Are We Hunting Elephants or Hunting Mice?
When deciding to pursue multifamily, there were 5 features that we wanted to know.
- Is the market big enough?
- Is the product better or cheaper – sometimes both – than other companies assets in the space?
- Can the business be scaled quickly and exponentially?
- Is there a significant advantage that makes it tough for competitors to succeed?
- Will the investment be worth a lot more over time than it is today?
Q1: Is it hunting elephants or mice?
Compared to other real estate assets, apartments are definitely hunting elephants (single family are like mice) The urbanization trend will create even more potential customers. In the last 10 years housing dynamics have changed drastically. Millions of people are moving to city centers each and every year, the allure of home-ownership is on the decline. There are 67.5 million people between the ages of 20-34, which is the largest renting demographic in the United States-and the core of the people moving to city centers. That being, said this demographic couldn’t afford to buy their own home even if they wanted to. The burden of student debt mixed with current home prices have created a large barrier to entry. Furthermore, the 2008 housing crisis changed more than the economy-it changed generations psychology. People want less responsibility and a more urban/transient lifestyle.
Why can’t we just build more apartments?
We need 4.6 million new apartments units by 2030 to keep up with demand and population growth. However, we lose 100,000 units every year to age and obsolescence, and can only build at a pace of 328,000 new units each year. In turn, there is a major gap in supply. We will come up 1.6 million units short in 2030. The old dream of owning a home, a dog and the white picket fence has been replaced with urban living and a more transient lifestyle. Therefore the market is prime for another 30 years and sets up a major opportunity for us. And unlike other real estate investments it is 100% passive, proven and resilient to market corrections.
Q2: Is the company’s product clearly better or cheaper than its competitors?
As a real estate investment group we compete with other investors who offer housing; from single family, to executive rentals. The definition of better or cheaper is a relative statement when it comes to housing. B-class apartments sit in the middle of the market and serve the largest segment of renters. B-class apartments appeal to people who rent out of necessity. Although not the cheapest in town, they are the most risk averse. The cheaper the rent , the less stable the renter base. Cheap and quality are not congruent. Our properties will never be the nicest in town, but they are a clean, nice and safe place to live.
Q3: Is the business scalable?
A business is scalable if it has the ability to grow exponentially and quickly. As an example, a software company is one of the most scalable businesses because once it creates a product, it can sell that product ten times or ten million times. Scale in real estate is equal to the number of doors per property. To reach the equivocal level of scale in single family, you would need to complete 10X number of transactions. Additionally, large commercial apartments are diversified cash flow machines, because they are more operationally more efficient. When an apartment has more units it enhances the economics by lowering management, maintenance and marketing costs, and insulating the property from vacancy & market fluctuations.
Q4: How big is the moat?
Warren Buffett was one of the first investors to use the term “moat.” It refers to how resistant a company’s business model is to outside competition. In real estate your largest competition are other investors, the economy, the population and affordability of housing in that market. By buying in large city centers that are growing and have strong economies, we are protecting ourselves from affordability and ensuring that we have high demand. Additionally, by buying a large property, we have more flexibility to adjust our rents and while remaining competitive and profitable. However, this is not overly impressive because competitors could move in and try and duplicate our model. That being said, by securing 2-3 large complexes in the same market, we further insulate ourselves from competitors and enhance the economics across all properties.
Q5: How much is the business worth?
Apartments and their residents contribute $3.4 trillion to the U.S economy annually supporting 17.5 million jobs; and there are 38.7 million apartment residents in the United States. According to Freddie Mac, “Multifamily origination volume is projected to grow to $317 billion in 2019 driven by solid market fundamentals and strong investor demand for multifamily properties. The 2019 figure will exceed the $305 billion in originations estimated for 2018 by 3.9 percent.” Read the Full Report: 2019 Multifamily Outlook Report