Condo/home owners of course get to deduct their mortgage interest, but that has been limited with the recent tax law changes, and in California, the amount that can be deducted from federal taxes has been capped, which specifically impacts high costs, high property tax state such as CA and NY.

    In counter part, the developer must get an insurance covering the buyers in case he doesn’t deliver

    Funds are managed by a notary / escrow co.

    Developers get the land under contract but won’t complete the land purchase before having the land fully entitled, pre sold a minimum of 50-60% of the project and secured financing.

    • We never close land that is not already entitled, or has a by-right zoning. Most true affordable housing communities, that use government subsidy, are generally always required to have entitlements in place prior to receiving an allocation of government subsidy monies.  

    At least 70% of the project is usually financed by pre sale proceeds, 10-15% by the developer own funds and the remaining by a bank loan (rates around 1%). It is common that developers pull almost 100% of their equity out by raising mezzanine debt (eg. by issuing securities on crowdfunding platforms). I’ve seen many projects running with as low as 3% developer’s own funds. Even 0 sometimes. That amount of equity is discretionary and up to the developer.

    • We cannot use pre-sale deposits or pre-sale proceeds at all to finance any projects in the US. I am most familiar with CA law, and that's not legal, nor even acceptable to the buyer marketplace. I know that is a method used in Mexico often, on for-sale housing projects. So we use 70-75% bank debt, 25-30% equity. Typically equity is 90/10, so 90% from LP investor, 10% from developer/sponsor. We do have mezz structures available, but we don't use them, as our equity returns are generally attractive to private LP equity - typically private HNW, family offices, and institutional equity sources. We have produced an average 29% IRR for the UTH workforce housing business plan since 2017. We have explored the CF space as well, but have not pulled the trigger on those structures yet. 

    Developer & sales fees & commissions run from day one, so the developer can pay himself a nice monthly salary from the beginning of the project.

    • We always integrate a developer fee payable to us as the project sponsor, usually 3-5% of project cots. This is generally a component subject to negotiations with the LP equity investors. Urban Pacific builds all of its own projects, much like US homebuilders. So we don't also have a GC fee in the deal.

    A safe bet is also to build affordable housing programs for social landlords. Government buys the whole program in bulk to house low income families and government employees. Very safe and easy to finance.

    In the us beside a measly 5% non refundable deposit, and a few zoning bonuses, i haven’t found anything close to that, but i may be wrong.

    Are US developers really working without any meaningful incentive or guaranties?

    • There are incentives, but the US affordable housing business and it's funding sources generally make affordable housing a "fee" business. Meaning a developer charges a developer fee in an amount capped and sanctioned by the government programs providing the funds. It is a safe business, meaning you don't worry about market exposure on the rental side, but you are capped on the amount of developer fee you can produce in a given transaction. So there's a trade. 

    If that is the case it is like spinning a roulette wheel and hoping the market will still be the same 2 or 3 years from now.

    I frankly wouldn’t understand why would any developer take the huge risk to get into that kind of business especially in hostile regulatory / tax environments like California or NY where the construction code and red tape are an absolute nightmare.

    Your insight on how financing is typically structured and how developers can take advantages of available incentives in Southern california would be greatly appreciated

    Hope that helps!

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y

    @Julia Hwang @Amit M.

    HOA is determined by a series of steps. A developer is required to hire a budget analysis company, that reviews the project and plans, and recommends a budget based on latest market info, amenities, product type, etc. In turn, that report is submitted to the CA State Dept. of Real Estate as part of the Subdivision Public Report Application (See guide here: http://dre.ca.gov/files/pdf/sprag.pdf). The developer has SOME latitude to negotiate what the HOA dues will be, but in my experience, not much. The state DRE has it's own staff that has some decent knowledge of HOA budgets. Additionally, the state and the consultants, saw many underfunded HOA's from the 2008-2011 recession period that were vastly under budgets on actual HOA costs, and so the days of low budget HOA's are gone. 

    Finally, HOA costs are not a direct impact on housing costs, but they DO influence buyer's choice of housing purchase and price. Buyers are smart, they WILL take into account the costs of everything related to ownership of a unit. Same for projects that have Mello-Roos fees, a costs of bond-funded infrastructure improvements, that owners pay annually on their tax bill. If a project has an inordinately high HOA dues costs, we have seen it be a drag on the marketing and sales velocity and absorption rates.

    ~ Scott

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y
    Originally posted by @Mani Dilmaghanian:

    Great post and very detailed. The only part I don't agree with is the explanation about IRR for projects with different completion time frames. Rule of finance, which you probably won't know if you never studied the subject, states you cannot compare internal rates of two projects with different time frames. i.e. a project that takes 2 years to complete verses 3 years. Basic reason, without going too much in detail, is the concept of assumed reinvestment at maturity. To learn more about the concept, Google "IRR Reinvestment Assumption" and you will find many articles explaining it in detail.

    Don't mean to point out errors, but thought this was important to note; otherwise, this is a fantastic tread about a full-cycle ground up development project. 

    Mani:

    My goal was to write a simplified explanation of IRR for those who are looking to grow into, build their careers, learn, and eventually work in the practical real estate development world. It was not written as a defensive treatise in an academic setting.

    You may have been able to read my bio, and would see there I actually do have a degree in finance, and more importantly, I personally have 20+ YEARS of professional proforma modeling experience with literally over 100,000 proforma models produced, many of which were underwritten by senior RED executives at the major corporations for which I worked. More importantly these proformas were submitted and vetted by some of the biggest equity investors in the RED business - companies such as Starwood, Prudential, Weyerhaeuser, and lenders such as Bank of America, US Bank, Wells Fargo, Union Bank, and many others. 

    ALL of these groups not only accepted our analysis of IRR, they confirmed on all occasions how they used it to COMPARE different investments prospects of different time periods.

    Per Wikipedia (see link below): "Speaking intuitively, IRR is designed to account for the time preference of money and investments. A given return on investment received at a given time is worth more than the same return received at a later time, so the latter would yield a lower IRR than the former, if all other factors are equal."

    Everyone can agree or disagree that IRR is the exactly perfect way to calculate investment returns, and in fact, those in academia, would correctly argue that using NPV to determine total value of investments is a better methodology. My writing here is for a practical, street level view of how to develop real estate projects, including raising capital from sophisticated equity investors. Understand: these guys use it to compare different projects, although the IRR is not the perfect mathematical tool for this comparison. But they overcome this weakness in IRR, by also using other measurements, which I wrote about - like equity multiple. You do not say if you have a finance degree or background, but you did not point out that IRR is not generally used only by itself. In RED project underwriting and assessments, equity multiples are needed to calculate the ratio of total dollar yields in a project given equity investment size, and further are indifferent to time periods of investment. When IRR and EM are used jointly, then an investor can better compare different projects with different time periods as potential investments. 

    Finally, I'll disagree with you on one last point specifically - the Reinvestment Assumption you reference as "reinvestment at maturity" is in fact incorrect. The reinvestment that is important is "reinvestment rate assumption that assumes that the company will reinvest cash inflows at the IRR's rate of return for the lifetime of the project" (emphasis mine). As well, I wrote in terms of "merchant building" RED projects, which as you know, do not pay out return of capital or return on capital until the project is sold, where there are no interim cash flows for which to make the reinvestment assumption, and there is only one final single payout. Last, an investor may include decision criteria for reinvestment AFTER repayment, but this would not apply to the subject project's IRR per se and is different then the "reinvestment assumption" you mention. See https://en.wikipedia.org/wiki/Internal_rate_of_return, specifically "The reinvestment debate". 

    Hope that helps from the point of view of practical RED project underwriting.

    ~ Scott

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y

    Ok folks, 3rd times a charm. 

    It appears that the forum rules have been amended, where YT links are no longer allowed. Any close follower of this thread has likely seen the previous posts to YT outlining the sequence of construction of a MF deal, where I understand that those old links will continue to be active. 

    Presently, we have posted a new YT video, outlining the installation of the exterior stucco systems. I would encourage anyone to go there and you will see the updates. Fortunately, we are at the tail end of the video series, and so you haven't missed but a 3-4 additional videos to complete the series. They will remain on YT indefinitely.

    Next video will post next week to cover installation of underground utility systems, then a couple more covering interior and exterior finishes. Once the construction phase is complete, we'll return to written posts here in this thread where we will debrief on the project, do's/dont's, investor IRR calcs, etc.

    Hit me with questions.

    ~ Scott

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y

    Hi Everyone:

    BP has erased all the YT links put in this thread that we posted over the last year or so, which is fair, terms of use say they can make any change they want anytime. 

    To continue to provide value and make this thread of some use, I am going to list the subject matter of the videos, in order, so that if you want to view them, you'll know what's there (they're located on the biggest web video platform on earth). 

    Generally, if you watch this series, it will take you through every major phase of a new construction apartment build. This will equip you with a clear understanding of the steps of a project build, in order of build, such that you can understand the process from the developers standpoint. 

    Here you go (excuse my multiple mug shots):

    I will be posting the underground utilities info next week.

  • Real Estate Developer · Long Beach, CA · Member since 2017 · 251 posts · 359 votes
    7y

    Here's the next entry in our series of this lifecycle thread - Underground Utilities - installation, layout, etc. You'll find it on the big video place....

    Post question as you have them. Just a few more videos remaining.

    ~ Scott

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