In recent weeks, we have walked through the ideal criteria for a multifamily market, as well as the attributes of the most desirable submarkets.
But even after you have narrowed your search to the most ideal location, you need to understand the different types of apartment projects you could invest in.
Not all apartment investments are created equal.
It is imperative you understand the risk profile of a multifamily investment. From unit count to renter profile to the age of the asset – there are several aspects of an apartment complex you need to be aware of when investing your hard-earned dollars.
Doing so will put you in a position to avoid costly mistakes and enjoy steady cash flow and stable appreciation for a decade or more.
Let’s discuss what makes the ideal apartment project for 37th Parallel.
Any project below 75 doors will feel market ebbs and flows more severely than a larger project. 5 sudden vacancies in a 50 unit building will have a much larger impact to cash flow and appreciation than in a 100 unit building.
A complex with more than 75 doors can also afford a dedicated property management and maintenance staff while maintaining an acceptable operational expense ratio.
Apartments built before 1980 might have an attractive price point, but they will likely have environmental concerns that should give any investor second thoughts.
The increased likelihood of lead paint and asbestos in properties built before 1980 will make any repairs more costly and will drive up operational expenses. This increased expense will hurt cash flow and appreciation.
Projects that are 8 years or younger present their own risks. Theses are the most expensive apartments on the market. While they will have lower operational expenses than older properties, the entry price will limit cash yield for the first 5–10 years.
Newer projects are more sensitive to economic conditions. Increases in market vacancy, reduced job growth, lower income growth, etc…will all impact a new property more severely than a stable middle-aged asset.
We prefer apartment projects that are 10–25 years old. These assets have steady occupancy, reasonable operational expenses, the greatest income growth range and provide you the most stability.
For our preferred asset grade, the most important tenant profile components are income verification, criminal background check, credit verification and employer. In most cases we want the tenant’s income to be more than 3x their rent with no felonies and a credit score between 500 and 700. We verify all of these components as part of the lease audit during due diligence.
The majority of the U.S. population fits within the three criteria noted above. This is another reason we prefer 10–25 year old projects.
We pay special attention to the collection rate and late fees as possible indicators of a poor tenant mix, even before we do the lease audit.
Even when the project meets our size, age and renter profile standards, we also consider the style of the apartment complex.
Garden style apartments generally have outdoor access to all units and a shared exterior common area that is landscaped and attractive. These projects have 1, 2 and 3 bedroom apartments and also have features like a pool, tennis courts and picnic areas.
While high-rise, urban or town-home style projects can be viable investments, we have found garden style apartments to be the most desirable and cost effective to operate. The low operational expenses keep margins up and provide you with a more stable asset.
The blend of 1, 2 and 3 bedroom apartments will materially impact your multifamily investment’s performance.
2 bedroom apartments are typically the most desirable apartment type. So, our preferred multifamily project will have a 60–70% 2 bedroom apartment ratio.
Some apartment complexes might have a higher ratio of 1 bedroom units. Submarket analysis will tell you if there are unique neighborhood characteristics (e.g., a nearby university) that will keep these apartments occupied.
3 bedroom apartments offer the highest rents in your complex, but can be the most difficult to rent in tight economic times. An apartment complex with a high blend of 3 bedroom units will have more volatile occupancy numbers compared to a property with mostly 2 bedroom apartments.