It seemed like conventional wisdom. If an investor acquires a B or C-class property, it is more financially sound to renovate and rent at the highest dollar to recoup costs. However, more and more owners are finding that with increased housing scarcity across the United State and the looming specter of rent control threatening ROI, it may be a better strategy to do minimal renovation for a modest rental increase. That seems to be the stance taken by Bendix Anderson in a recent article for the National Real Estate Investor.
It’s About the Little Things
One of the main points suggested in the article was the extreme lengths that some developers will go to redesign a property. From flashy appliances to popcorn ceiling removal, every renovation made to a value-add property has the potential to translate into higher rents. ““Leave the popcorn ceilings alone,” Avanath Capital Management CEO Daryl Carter told National Real Estate Investor, who adds that removing popcorn could reduce rent by $40 per unit. These costs add up, and as the cost is passed onto the tenants it can result in long-term un-affordable rents.
Knowing Your Competition
In addition to avoiding the removal of some components to keep costs down, Anderson further notes that the structural elements of many Class-C units (including low ceilings and “undesirable floorplans”) can make it harder to compete with A-class properties in the surrounding area. “If you are taking a class-C apartment to a class-A apartment, then you are going to have to compete against the new class-A product,” Daryl Carter notes. Instead of attempting to compete with Class-A inventory Anderson suggests aiming a little lower to Class-B or similar and setting rents accordingly. “When value-add investors renovate an older apartment building, they should plan to charge rents that are considerably lower than the cost to live in a brand-new building.” Anderson comments, “Even if no such building is currently open in the area, a successful repositioning could attract competition.”
Walking A Fine Line
Taking the opportunity to improve an existing value-add property may seem slightly thankless. Investors need to walk a fine line between offering affordable upgrades and establishing a reasonable return on investments. However, taking on this challenge means understanding the affordability needs of potential tenants. As noted by Anderson “Every year, roughly 100,000 apartments fall out of service in the U.S., according to NMHC.” Noting that many of these issues are related to old roofs and other repairs that are often overlooked during value-add improvement. The article concludes with a quote from Greg Willett, chief economist for RealPage Inc. who notes “Without some improvements, a portion of the class-C product base would fall into obsolescence and eventually be torn down.”
The complete article can be found HERE