All Forum Posts by: Scott Choppin

@Kris Reeves @Mateusz Prawdzik

Just wanted to add some clarification. 

1. I am a huge proponent of development (I am a developer after all)

2. What I was after for Kris was for him to be rigorous and thorough in the initial analysis of rehab versus new construction. 

I must respectfully disagree with Mateusz, to say that "the risk/reward isn't there" on SFR rental, this may or may not be true. I just want Kris to do the math, which it sounds like he is in process (partly why he's on BP asking the question).

3. The time to look at the development model is when existing product becomes expensive enough to warrant building something new.

The way I think about this is as two sides of the same formula:

• buy below replacement cost

or

• buy/develop above replacement cost (I call this the "development model).

In a recessionary environment, when values are down, you can buy units below replacement costs. For example you can buy existing at $80k per door, where replacement cost (think: build cost) is $100k per door. In that model you are benefited by buying existing at a discount. You would not build new, to sell at a loss, so no development takes place.

In an inflationary environment, or up market, you are the in the "above replacement cost" or development model, where you can build for $100k, and sell for $120k. In this case, your development profit is $20k per unit. If you hold it long term at the end of the development process, you are really "buying" at the $100k build cost (I think, Kris, this is where you may be). 

In this case, you can build and sell for a profit, which is where most markets are now (not all, but most all major urban centers). In this environment, you may have to pay $120k per unit to buy existing, or may find it slightly cheaper, but the units need rehab, and you end up close to $120k anyways. Plus you have to compete with all the other buyers in the market, whereas looking at the development model eliminates lots of (not all) competition from less sophisticated buyers.

Now before everyone flames me, I am generalizing, you might find distressed assets that have nothing to do with market conditions. Also, there's lots of friction in the development process, and my example is simple by design (this is why I recommend working in joint venture with a seasoned developer or development consultant). Once you get the concept, you can then add the other complexities that come with development and see if the "above replacement" model works for you. Some folks just don't do development, and I accept that. It's not for the faint of heart, at all. 

So, back to the question at hand for Kris. It sounds like existing is very competitive/expensive, which invokes the development model. Then he needs to decide if he has the networks of help to dive into development, then appropriately and rigorously underwrite the SFR rental model, and see if the investment returns exceed the "buy existing" model. At that point, after making a rigorous and ground assessment of the two models, if the returns for development exceed purchase of existing, you pick that one. Then build your networks of help to execute.

Scott

@Gary F.

I came across this thread and have a quick question, is the property you want to do the ADU on in unincorporated Santa Clara County or within a specific city?

Thanks.

@Kris Reeves

You question is a good one, sorry we all haven't been quicker to respond (HT to Audrey for jumping in with some good help). 

The link to my real estate development thread is here: https://www.biggerpockets.com/forums/44/topics/427...

I do have some thinking around this idea. I can't answer each of your questions, but if after further review and research on your part you need help, I would be happy to engage offline via phone.

Reactions to the ideas of building a for rent SFH project or portfolio:

1. Ask yourself this questions, are there already existing homes that can be bought and rehabbed for lower or equal cost and rented to a similar rent to a newly built SFH?

If this is "yes", then you need to consider the time, expense, and risk/complexity that is inherent in a development project. Versus much less of that than buying an older home, rehab, rent. You allude to some of the risk items in your post, interest carry as an example. You will have interest carry on either rehab or new const, but the complexity of involving the local government in your business plan can/does insert a whole new level of review and approvals (read: risk). These approvals can take more time (zoning, design review, subdivision platting, plan check of buildings under more stringent building codes), most all of which you'll skip on a rehab. 

I'm not saying rehab is simple or easy, just that in comparison development is more risky, complex, and costly in terms of time and energy.

One way of offsetting this development risk is to partner with a development company or hire a consultant who has the expertise and team to move through the development process more expediently. 

2. If you do get over the question of rehab versus development and you pick development, there a some items to consider on an SFH new construction rental portfolio.

A. Your operating expenses will likely be higher, due to more maintenance issues related to a house versus an apartment building, more water heaters to break, more exterior items to maintain - fences, site work, drainage, etc. In my personal experience, I was involved in a deal in the Midwest where the company I worked for underwrote an SFH tax credit project, and the opex were much higher per unit. I have not done an SFH rental portfolio build myself.

B. Your maintenance costs will be higher in the long run, due to your maintenance team having to move from house to house to complete repairs, move tools, move trucks and personnel.

C. You may pay higher property taxes on a per unit basis as you are now taxed on a larger land area per unit, versus a MF project with more units on smaller land areas. Depends on the mill rate and special districts, but should be taken into consideration.

D. You likely would not "upgrade" the HVAC beyond normal specs and you'll get no rent uptick having a better quality unit. Oh you may want a mid to mid upper brand, versus super cheap, that is a good choice. But I interpreted you statement to be something like "industrial grade" which you don't need.

E. You land cost per unit on land purchase may be higher than a MF site, again efficiency of number of units on a given piece of land. To a point, more units equals more efficiency of land cost per unit and higher returns. 

I think that covers it for the moment, but let me know what questions you have after review. Also, do you have a specific site identified?

Thanks

Scott

@Amit M.

I accept your interpretation for what goes on in the City itself, re: politics, neighbors, tough entitlement processes. But that's true everywhere in CA to varying degrees, hence the reason we have housing shortages in all major urban centers in CA.

In the Bay Area there are many opportunity areas such as Oakland and other parts of the East Bay, the peninsula south of the City in older towns like Daly City, and in parts of Santa Clara county. We have made assessments of specific sites in a number of Bay Area/Silicon Valley cities, and find the economics work in older low income neighborhoods.

There is opportunity everywhere.

Take care.

Scott

@Wai Fung

I can help with development projects, particularly development of SHF projects and multi-family units. When you get to that point feel free to DM me and we can talk directly.

The type of financial structure you describe in the second part of your post is called BRRRR. Good BP article link here should get you started:

https://www.biggerpockets.com/renewsblog/brrrr-buy...

Take care and report back when you get some traction on your deals.

Scott

@Audrey Ezeh

The post above should answer your finance question. 

It's a long read, but does outline how we are financing these projects. I might also add, on the debt side we are using private and commercial construction debt, with very standard MF debt structures. 

For permanent debt, the only time we will see this, will be on our LT term hold long term rent covenant projects, where we will work with community lending divisions of banks using their typical permanent debt structures. In most cases, 10 year term, 30 yr amort, 65-75% LTV.

Thanks for your question.

Scott

@Amit M.

Great questions, thanks for your thinking here. 

I understand your reaction to what I am delineating in the last couple of posts. Your reaction is warranted as there has not existed what we are building in this exact format until recently. 

These specific projects are privately financed moderate income urban family rental housing. 

We call this specific type of rental housing UTH which stand for Urban Town House. This is a new housing innovation created by our company that had not been produced at any scale, and hence the reason that you are reacting to the narrative. It hasn't existed in main stream real estate business conversations until now. It is an uncommon offer, and we are enthusiastic about that fact. As you say, "Most CA builder only build higher end, ...otherwise..won't pencil out" 

We are grounded in our statement that newly constructed moderate income housing for families can and does pencil out. Our initial set of projects is coming to completion and being sold, and we are producing returns on equity of over 20% IRR, with COC in the mid-teens, based on investment periods for equity around 1 year. This is the innovation that we are pairing private capital with a family oriented housing product delivered at:

1. Naturally occurring affordable moderate rent levels (CA TCAC 2017 rents for LA County, 100% MAI 5 bedroom, $2883). 

or

2. True moderate income affordable housing. Generally, this 2nd type of project is rent restricted under a long term covenant, with rent levels at 120% of area median income.

Here moderate income means 80-120% of area median income for Los Angeles county (State of CA definition of "moderate"). 

What this means is that we have two paths to build moderate income family housing which increases the velocity of our offers (more ways to finance, build, sell or hold). This will also allow us to scale both on project volume (number of projects) and project size. 

A few details for UTH:

- 3-story rental townhouse product for large, dual, and multi-generational families. 

- Multiple bedroom slab on grade construction with ground floor 2-car direct access garages

- These units are rented to families, then depending on the finance structures, sold upon completion, or some are held long term (LT hold projects have different equity returns than those sold, but LT hold will be case-by-case, depending on project, see Impact Fund below)

- The projects use private capital, meaning they do not use any public sources of money such at LIHTC, HUD, or local sources of soft money typically used for affordable housing at or below 60% of median income.

Note: We can rent to S8 tenants as appropriate. This is the beauty of this design, it's a true crossover between market rate and moderate affordable. UTH serves the missing middle in three ways: in design (town house, 25 du/a), income (middle income families 80-120% MAI), and housing type (between true apartments and SFR).

- Projects are located in low and middle income neighborhoods on purpose, in fact, we prefer it. To your point these might be in up and coming neighborhoods, but normally are not our first choice to keep land costs down. 

Two final points:

A. We are continuously raising new capital and are building networks of new HNW and Family Office private equity, which are attracted by the UTH concept and 20% IRR returns. We are constituting our offer in the crowdfunding space, with a specific purpose of raising social impact crowdfund capital attracted to the double bottom line narrative of our UTH projects. And, we are forming two equity funds specifically to finance additional UTH projects. First, a UTH "market rate" equity fund for UTH with no long term rent restrictions. Second, a UTH Housing Impact Fund, to fund true moderate income projects with long term covenants, and that will be held long term.

B. To reiterate, this is workforce housing, designed and built simply and cost effectively on already zoned sites, using only private capital to deliver needed moderate income housing for families to a market STARVED for new housing for families in low income neighborhoods. This is an uncommon offer, and one that CA needs huge amounts more.

Thanks!!

Scott

@Sam Cain

Thank you for the update. 

Totally understand you are prioritizing, which is wise. When you free up to work on your deal more, send me a DM, and let's set up a call. I can be of help in your process on the deal and your learning when you are ready to move.

Talk soon. 

Scott

@Mike Wood

Thanks for the thinking and information.

I see what you are saying on the design. I think we are running into regional differences. 

As an example, balconies are required by CA zoning codes, where we have to supply 75' of private open space per unit, which we normally supply via balconies. We also have to supply 75' of common open space which we do on the site, barbecue areas, etc. 

The variation in the facade and elevations could be made more simple, but many cities including Long Beach, have code requirements for minimum facade variation. Example, City of LA requires in some locations that no more than 30' of elevation can exist before some variation in the facade is required, step forward/back, jog in/out, etc. I can say that this project is very simple compared to most new MF housing in the CA marketplace.

On the bedroom sizes, just a couple of points of clarification. My last post indicated we try to do nothing smaller than 10x10. Said another way, we do larger bedrooms, similar to you 12x12, etc. But we try to not go below 10x10, just an internal practice. These are units for larger families, with multiple bedrooms. The renter profile is focused on three things in our market: bedroom count, direct access two car garages, and air conditioning. There is very little competition (i.e. supply) in the market for multi bedroom rental units, they just don't exist on any scale. There are SFR rentals that compete, but generally we see those are either highly inferior older homes, or larger homes comparable with our design, that rent for $3,500 per month and above. I can say definitively, in CA, affordable new construction rental housing is in severe short supply, so renters are focused on the three items I list above. We do think about the future buyers of our projects, as we merchant build most of our projects, so keeping them attractive enough for owners is also part of our thinking.

I can see your point on laundry rooms and walk in closets. On laundry rooms, we would spend the build costs either way, either we would build a common laundry room, or we supply in unit laundry, which is vastly preferred by the tenants. 

On the walk in closets, I think of it the way you do bedroom space, very cost effective space to build.  As you saw from the plans, these are 3-story town homes, so in all cases our bottom floor level is driving the upper floor designs, where we sometimes end up with odd left over spaces in the top two floors. We generally either try to eliminate those odd space (which can create weird exterior elevation changes), or we smooth out the upper floor designs by using these odd space for closets. 

I'll end with this thought: we are in an ongoing process to refine our floor plans, to eliminate all the cost drivers possible, while also balancing keeping the units desirable to renters and the future owners of the properties. 

Thanks Mike. 

Cate Mee If as the other poster said, lots of development being done in SA, and with your site being free and by Riverwalk, seems like a good story. You need to run a proforma. I can be of help here, send me a DM. Scott