Knowing a market’s trends and what contributes value are key in improving occupancy, rents and operations.

Location may be everything in real estate, but condition and demographics are close seconds.

With the difficulty of getting work done because of supply chain disruptions, labor shortages and rising costs of materials and building systems, remodeled apartment communities can attract attention from competitors, which view them as good acquisition targets. Changes also can make them more appealing to the residents who prefer to live in highly ammenitized and updated buildings rather than in those not yet fixed up, unless a lower price point better fits their budgets.

Ground-up construction and the luxury market have attracted attention for offering the latest bells and whistles. But some owners and developers prefer the challenge and upside of buying communities where they can perform an overhaul that takes them from a state of worn to stabilized or stellar to better compete with new deliveries. These owners may also have more options to work on as new construction has slowed, says Al Lord, Founder and CEO of Summit, N.J.-based Lexerd Capital Management. His firm works primarily in Sun Belt markets and has more than 3,000 units. It usually holds on to purchases for three to 10 years.

Whether other owners improve and hold onto properties long term or sell after a few years, these Cinderella-esque transformations may be a significant portion of their company portfolios. That’s the case with San Diego-based Pierce Education Properties, which focuses on an acquisition-to-rehab strategy that may involve common areas, units or both. “We can earn a good ROI by acquiring and making improvements,” says Frederick W. Pierce IV, President and CEO, whose company owns 14 student apartment properties in six states and generally holds on to them for three to five years. “The brick and mortar are typically fine at existing assets, but new properties in the market are like a shiny new penny that provides incentive to upgrade finishes at older properties,” he says.

Strategies vary

Following this strategy can be accretive or defensive, depending on competition in the market, Pierce says. “If you make capital expenditures, you can typically adjust rents upward to gain more income for accretive value,” he says. “Alternatively, capital expenditures at other properties can allow you to pick up occupancy and improve operations in what is a defensive strategy.”  

Even simple fixes such as new carpet, painting, changing hardware and adding LED lighting can lead to $50 to $124 monthly increases per unit or more, says Cynthia Meister, Vice President, Investment Sales for Northmarq. But the increase per unit can be higher if more substantial renovations are undertaken and a property is brought up to just below a Class A level, says Meister, who heads her company’s New Mexico office. Lord says such changes have allowed his company to post monthly increases of 30% or higher returns on the additional capital spent on improvements on a consistent basis with its rehab programs.

Because of the current economic climate, possibility of a recession and rising insurance costs, many owners are taking a more conservative approach and doing more cleaning and small improvements than complete rehabilitations, Meister says. General contractor Justin Wood, Senior Project Manager of Chicago-based Motus Construction, which focuses on multifamily rehabs, agrees that increased costs are influencing changes in what’s being done.

“Instead of a full-on gut rehab, we may be asked to do more of a cosmetic overhaul,” he says. “And even though most of the buildings we work on may be 100-plus years old and need mechanical upgrades, we’re seeing that owners who find money’s tighter may cut the scope of work and focus more on what’s visible. They’re also holding onto properties longer and realizing thinner profits,” he says.

However, Wood urges owners and developers not to take financial shortcuts, especially when work involves deferred maintenance. “With everything costing more than in the past, many owners aren’t budgeting properly. With one 12-unit building, the owners were off 25 to 30 percent in their estimate,” he says.

Another advantage of tackling rehabs the right way is that those who do are learning that repurposing what already exists is highly sustainable, Wood says, adding. “If you take care of buildings and avoid water and weather damage, good masonry structures can last for another hundred years or longer.” 

Here’s more advice from those pursuing this strategy:

1. What do buyers want? Location and condition rank high.

Location factors in a highly significant way. What a good location means is different for many owners, managers and residents. For Pierce’s company, which focuses on purpose-built student housing (PBSH), that may mean being within walking or driving distance of a campus, and being sure the area is safe and secure, he says.

Buildings that haven’t been kept up, possibly because of deferred maintenance, make appealing purchases for some who know how to fix them, says David Lynd, CEO of San Antonio-based The Lynd Group, which owns 56 properties in seven states and typically holds acquisitions for three to five years. “We’ll look at income and expenses and sometimes they are abnormally high, which we can lower by improving operating expenses,” he says. “For example, an owner may pay for a large maintenance staff because they deferred improvements, but if they spent money to do them, they could probably cut labor costs and improve net operating income.” Another example is an older HVAC system that may work inefficiently, and cost more than a new, greener model, Lynd says.

Michael H. Zaransky, Founder and Managing Principal of Northbrook,
Ill.-based MZ Capital Partners, says he also likes the challenge of buying and stabilizing buildings rather than purchasing new ones, which means costs are at the high end of the scale. His company now works primarily in suburban Chicago and Knoxville, Tenn., and generally holds properties for five to 10 years. Top on his wish list of what he looks for in buying a building to rehab are dated kitchens and bathrooms in need of upgrades.

2. Which rehabs promise the best investment returns? Think gyms, kitchens, bathrooms.

After the priority of making life and safety improvements, followed by fixing physical deficiencies, many rehabs produce a strong ROI because they extend residents’ living and curb appeal experiences. But different markets may require different approaches. “What works in Albuquerque isn’t the same as what might work in Phoenix,” Meister says. In Phoenix, in-migration, undersupplied inventory and a healthy job market have led to a shortage of units, so there’s room for greater improvement with existing units, says Jesse Hudson, Managing Director at Northmarq’s Phoenix office. Lord has found that residents in an Augusta, Ga., property near the site of the Masters Tournament wanted an indoor golf driving range, while those in Texas wanted an outdoor movie screen.

In some markets, having multiple choices with different architectural styles may cast a wider net for prospective residents and lead to better numbers. Pierce Education Properties took this tact in San Diego, directing architects to use different architectural styles for two PBSH buildings near San Diego State University, says KrisAnn Kizer, Vice President for Leasing and Marketing. It chose a contemporary style for its Topaz building in an urban, mixed-use location and a more traditional style for its College View building on a residential block, she says. The firm has also found that different geographic markets have different preferences. The style for architecture and furnishings in California buildings may not be popular in the Midwest or Southeast, she says.

3. How do companies deliver results? All at once, or in phases?

Companies take different approaches to get renovations done. Some prefer to make improvements all at once and enjoy an economy of scale, Lord says. In other circumstances, renovations are phased-in to allow the market to affirm the rent it supports for the upgraded improvement, Pierce says. Some do all amenities upfront for a big bang for their buck, then redo units, or even redo units in phases to test how well changes are received, Lord says. Not disrupting residents’ lives and continuing to collect rent are additional considerations in planning. Pierce’s company finds that it can make changes in apartments within a few days so residents can remain in their units, he says.  

Bonus insight: Amenities

A big lesson learned during the pandemic was that even well-planned rehab choices may not work long term because of unforeseen circumstances that arise and how residents’ interests change, even in non-COVID times. Being able to revise, whether in a main building or clubhouse, became a guiding mantra, with some spaces completely repurposed. For example, working out in gyms called for greater social distancing in rooms or around equipment; more surface parking lots and garages had to be adapted to accommodate electric vehicle charging stations; package or mail rooms needed to be added or enlarged for the surge in deliveries; and pet parks also needed to be added or enlarged for all the dogs adopted. Some changes undertaken during the pandemic are already being redone as habits changed. Case in point: Individual work pods are giving way to bigger, collaborative workstations.

In other cases, features were eliminated or scaled back, with the result of fewer indoor movie theaters, business centers, communal kitchens and bowling alleys, the latter often creating an initial “wow” but rarely generating use, Zaransky says. Some amenities also required more of a refresh rather than gut, such as pools with dated tiles, gyms that weren’t flexible for different activities and didn’t have upgraded equipment so residents could give up gym memberships, outdoor areas without fire pits, grill stations or grass for yoga mats and underutilized indoor nooks to fit coffee bars. Among the biggest priorities in making spaces work involves the thoughtful selection of appropriate, flexible furnishings that enhance and contribute to increased social interactions, says Philip Renzi, Associate at The Architectural Team (TAT) outside Boston.  

Bonus insight: Units

Because renters’ tastes and budgets vary so much, some prefer a basic apartment with few bells and whistles and the lowest price possible, while others want the latest features and are willing to pay, Lord says. His company has found the majority favor a middle ground, the niche his company usually targets by upgrading Class B and C properties. Lynd strives for what he calls the “second-mover advantage,” or upgrading after competitors have opened buildings nearby, so his company knows what’s needed to compete and surpass them. It may be a kitchen with a long, linear counter for everyone to work or eat at, as fewer apartments have breakfast nooks and dining rooms. Or, it could be building in a desk, a newer trend after years of not having them after they were banished from most kitchens, Pierce says.

“If a comprehensive remodel and upgrade is in order, open layouts remain highly popular, Renzi says. “The ability to open a kitchen that is confined increases curb appeal and creates a space that appears larger than it actually is. This pays big dividends on the owner’s return on investment,” Renzi says.

Other popular changes include new bathrooms, smart home features and efficient appliances. To bring spaces up to par may also involve all or a mix of the following: Tearing out carpet and laying faux wood or luxury vinyl tile that’s easier to maintain, clean and is hypoallergenic; upgrading appliances from old white and black to stainless steel and newer models; replacing or refacing kitchen and bathroom cabinets and adding newer hardware; adding in bigger kitchen pantries if room permits; replacing laminate or dated stone countertops to fresher granites and quartzes; changing backsplashes to what’s newer; offering in-unit washer-dryers if space; removing tubs if there’s a second bathroom with shower and adding a second sink when a bathroom vanity has room. Many offer a building app with access to a portal for residents to control their doors, heat, lights and pay bills and request maintenance services.

Case Study: The Lynd Group

Despite all the decisions, rehabbing can bring worthwhile financial rewards. David Lynd’s company, The Lynd Group, found that the case after pumping in $4 million to its Village at Lionstone’s 288 garden-style apartments in Colorado Springs, Colo. After fixing up the units, which included renovating 200 of the kitchens with its signature chef’s kitchen installation of stainless steel appliance upgrades, white quartz countertops, cabinet modifications, vinyl flooring, backsplash tile and new light and plumbing fixtures. After holding the property for two years, it sold it for $67.5 million after purchasing it for $46.75 million at the height of the pandemic. The property was built in 1984 with one- and two-bedroom units. “We knew it had become a hot market for apartments with little construction in the pipeline,” Lynd says. The company increased rents $599 a month and improved the clubhouse by adding a package room, dog park and bicycle room and upgrading the pool with fire pit and pergola.

 

Barbara Ballinger is a frequent contributor to units.