Underwriting Non-Job Multi Family Deals

Context

2nd year VP/director level at a major NYC REPE backed by Asian sovereign wealth funds. I have spent the last 3-5 of my career at the firm underwriting capital improvements in existing industrial/office assets and some exposure to multifamily acquisitions. The exposure to multi acquisitions has primarily been major institutional deals with underwriting assumptions vetted by the most expensive construction firms out there. 


Goal

Having worked for 10+ years, I'm looking to allocate capital to a light or heavy value add deal in a fast growing neighborhood here in NYC. This is outside the context of my job. My job is great from an institutional perspective, but a very different ballgame relative to putting my personal capital to work. 

Target Deal

  • $5M under total acquisition and reno project cost

  • Transit oriented  

  • In demand but not over the top neighborhood (perhaps south Harlem or certain part of queens/Brooklyn..not TriBeca)


Challenge

Any deals looks good on a spreadsheet and I've become highly proficient at underwriting at this point in my career. What's challenging is developing a confident take on what OpEx/CapEx will be. Underwriting rent, debt, anything aside from OpEx/CapEx is very straightforward. 

What I'm getting at is a scenario I've run into multiple times where a broker tries to sell me a newly renovated multi asset but how would I possibly know what to correctly underwrite for capex/OpEx? Not going to naively take the broker's T12 and grow it by CPI


The WSO Ask

Who on here has done deals in NYC within those parameters? I am eager and would greatly appreciate you opining on my post


*How did you size up OpEx/Capex?

*How did you stress test different scenarios?

*How'd you source the deals 

*Any home runs?


Thanks in advance. 

 

Navigating the complexities of multifamily investments in NYC, especially when venturing into personal capital allocation, requires a nuanced approach beyond the standard institutional methodologies you're accustomed to. Here's a breakdown based on insights from the WSO community that could guide you through this process:

Sizing Up OpEx/CapEx

  1. Historical Analysis: Start by obtaining trailing expenses for the property. This gives you a clearer picture than relying solely on a broker's T12. Historical capex, particularly over the last three years, can reveal patterns and potential future needs.

  2. Property Management Insights: Engage with a local property management firm. They can provide rent and expense comps, helping you understand if the property is operating in line with the market. Their expertise can also forecast potential capex requirements, like boiler or roof replacements.

  3. Professional Consultations: Consider a free walkthrough by a home inspector or specific contractors (e.g., boiler maintenance, roofing) who can estimate the lifespan and upcoming costs of major components. This hands-on approach can offer a more accurate estimation of OpEx/CapEx.

Stress Testing Scenarios

  1. Variable Analysis: Adjust key variables such as vacancy rates, rent growth, and major expense spikes. This helps in understanding the resilience of your investment under different market conditions.

  2. CapEx Surprises: Factor in unexpected CapEx requirements by building a contingency buffer into your financial model. This is crucial for older properties where surprises are more likely.

Sourcing Deals

  1. Networking: Leverage your professional network. Contacts within the industry often know about off-market or upcoming deals before they hit the mainstream.

  2. Specialized Brokers: Work with brokers who specialize in the type of multifamily properties you're targeting. Their niche focus can provide access to deals that align with your investment criteria.

  3. Foreclosure and REO Listings: While these can be more complex and competitive, they sometimes offer below-market prices that justify the additional risk and effort.

Home Runs

  1. Value-Add Opportunities: Look for properties with clear value-add potential through renovations, operational improvements, or repositioning in the market.

  2. Emerging Neighborhoods: Fast-growing neighborhoods, like certain areas of South Harlem or specific parts of Queens/Brooklyn, can offer growth potential. These areas might not yet be over-saturated and could provide a good balance of risk and reward.

  3. Due Diligence: The key to a home run is thorough due diligence. Ensuring the property's financials, physical condition, and market position align with your investment goals can mitigate risks and uncover hidden opportunities.

Remember, while the allure of a newly renovated asset is strong, the devil is in the details—especially with OpEx/CapEx. Your institutional background gives you a solid foundation, but applying these tailored strategies can enhance your success in the personal investment arena.

Sources: Lunch & Learn -Ins and Outs of Multifamily, What is PROPER underwriting process like for development projects, https://www.wallstreetoasis.com/forum/real-estate/looking-at-my-first-investment-property-in-nyc-any-advice?customgpt=1, Q&A - Infrastructure PE & IBD, Multi Family Investing - New York City

I'm an AI bot trained on the most helpful WSO content across 17+ years.
 

Build relationships with property managers for the asset type you are trying to buy. Call the property manager when underwriting and ask them to review the budget or put one together for you. PMs do this regularly.
 

Also - working in the lower middle market is just a different ballgame. Ask the broker for deferred maintenance. If they say there is none - great - underwrite none. When you find it in diligence, retrade them. You may have higher dead deal costs with this method but you have good grounds for a retrade. Also - be careful with all the regulation in NYc. Specifically make sure you’re up to speed on local law 97 for emissions (which fines begin this year). 

 
Most Helpful

I'm not in NYC, but I am in a major market similar to NYC and I operate in the same price range that you are targeting and I assume similar unit count (sub-10, maybe even sub-6?). So I'll provide you with my process.

How did you size up OpEx/Capex?

At this point since we've done this a lot, I have a pretty good idea of OpEx/Capex, esp capex since we are GC's ourselves, but I agree it is tough for someone without previous deals to fall back on.

For OpEx, I would treat it as though you already own the building. So if you owned a 6 unit building and needed insurance, you would just reach out to an insurance agent and get a couple quotes. Similarly for property management and any other 3rd party services (if there is an elevator that needs to be serviced every year, call an elevator servicing company for a quote). As for RE Taxes, you should be able to calculate this by looking up the mill rate and assessed value of the property, which should be public. Similarly, the water/sewer bills may be public, but if they are not, then you could use your own water/sewer bill as an estimate and adjust for number of people or if you rent and are not responsible for the water/sewer bill, perhaps you have some friends who own a condo and you could use their figures as an approximation (similarly for gas/electric). Then compare your numbers to the OM and see if something feels off on either the OM or your projections

Capex is trickier and honestly, since you are inexperienced, I highly advise starting with a light value add deal (mainly a cosmetic renovation). Once you get into heavy value add and start opening walls, you might be opening a can of worms since you don't know what's behind those walls. For a light renovation (upgrade kitchen, bathrooms, repaint, re-sand/poly floors), you could probably put together a reasonable budget on your own. For a kitchen, just go to home depot's website and look up how much all the appliances will cost and for cabinets go to a local home depot store and sketch out the kitchen of one of your units with dimensions and get an estimate. For kitchen flooring or bathroom tiles, measure out or estimate the amount of square footage that you need flooring for. So for example if your kitchen is 10'x10', take out the dimensions of the appliances, countertops, cabinets,etc...) then look up on home depot the cost of LVT per SF (or whatever flooring you want to use) and that's how much flooring you will need. Similar can be said for bathroom tiling/backsplashes and just look up the price of vanities that you want to install, tubs, showers, etc...). Now at least you will have an idea of how much materials will cost the GC, then the other component is labor. If a plumber needs to come in to connect the appliances, new toilet, etc.. you could estimate how many hours the total job will take and multiple by some $/hr rate (perhaps $50/hr?). Alternatively, you could call up some of the trades ie plumber/electrician/HVAC and tell them what you are trying to do (cosmetic renovation and provide them with # of kitchens/bathrooms) and they should be able to tell you roughly how much it will cost. I'm sure many have recent jobs they've done that they can tell you about. For a deep value add you would def need to speak to the trades to get an idea and they should have previous jobs to give to you as a reference. For example, recently I was looking at a property that had a lot of ledge that would need to be removed. I have no idea how much that would cost, so I called up a contractor that removes ledge. He told me about previous jobs and gave me the dimensions of how much ledge there was and how much it cost. From there I estimated how much ledge I had to back into a price. I estimated about $75k-$100k and then sensitized it to $150k. After you calculate a total cost for materials and labor, then tack on 20%-30% for the GC's cost.  I know this is a lot of effort and research, but it will def help you in the long run and make your underwriting faster for future opportunities since you will already have assumptions to plug in. Furthermore, it will protect you against GC's trying to price gouge you and also allow for honest GC's to give you a more accurate quote if you know the lingo and exactly what you want.

*How did you stress test different scenarios?

Not sure if you had a more specific question, but I just increase my construction cost by 10%-25%, decrease my sale price/rent price to the lower end of what comps show, and extend the renovation timeline out by ~3-6months.

*How'd you source the deals 

Mostly on market, i've done 1 off.

*Any home runs?

Depends on who you ask, but in my opinion, yes. A couple

Last word of advice, I know this may sound obvious, but the most important part of your entire plan is your profit margin/margin of safety, especially since your are inexperienced. Many people think that since it is their first time, it is okay to make less and have a smaller profit margin. The opposite is actually true. The more inexperienced you are, the larger cushion you need to absorb mistakes or oversights. If your gut feeling is that "this project seems okay, but might be a bit of a stretch," then you should pass. When you look at a deal and you think to yourself "damn, am I missing something? How is no one else going for this? It's too good to be true," then that is the deal you should go for (just make sure you didnt miss anything and that it is not too good to be true). You need to have conviction.

 

For opex, since this is a different scale than what you've been exposed to, you need to either work with a property manager you have a relationship with (or if you're planning to hire one to operate the property, contact a few and get them to estimate costs as a means of winning business), or you need to find as many CIMs for similar properties in the city as possible and get comfortable with comps.

Capex is a different beast entirely - obviously get a BCA done to understand the maintenance capex needs, but from a heavy value add perspective i.e. remodeling units your best bet again is starting to reach out to contractors you want to work with if you don't already have a relationship. You'll want someone with experience in this type of project. Discuss with them your business plan, types of finishes you want, etc. and they should be able to give you a good ballpark price on a per unit basis (ask them to be conservative with the expectation that their final bid would come in lower :))

 

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