As published in Scotsman Guide's Commercial Edition, September 2012.
The multifamily sector has been the shining star in the commercial real estate market in the nascent recovery from the recent recession. With low vacancy rates and strengthening rental rates almost nationwide, apartments have offered a strong and safe investment opportunity.
Despite this strength, however, many apartment markets recorded capitalization-rate compression this past year, particularly for Class-A and Class-B properties, according to a report from Cassidy Turley. Of the 50 markets that Cassidy Turley tracks, only 13 recorded cap-rate increases, and those were mainly in markets where sales activity in the past year has been dominated by Class-C properties and/or distressed product.
With this in mind, multifamily owners must examine their assets’ performance strategically with an eye toward increasing net operating income (NOI) and thus improving their cap rates. Commercial mortgage brokers can play a significant role in helping clients with this process, which ultimately will place these properties in a better position to secure financing or refinancing. >>
To increase a multifamily asset’s NOI, commercial mortgage brokers must remind their clients that multifamily is a fast-paced property type. With typically shorter leasing terms to a larger number of residents, multifamily is different from retail or office, where leases can run for years at a time. It is important, therefore, to keep in mind the need to deal with this property type’s more frequent turnover as well as daily on-site management. If this added involvement is taken into account early on, multifamily can be a profitable investment.
Here are five steps that multifamily owners and investors — and their representatives — can take to increase a property’s net operating income. Improving the asset’s bottom line will be critical when clients seek financing or refinancing down the road.
1. Conduct thorough due diligence
If your client is planning to purchase a multifamily community, comprehensive due diligence always should be performed internally and externally. This may require your client to partner with a property-management company to examine the asset’s finances and identify the overall state of the property.
The due-diligence process typically covers improvements that may be needed, such as replacing or repairing roofs, paint, asphalt and fire systems. Such work can add substantial costs to the investment.
Once each of these factors has been determined, investors are encouraged to focus on repairs and work required in individual units. By taking note of potential updates, the investor and property-management company can work together to determine which improvements will have the most substantial effect on the asset’s NOI.
Each of these factors can contribute to a smooth takeover and a stronger NOI from the start. The better the research made in the due-diligence phase, the fewer surprises an owner will encounter during and after the takeover process.
2 Hire the right team
The best advice a commercial mortgage broker can give any multifamily investor during a takeover is to always expect the unexpected.
When taking over a recently purchased community, owners likely will encounter issues that were not discovered in the due-diligence phase. These issues typically are related to the internal workings of an apartment community, such as problems with staff, vendors and even the true physical vacancy status of the community.
To make this transition smoother and overcome takeover surprises, your client should build a reliable team. For example, a good community manager often can make the difference between achieving the owner’s goals and objectives in a new multifamily investment or not.
When selecting a property-management company, the most important elements owners should require are integrity and honesty. Owners must be sure that they are receiving clear, concise and fully disclosed information not only on their community’s performance and potential challenges but on the overall market.
Hiring a reliable team can come at a price, however. Make sure your client has reviewed not only the base management fee, but also all fees involved in management of the community, as well. Some property-management companies may add fees for things such as postage, payroll and information technology. These charges add to an owner’s monthly expenses, and sometimes are not thoroughly explained before entering a contract.
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