To obtain the best possible results when investing in multifamily, it is imperative that the underwriting process is as comprehensive as possible. Some of the key factors that should be considered are location (state and city), local population trends, jobs and income demographics, regulatory environment, and future growth prospects.
There are reams of data that show multifarious aspects that should go into multifamily underwriting for a go/no-go decision. Unfortunately, available data is not necessarily cut and dry. There is science in the art and art in the science of using available data to underwrite a project.
Experts point to important factors that should be considered when making a decision. Through the experience and success of putting together an almost $600 million portfolio of multifamily, I can indicate some generalities and some specifics that investors should look for prior to making a decision.
Choosing a state to invest in is very important. This general area can be approached from a couple of directions — first, is the regulatory and legal environment in the state business friendly? And second, are there potential future upheavals in the state's politics?
The regulatory and legal environment does not have a direct causative effect on a decision to invest in multifamily. However, it is indicative of the growth strategy of a state. If the state encourages business growth through its policies, job growth will follow. Job growth attracts people to the state, leading to the need for housing.
The second approach indicates possible upheavals in the future. An open mind and eye should be kept on this possibility. While current investments may or may not be affected, future investments may have to be underwritten from a different perspective. We currently think that states showing the correct mix of regulatory and legal outlooks are Texas, Florida, Georgia, North Carolina, and South Carolina.
Cities and Suburbs
Cities and suburbs have a patchwork of regulations regarding multifamily. Careful consideration should be given to this when making an investment decision. For example, some cities or suburbs have special taxes that are levied to pay for schools. While this could be a burden on a multifamily property, the positive side of the coin is that schools nearby are magnets for parents. This may offset the tax.
Currently, our focus is on suburbs. Many good jobs are moving to the suburbs and a good understanding of businesses in the area and potential new businesses moving into the area is essential. Some cities make policies that are attractive for old-school businesses (brick and mortar), while others try to attract new-school businesses (e-commerce), and some, a combination of both. High-paying, stable jobs and creating businesses such as healthcare facilities are lodestones. These jobs are not only high-paying but also tend to be stable during economic downturns.
Once we have decided on a state and city, we pay particular attention to job demographics vis-à-vis the location of the multifamily property. Some of the factors we consider are:
- Are there major employers within a 10-mile radius by local roads, or a 20-mile radius if the multifamily property is close to a freeway? Experience has taught us that these two driving distance metrics are good rules of thumb when researching opportunities. These are heuristic in nature, but experience has shown us they are enough to get us into the infield.
- Employment by category. This metric gives a strong indication of the stability of jobs. Some types of jobs are much more stable than others. For example, healthcare and healthcare-related jobs are recession-proof, regardless of the state of the economy. By contrast, jobs in the construction industry are very dependent on the state of the economy. By careful consideration of the employers in the vicinity, and researching their long-term plans and trends, it is possible to get a feel for the potential of a multifamily project.
- Average annual income. This can be tricky. If income levels are very high, most such earners are candidates for a home purchase. If income levels are low, renters may have difficulty paying rent. The middle range of family income is usually the sweet spot, and we have found this to be in the range of $60K to $100K. Adjustments to this range have to be made for local conditions.
If a multifamily property is located in a highly reputed school district, it is a major selling point to potential renters. A National Association of Realtors study found that 26% of all home buyers considered the quality of school districts when purchasing homes. It is expected that a similar trend will be seen for multifamily renters.
We continue to investigate many multifamily projects in the aforementioned states. The market is currently very strong.
About the Author:
Veena Jetti is the founding partner of Vive Funds, a unique commercial real estate firm that specializes in curating conservative opportunities for investors.