Ground up development returns
I work for a CRE Investment group focused solely on the boroughs of NYC. Given the run up in land valuations, I am curious what the competition expects/underwrites to for investment returns for the following high level deal types:
1) Ground up development of a luxury multifamily building with great retail in the base in Downtown Brooklyn
2) Ground up development of an 80/20 rental building in the outskirts of Williamsburg
3) Ground up development of a class A office building in Chelsea
I would like to understand the return requirements for both short term investors (i.e. IRR and multiple), and long term investors (stabilized cash on cash post refi of construction loan)
Thanks, look forward to the discussion and will give my own thoughts once I hear from
others
Is the office building spec?
bump
Bump what? We need a lot more information. A new construction/luxury high-rise/mid-rise rental/multifamily or office will reap what a 3.0-4% cap today if traded in a prime local in NYC -- Brooklyn/Manhattan? Multifamily will be on the low end of that spectrum while office will be on the high end.
I wouldn't break ground or purchase spec demo/land without a 12-15% IRR projected for the GP but that's me and in order to achieve that you'll have to project that cap rates will still be around 3.5-4.5 upon sale in your residual year (way down the line). There is too much risk in development and the lease up happens too far down the road in what I foresee to be a volatile environment. What would the pref have to be for a ground up development for the LP? 10%-12%? and you'd have to have fanatic track record/experience to even get a meeting for the money.
Anyone know what Junius or MS's opportunistic funds are offering for pref and split?
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Levered but I'm saying this because we are talking NYC, a different animal. I see that many multifamily opportunity funds have target returns of 16-22% with 20% promote over 12% (ish) IRR 30% promote over 18% (ish) IRR. Its so hard to give a "I wouldn't do this project without an xxx IRR" but I threw it out anyways. If anything, I'm probably on the low side but really not by much. Ground up in this type of out of control market is hard to conceptualize/swallow and you also have so many moving parts with zoning/tax abatement and the city. Makes me think that 14% isn't even worth it now that I'm typing this.
a yield on cost that is 150 basis points over your projected exit cap. arguably a better metric for a development project as it scales your stabilized job relative to costs, and compares developments apples to apples regardless of hundreds of complicating factors like project duration, lease up schedules, etc.
impossible to determine IRR like others have mentioned without knowing whether prelease/spec, quality of building for construction costs, risk factors specific to the site, etc. Schedule by itself can dilute the IRR completely if this project is 5+ years.
We target 6%+ cap to cost right now for new ground up
6 cap against projected NOI = Max you want to be in to a deal on all costs?
Yes, we look to be 6%+ cap to total project costs. If the property's projected NOI is $1,000,000, we want total project costs to be below $16.6M. This is for a typical infill ground up MF construction.
I'm in San Diego, so I find that good to know. I don't do a lot of ground up. But I like to keep my eye on these things. After 15yrs in brokerage I've been talking with some institutions around SoCal to come work for them. SD, Irvine, LA. Most are development/Acq roles.
Agreed on Trended ROC = 125 - 150 bps > exit cap and typically use 75 bps to 100 bps over today's cap rate for the exit cap.
I would say that IRR basis will be driven on the bucket of capital you have. For our fund I would expect at least a 20%+ deal level IRR based on LP equity UW which is typically more conservative than what the developer will initially present to you.
Thanks, this is helpful. Pretty much spot on how we would look at it. To hear that a 15% to the GP is acceptable on ground up is alarming, and explains why everything in the city is so expensive. My understanding is that the following return requirements for the following deal types should theoretically be:
To clarify I am stating deal level levered IRR's. Obviously all deals are different, but generally I think the above is accurate.
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