600+ multifamily investors, lenders, and brokers met in Dallas on October 27th to discuss the latest trends impacting multifamily in Texas at the Multifamily Forum. A question that came up on multiple panels was: "What keeps you up at night?". Below are the top 4 concerns of multifamily owners per the 2015 Marcus and Millichap survey:
1) Real Estate taxes
As values continue to rise due to growth in rents, real estate taxes are a constant worry for owners as tenants do not reimburse for this increased expense like other property types (office, retail, and industrial). In Texas, there is no annual cap on commercial property assessed values so lenders are typically underwriting a minimum of 75% of the purchase price or appraised values in their cash flows. Equity owners might take a more conservative approach and use up to 85% of appraised values. Owners are working with property tax consultants to keep this expense as low as possible because each dollar saved will drop to the NOI.
2) Interest Rates
Interest rates will rise, but the question is when and how fast. A majority of long-term investors have locked in low fixed interest rates on their properties, but value add investors are concerned what impact interest rates could have on their exit cap rates as they plan on selling properties in the next 18-24 months. As the 10 year treasury rises, debt becomes more expensive and investors are either going to underwrite higher cap rates or accept a lower risk premium spread.
3) Operating Expenses
Expense ratios (Expenses/total revenue) are driven by the size and class of the property (Class A=45-50%; Class B=50-60%; Class C=60-65%). These estimated expense ratios are for properties over 75 units with full-time staff. As you drop below 75 units, expense ratios can increase significantly as you lose economies of scale.
Diligent owners are constantly renegotiating better rates on insurance, utility providers and looking for ways of streamlining marketing costs. Many older properties do not have efficient HVAC and appliances so updating these can not only add to the rents you can charge, but can also significantly reduce your utility bill.
4) New Construction
DFW and Houston were #1 & 2 in terms of new multifamily supply delivering this year. DFW has approximately 22,000 units (3% of inventory) and Houston has 20,000 units (3% of inventory). All of these units continue to be absorbed as occupancy continues to increase. An oversupply of new construction will impact Class A rents and possibly Class B rents as projects will offer concessions during lease up to reach stabilized occupancy. Class C owners are not concerned with new supply unless a Class A developer wants to buy their property for the land, which is happening in East Dallas. Class C owners are more concerned with affordability as rents have increased at double the rate of wage growth the past couple years.
As a commercial real estate investor/lender/broker, what other concerns do you have about multifamily in Texas?
A couple other takeaways from the conference:
If you attended the conference, what other trends did you learn about? Feel free to comment or send me a message.
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