With Atlanta’s recent growth in population and workforce, the city has all the attributes of a strong multifamily market. Last year saw peaks in all major metrics: occupancy, absorption and rent. With no end in sight for either trend, developers and investors have focused on urban submarkets — leaving a dearth of inventory in the suburbs and looming questions. Can Atlanta continue to provide affordable communities for its growing middle class or is a housing shortage imminent?
A Balancing Act
Development has always been a balancing act between the availability of land/zoning, construction costs and the rents a new property can demand. In recent years, almost all new apartment construction has been in high density “urban core” locations. Today, urban locations have matured and are commanding the highest rents in the market due to fundamental changes in perceptions of urban living.
Bill Shippen, ARA Newmark
Steep rents help offset high construction costs and developers often find more receptive audiences during their zoning hearings in urban areas. While there are pockets of new development in suburban “core” markets, the low levels of activity in the last 10 years don’t compare to Atlanta’s past. For this reason alone, expect to see a long period of rental increases in the suburban apartment markets.
Not in My Backyard
Compounding the difficulty for new suburban development is the reluctance of smaller municipalities to zone new apartment construction. They cite traffic, degradation of school systems and an increase in municipal service calls as major concerns. Their concerns are completely understandable and are defensible goals of a zoning plan, but they do little to ease the pressure on middle-market renters.
The Rise of the Renovation
As the market tightens, renters are realizing that the days of finding a great deal on an apartment are over. Savvy investors and operators are repositioning older properties through modest to extreme renovations. The vast majority of renters no longer look for the “exceptional” property but rather one that is “acceptable” to their tastes and budget.
Common Area vs. Full Scale
“Value-add” is hardly a new concept. What is new is the programmatic renovation strategies that investors are using across their portfolios. Two of the most widespread and successful strategies are the common area renovation and the full scale renovation.
The common area renovation is a shorter-hold strategy in which an investor updates all of the common areas and the exterior of the buildings. These improvements do not directly drive rent but they do increase the curb appeal and set the stage for the next investor to employ their interior renovation plan, which immediately generates higher rents.
The full renovation adds the interior living spaces to the common area renovation. The question for the investor becomes how deep of a renovation to perform. If the goal is to sell the property in a short period of time, the investor may opt to perform a simple cosmetic renovation. These improvements increase market rents and create a positive income trend, however, the rental rate lift can diminish over time.
If the investor plans to hold the property indefinitely, a deeper renovation that includes replacement of the mechanical systems and installation of higher-end finishes is an excellent choice. The benefit of performing a deeper renovation is that an owner will get an immediate lift in rents that compounds over many lease cycles.
An added feature of the deeper renovation is the considerable expense savings due to diminished service calls and turn costs. The initial investment of the deeper renovation is considerable, but the gains in income and reduced expenses make this option very attractive to long term investors.
Affordability
Everything in the market is in the landlord’s favor. Saving a major economic calamity or a fundamental shift in United States housing policy, the only threat that could become significant is affordability. Currently, rental rates are at an equilibrium to resident’s incomes. As rental rates continue to rise and wages remain flat, this equilibrium will become out of balance.
Landlords will either have to reduce their income requirements or renters will have to become accustomed to a higher percentage of their income being budgeted to housing. While investors greatly prefer the latter, we as an industry will need to pay close attention to affordability.
— By Bill Shippen, Executive Managing Director, ARA Newmark. This article originally appeared in the May 2016 issue of Southeast Real Estate Business.