Update on 830-832 N Beaudry

Today, we’re putting the finishing touches on 830-832 Beaudry, a 7 unit building we renovated through Adaptive Realty Fund 3.

This project ran into some hurdles and was delayed approximately three months past its scheduled completion date. Some of the delay was unavoidable, but most of it was the contractor failing to supply sufficient labor because he was swamped on other projects. That’s on us, because we’re overseeing the construction.

The cost to us of this delay is not trivial. We ran up an additional $10k in interest on our bridge loan and probably $5k in misc. holding costs; these costs are born by the fund. But the investors earned an additional ~$30k in pref; that’s money the deal will have to pay out before we get our full ownership stake in the deal.

The good news is that the building came out great. We’ve got beautifully renovated three bed units in Echo Park with skyline views of Downtown starting at $2700 / month. That’s a very reasonable price and I think the units will go quickly.

If we hit our rent targets for the building (likely, but certainly not a sure thing!), we’ll be in a position to refi out the bridge loan and all of the capital invested by the fund to date, while keeping the loan-to-value to a reasonable 60-65%. That’s a win, no matter how you slice it.

Wish us luck on the rent-up, and I’ll keep you posted.

How Highland Park got so many non-rent control buildings

Met with a guy yesterday who participated in the Highland Park building boom of the 1980s and early 1990s.

Apparently deals worked like this: You would buy a piece of land for cash. Next, you would get the bank to appraise the land for a lot more than you paid for it. Then, the bank would do a 75% loan-to-cost construction loan to let you build an apartment building.

Seems reasonable, right?

Wrong. Because the bank would put such a high value on the land and construction was so cheap, “75%” was really 110% of your total project cost, meaning you could get the cash you paid for the land back out. So, you were building the whole thing with debt and you’d have your cash back to buy another piece of land.

Rinse. Repeat.

Think about what that meant for him. Because he didn’t have any of his own money in the deals, there was no limit on the number of buildings he could build. And he took advantage, building three buildings per year for a while.

And this guy wasn’t the only one; there was a whole group of builders doing pretty much the same thing.

Eventually, the neighborhood got upset about the pace of construction, the whole area was down-zoned and an HPOZ was created. By then, this guy and his competitors had created large portfolios of non-rent control apartment buildings in an area where further construction was basically halted.

You can imagine how they’ve done over the past 3-5 years as rents in the neighborhood have gone crazy. To say that I admire their achievement would be a major understatement.

How to think about assemblage

When you’re in a hot market, every second thing you get from brokers is a development opportunity. That’s generally code for “over-price land”.

And I’ll tell you what your first impulse is: To see if you can maybe buy the land on either side and have that make the project work. (That’s called “assemblage”.)

But this won’t, and here’s why:

Buying land when it’s not for sale is almost never cheap. Sure, every once in a blue moon, you run into someone who really doesn’t know what their property is worth. But, mostly, you find yourself having to make a godfather offer to turn a holder into a seller.

And, if you start out with an overpriced piece of land (the one advertised as the “development opportunity”) and you combine it with the one you got by making a godfather offer, the chances are that what you have is an over-priced assemblage that still doesn’t work.

You know what works? Starting with a good deal.

Then, you can go add decent or even over-priced pieces around it and the good one brings your average cost across the whole thing down to a reasonable number. So, you end up with a bigger over-all deal where the numbers still work.

How to handle weather-related construction delays

El Nino is finally here and we’re pretty well prepared, at least with respect to the existing portfolio.

But, unsurprisingly, construction workers generally don’t love working in the rain.

And that confronts us with an irritating dilemma. We can:

  1. Suck up the resulting construction delays; or
  2. Bonus the workers (either directly or via their employing GCs) to work in the rain

On the face of it, bonusing the workers is annoying… it’s additional cash out the door, increasing your construction budget.

However, it’s almost always the better option. Why?

Because each project represents an enormous amount of “dead” capital until it’s leased back up.

That cost is born in either or both of the following ways:

  1. If there’s a bridge loan, then delayed construction results in more interest paid; and
  2. If it’s all cash, then the delay reduces the investors’ IRR, which, because of the pref we pay to investors, has the effect of making the project less profitable for us, as well

So, it’s bonus time for a bunch of construction workers. And we’re more thankful than ever for the normally-amazing SoCal climate, even though it’s vexing us right now.