@Kirt Sangha I am a real estate appraiser Southern California. I mainly appraise single-family homes in Orange County and apartment buildings in Los Angeles County. There are many factors that will go into your development deal. Some of which I would be familiar with and some of which I would not.
First, you said this property is in Los Angeles, but it would be important to know if that means the city of Los Angeles or the area of Los Angeles. Assuming you are in the city of Los Angeles, you would need to look at the zoning Development Standards for a property in the R3 zone. I can tell you that the minimum site area per dwelling unit is 800 SF, which on a 49,000 SF lot, would allow for approximately 61 units. However, there is also a height limitation in the R3 zone, which I believe is 45 feet. Also, @Wren Martin noted, you will be required to have adequate parking. In the R3 zone, any unit with more than three habitable rooms (1 Bed = 3 Rooms; 2 Bed = 4 Rooms; etc) would require two parking spaces. Based on your number of units (46), you would need 92 parking spaces, which would likely need to be underground, thus adding significantly to the cost. You would also need to meet minimum front, side and rear setbacks.
Now, let's look at some of the building numbers. I don't know building costs, so I will go with the numbers provided by @Wren Martin. He suggested costs of approximately $380 - $560 PSF. Let's go with a middle number of $475 PSF. If you have 46 two-bedroom apartments at 800 SF per unit, you will have 36,800 SF of GBA (Gross Building Area). Multiply the GBA by the cost per SF ($475) and you get construction costs of $17,480,000. Remember, this number may not include the underground parking. Adding the building costs to the land acquisition costs and you are looking at just under $19,000,000. Let's say, for example, that you can actually build for $250 PSF, that would lower you total construction costs to $9,200,000. As you can see, knowing you cost of construction is extremely important in determining your basis.
Lastly, let's talk a little about Cap rates. Over the past couple years, Cap rates generally range from the low 3% to the high 5% in the city of Los Angeles. One of the reasons that cap rates are so low in our area, is that there is a shortage of housing and vacancies are very low. Cap rates are effected by many factors, including location, market spread (difference between actual income and pro forma income), expense ratios, vacancy, and so on. Also, in the city of Los Angeles, any building built prior to 1978 is under rent control, which will also have an impact on the Cap. A Cap rate is really a reflection of the risk to the investor. Lower risk = lower cap rate, higher risk = higher cap rate. As an example, in a rent-controlled building with large market spread (long-term, low rent tenant vs market rate tenant) you will have a lower cap rate because there is less risk that the long-term tenants will be moving. On the other side, if your building (rent-controlled or non-rent controlled) is full of tenants paying market rents, there is some risk to the cash flows, as a downturn in the economy could encourage your market rent paying tenants to look for cheaper rent somewhere else.
In your scenario, a new building full of market rent tenants would have a higher cap rate than a nearby building that is full of tenants paying below market levels. You will also be dealing with the time it takes to complete construction and to stabilize (fully rent out ) the units. With 46 units and using a cap rate of 5.0% and expenses of 35%, you would need to be able to achieve $2,650/unit per month, just to break even on your $19,000,000 investment. Using the same cap rate and expenses, rental income of $2,000/unit would result in a valuation of $14,350,000 and rental income of $1,750/unit would be valued at $12,558,000.
You really need to iron out the cost of construction and realistically achievable rents.
Good Luck,
John
