Moses Kagan on Real Estate

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Sorry, Westlake, I was wrong

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In February of 2012, I wrote a piece confidently predicting that Westlake, the neighborhood roughly south of Silver Lake and Echo Park and west of Downtown, would never gentrify. Here is my piece in all its glory.

To lazy to click the link? Here’s my (flawed) argument in a nutshell:

  • The housing stock is incredibly dense, lacks parking and is rent controlled, making it very difficult to renovate buildings and achieve sufficiently high rents to make the investment pay-off
  • The crime rate remains quite high and, without wholesale change in the apartment buildings that comprise the neighborhood (which ain’t happening; see above), it’s unlikely that will change any time soon

[Side note: The language in the original piece, including the unfortunate use of the phrase "by force", is pretty awful. Needless to say, it predates the explosion over Boyle Heights, when I became a bit more sensitive about my choice of words on this site. I left the original post alone because it seems dishonest to change it in retrospect.]

Now, it turns out that Westlake is starting to see the glimmers of improvement, including some new bars and creative office tenants and also some buildings in the early stages of renovation / revitalization.

Why was I so wrong?

It turns out that proximity to the western edge of Downtown, with its rapidly expanding set of amenities (bars, restaurants, clubs, etc.) and high rents ($2000 for a studio?!), is enough to tempt some more adventurous tenants to jump west across the 110.

It’s early enough that the numbers don’t work for my kind of deals. But, depending on what happens over the next few years Downtown, we may all look back on my 2012 Westlake piece as one of the dumber things I’ve ever written on this blog.

Written by mjkagan

09/15/2014 at 10:11 am

Posted in Development


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Sometimes clients ask me why we’re so focused on Northeast LA (Silver Lake, Echo Park, Highland Park, etc.). After all, LA is a big place and there are plenty of other places to buy apartment buildings. So why the focus on the hipster areas?

Hint: It ain’t because we love asymmetrical haircuts, beards and artisanal pickles.

Regular readers know I would do deals on the moon if the numbers made sense.

The reason we focus on those key areas of NELA is because that’s where the money is!

There are still plenty of owners who have run-down buildings which they stopped maintaining years ago.

When those owners get sick of running slum buildings or pass away and leave them to their children, we have the opportunity to buy them, fix them up (a lot!), and charge rents sufficiently high to make the whole thing worthwhile.

I’m constantly on the lookout for more areas where our model works (using this equation), but for right now, NELA is where it’s at.

Written by mjkagan

09/10/2014 at 10:15 am

Posted in Buying, Development

Do we compete with our brokerage clients?

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In a word, “No”.


Because we’re not interested in buying the properties our brokerage clients want to buy.

Our typical brokerage assignment is to help someone buy:

  • 2-4 units
  • $500k-1MM
  • 20-25% down (so, looking to put out $100-250k in capital)
  • 70-75% LTV mortgage
  • Minimal renovation required
  • Cashflowing (eg priced at 12x GRM or less)

The deal outlined above is perfect for a non-professional investor, who will generate a decent yield with a 30 year fixed mortgage while using a reasonable amount of cash and keeping headaches to a minimum.

But that kind of deal doesn’t work for us, because we can’t use that kind of leverage and we’re willing to go through major hassle in order to generate far above-market returns.

What we want to buy for our funds:

  • 4+ units
  • $500k up to $2-3MM
  • All cash
  • Massive renovation required
  • $200 / sq ft or less
  • Don’t care about the yield (eg willing to pay a functionally unlimited multiple of the rents)

As you can see, the deals we want are complicated and capital-intensive. In short, they are not the kind of deals that our typical clients are equipped to do.

Written by mjkagan

09/09/2014 at 10:35 am

How a fund manager gets paid

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Do you ever wonder how, exactly, Adaptive makes money? Figured I’d break it down for you.

Today, let’s talk about our investment funds. These are discretionary investment vehicles. That means a group of people with capital to deploy commit a certain amount of money (say, $100-250k) to the entity. Then, we, as managers of the entity, take the money committed by all of the investors (typically in the $2-5MM range) and use it to buy, renovate, lease-up and (eventually) sell apartment buildings.

So, how exactly do we, Adaptive, make money from these investment funds? Here’s how:

  • Asset management – Like most money managers, we generally take 1% of the capital committed to the fund as an annual fee. The purpose of this fee is to help offset the cost of running our operation (bookkeeping / accounting / investor relations / acquisitions staff / etc.);
  • Brokerage – If we find the deal, generally Adaptive Realty, Inc. acts as the broker on behalf of the buying entity and therefore collects a 2-3% buy-side commission. Of course, if it’s an off-market deal that comes to us via another broker, that broker takes the commission;
  • Acquisition fee – Whether we broker the deal or not, we typically take a 1.5% acquisition fee to compensate us for the work that goes into finding the deal, negotiating the terms, and undertaking the due diligence necessary to ensure it’s a good fit for the fund;
  • Construction oversight – There is an unbelievable amount of design, purchasing, and construction project management that goes into one of our projects. We therefore charge the fund a construction oversight fee, of 10-15% of the construction budget to off-set the cost to our organization of providing these services; and
  • Property management – For better or worse, we do almost all of our own property management, for which we are paid 5-6% of the annual rents on completed buildings. I almost forgot to add this fee in, because property management is a terrible, loss-making business and neither Jon nor I see a dime of this money.
  • Exit brokerage – When it comes time to sell a deal, we typically act as listing broker under standard industry terms (5-6%), earning ourselves a brokerage commission which we split with the broker representing the buyer.
  • Promote – This is our share of the profits. This comes only after investors have received all their money back and also (usually) a pre-negotiated “preferred” return on their money. The split varies depending on the deal and how high the pref is.

Does the above sound complicated? It is. But we’re providing an incredibly valuable service to investors, one which requires an awful lot of effort and experience, and we obviously need to get paid for it.

Tomorrow, we’ll talk about the brokerage and property management business.

Note: This blog post is not a solicitation for investment or an offer to sell any securities.

Written by mjkagan

09/04/2014 at 4:18 am

Why our infrastructure is falling apart

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The NY Times had an interesting piece over the weekend about LA’s failing infrastructure. It focused, as all these pieces do, on the age of our pipes, sidewalks, etc., plus on CA’s general tax-aversion.

What it left out was any discussion of the role our zoning code plays.

Here’s the deal: If, as a city, you make it difficult to build dense multifamily, you do two things, both of which are awful:

  1. You force people to spread out. This means that you need to maintain more road miles per person, more sewer pipe miles, more water pipe miles, etc. So your costs are higher; and
  2. You limit the value of your land and therefore artificially reduce your tax base. There’s a reason developers want to build more units on every given plot of land… the land is worth more if you can fit more people on it (either via rent or condo sale proceeds). Property taxes (imperfectly, due to Prop 13) reflect the value of the land, so less density equals less tax revenue.

So that’s why we’re in the position we’re in: An expensive to maintain infrastructure with limited revenue to pay for it.

Unfortunately, we can’t go back and change the way LA developed. We’re stuck with, for example, maintaining absurd one lane roads up in the hills, the utilities that service the homes up there, and the fire department required to prevent them from burning down.

But we can change the zoning code, right now, to prevent further sprawl and begin to densify core neighborhoods of the city. Changing the zoning code to allow for much denser development wouldn’t cost anything and would dramatically increase property values in the affected neighborhoods, leading to happy owners and a city with sufficient resources to re-invest in a world-class infrastructure.

Written by mjkagan

09/03/2014 at 10:23 am

Posted in Development

Lyft, Uber and America

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Regular readers know I’m a major fan of ride-sharing companies. They’ve totally changed the way that I, and many other Angelos, get around our city. And, as I’ve written before, I think the changes are sufficiently profound to eventually reshape the built environment here, too.

But today I want to focus on what I regard as a side benefit of using these services: The opportunity to speak with the drivers.

I speak with every driver, because I’m naturally curious. And, so far, particularly on Uber, the drivers tend to be immigrants. They are all studying, learning English, working multiple jobs, and looking out for opportunities to start businesses.

Every time I have one of those conversations, I’m reminded what an amazing country we have. Because we’ve set up a free economy where people can get ahead by working hard, we attract the hustlers from everywhere, the ones who are willing to forsake the places they were born to follow a dream.

Not all of them will succeed; indeed, many will probably end up going back where they came from. But, from among that group of hungry, energetic risk-takers, you know that businesses are getting created, jobs are getting created, and capital is being formed.

I find it almost impossible to be discouraged about the future of our country, no matter our problems. As long as the hustlers choose us, we’re going to be just fine.

Written by mjkagan

09/02/2014 at 10:19 am

Posted in Development

Highland Park gentrification response

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Hat-tip to Curbed for linking to this really fascinating piece on Highland Park gentrification.

Before I get into my problem with the article, I want to congratulate the author on what I think is a fair, reasonable account of the changes taking place in Highland Park.

Now, to the problem. Here’s the money quote:

These [renter] residents have reason to be anxious about what gentrification may bring to Highland Park…[w]hile rising property values allow homeowners to cash out, there’s no economic upside to gentrification for renters, many of whom are likely already stretched financially…”

Can you tell what’s wrong with the above paragraph? Read it again.

Give up? Here’s the problem: It’s like the author has never heard of rent control.

It’s true that Highland Park has a large number of non-rent control apartment buildings plus plenty of single family rentals (which are non-rent control by definition). So there are definitely residents who are getting pushed out by the more affluent tenants moving into the area.

But there are also tons of pre-1978 apartment buildings which are covered by rent control, which limits rent increases for existing tenants to 3% per year. And, because much of HP is covered by a huge Historic Preservation Overlay Zone, most of those buildings can never be torn down, so matter how high market rents get.

What does it mean to be a rent-control tenant in a gentrifying area?

The market rent is the price put by the market on consuming a particular unit in a particular building. The price is determined in part by characteristics intrinsic to the unit (number of bedrooms, baths, condition, etc.). But it is also determined by extrinsic factors, principally how desirable the neighborhood is.

Rents in Highland Park are running up way faster than 3% / year, in large part because the neighborhood is gentrifying (better food, booze, retail, etc.). And legacy tenants get to patronize those new restaurants and coffee shops alongside the newbies.

So, one way (not the only way) to interpret the above facts is this: As a rent control tenant in Highland Park, you’re getting a better and better deal with each passing year (as your rent falls further and further below the market price for your unit).

Written by mjkagan

08/29/2014 at 11:22 am

Posted in Development

The two economies

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If you’re reading this, you probably don’t know about LA’s Other Economy. How do I know? Because you can read English, and the Other Economy is not, for the most part, English-speaking.

What is the Other Economy? It:

  • Comprises mainly immigrants and their American-born children
  • Is conducted in Spanish, Chinese, Tagalog, Khmer, and other languages
  • Is transacted in cash
  • Is offline
  • Has prices that are anywhere from 20-50% lower than those in the mainstream economy

Picture a food truck. If what comes to mind is a new vehicle with cool graphics staffed by hipsters with ironic facial hair, you’re a mainstream economy kind of person. The Other Economy foodtrucks are the original ones: usually a bit more beat-up, with hand-lettered signs, staffed by Latin people (often families), and charging much, much less (even though the food is often much, much better).

Car window broken? You can go to your dealership and pax X. Or you can go up towards Chinatown to the strip of places that specialize in just fixing windows, negotiate in Spanish, transact in cash, and get it done for probably 33% of X.

Need an apartment? All over LA, there are neighborhoods where no apartments get rented on Craigslist. Instead, when there’s a vacancy, the resident manager, who often speaks no English, puts out a sign in his/her native language advertising the vacancy. Unsurprisingly, the rents achieved this tend to be way, way less than what you would probably consider to be market.

One way to think about gentrification is as a process that moves physical assets (apartment buildings) from the Other Economy, where they generate lower returns, to the mainstream economy, where they generate higher returns. The negative side-effect of this process is that the Other Economy shrinks, making life more difficult to the people who live and work in it.

Written by mjkagan

08/22/2014 at 2:11 pm

Posted in Development

Amnesty for illegals (apartments, that is)

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Per the LA Times (and via Curbed): Landlord and tenant groups in LA are uniting around an initiative to allow landlords to legalize non-conforming apartments more easily.

Right now, if the Housing Department catches a landlord with an illegal apartment, here’s what happens:

  • LAHD cites landlord for un-permitted unit, orders her to either get it permitted or vacate it
  • Landlord attempts to permit; discovers that it’s nearly impossible to do (because adding a unit always requires adding parking and adding parking is nearly impossible)
  • Landlord decides to vacate unit
  • Tenant is evicted; receives $8-19k from landlord (ouch), who must also pay to remove the kitchen and bathroom

The net result of the above is that the tenant is out a place to live and the landlord is out a bunch of money and receiving less rent going forward.

You can see why landlords and tenants have an incentive to band together to try to change city policy. And, lo and behold, they’re trying: The idea is to get the city to make it easier for the landlord to bring the unit into compliance so that the tenant can stay.

I’ve permitted a non-conforming unit before and it’s no joke. The problems break down into two categories:

  1. Bringing the unit itself up to code. That means appropriate ingress/egress, windows, fire protection, etc. This is almost always possible to do, so long as there is sufficient money… and the value-add from adding a unit would almost always justify the cost;
  2. Adding the parking. In my case, I was able to squeeze in another parking space by moving a giant electrical panel at the cost of $30k. But, generally, this is impossible, because there’s just not enough space on the lot and digging out subterranean parking would be totally financially infeasible.

So here’s the rub: If the city is going to make it easier to permit non-conforming units, it’s going to have to waive the parking requirements.  And the city has generally been very wary of anything that would reduce parking and therefore anger neighbors.

Have rents got so high that politicians are willing to consider allowing alienating homeowners by allowing landlords to reconfigure existing buildings to add more units? I doubt it. But I hope I’m wrong… because my business would get much, much better if it did!


Written by mjkagan

08/19/2014 at 10:38 am

Posted in Development, How to

What’s wrong with this picture?

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I usually avoid giving design advice on this blog, mostly because my partner Jon is the design expert at Adaptive. I mostly do the numbers.

That said, I thought I’d draw your attention today to a classic error that landlords make when renovating apartments.

Look at this picture:


Can you see what’s wrong?

The owner decided to use tile or some kind of laminate for the dining / kitchen area.

The effect is to make the room feel considerably smaller than it actually is, because the eye is tricked into thinking it’s divided in two.

If, instead, the owner had continued the wood floor all the way to the far wall, the space would feel huge and open.

Why do people choose to do tile dining / kitchen areas? Well, I guess there’s an argument that they hold-up better when water is spilled on them. But tenants these days tend to cook a whole lot less than before.

That said, as between getting (1) higher rents but having to refinish the floors slightly more often; and (2) getting lower rents, I’ll take 1 every time.

Written by mjkagan

08/15/2014 at 5:45 am

Posted in Development