Texas Multifamily Developers Navigate New Minefields
By Taylor Williams
The past 12 months have thrown multifamily developers a full nine innings’ worth of curveballs, and while many owner-operators have successfully adjusted to the various challenges brought on by the pandemic, they are still tasked with figuring out how much staying power these disruptions will ultimately have.
To be sure, the major markets of Texas remain well-positioned for multifamily growth. Even amid a global health crisis, the Lone Star State has maintained its status as a national leader in population growth, having added 374,000 residents between July 2019 and 2020, according to the most current data from the U.S. Census Bureau.
The reporting of final census numbers for 2020 has been delayed by the pandemic. But the Texas Legislature has already committed to a redistricting plan that is likely to increase the state’s number of congressional representatives in the coming years — a significant and visible response to its exceptionally healthy population growth.
In terms of jobs, no city has garnered more attention for major moves in the past 12 months than Austin, first landing the $1 billion Tesla Gigafactory that will come on line later this year, then receiving a commitment from Oracle to relocate its corporate headquarters from Silicon Valley. Other major companies — CBRE, Digital Realty Trust, Pabst Blue Ribbon, Heritage Auctions — have also announced relocations to Texas over the past year.
“The state of Texas continues to benefit from a strong business climate, low cost of living, a talented workforce and numerous entertainment options — even amid a pandemic,” says Payton Mayes, divisional president and managing partner at JPI. “The pandemic should continue to accelerate the attractiveness of the state as companies evaluate their long-term plans.”
But while these fundamentals that underlie multifamily development are strong, the day-to-day running of the business is fraught with headaches that largely stem from COVID-19 and the various legal, financial and public health initiatives that have been enacted in response to the pandemic.
According to the National Multifamily Housing Council’s (NMHC) Rent Payment Tracker, for the month of January 2021, 76.6 percent of tenants had paid full or partial rent by the sixth of the month. At 79.2 percent, the percentage that had paid by Feb. 6 is slightly higher. The first round of federal stimulus payments, which amounted to $600 per week for qualifying individuals, expired in July of last year.
“We’ve seen a clear correlation between stimulus checks ceasing to arrive and delinquency,” says David Lynd, CEO of San Antonio-based LYND, which owns and operates about 20,000 units across 11 states. “Those $600 checks really made a big difference. When they stopped coming, our collections dropped from 94 or 95 percent to about 87 percent, except in Class A properties where renters tended to have more savings.”
Lynd acknowledges that there were some discrepancies in collection rates from state to state. Markets that have always relied heavily on tourism, such as Las Vegas, inevitably saw higher rates of delinquency than others. He’s also cautiously optimistic that collection rates will improve under the federal government’s new $25 billion Emergency Rental Assistance Program. In addition to that relief, the Texas Department of Housing & Community Affairs recently announced a $1 billion emergency rental assistance program for households that are especially distressed financially.
But while the federal government has appropriated additional funds to help landlords get paid, it has also extended the eviction moratorium through March. For owners whose portfolios consist largely of Class B and C properties and whose renters generally have lower incomes that are tied to industries hit hard by the pandemic — hospitality, entertainment, etc. — this is worrisome.
Further, while landlords are trying to work with existing tenants to find payment solutions that work for both sides, they are also tasked with continuing to market and lease vacant units to qualified renters. With COVID-19 forcing many apartment tours to be conducted digitally and little face-to-face interaction between the two sides, there’s a greater capacity for renters to mislead landlords on their applications. And once these renters are in, they can’t be kicked out, at least for the time being.
“We aren’t changing our qualification criteria for prospective renters, but we’re taking additional steps to verify that everything on their application is true and to make sure that what they represent in terms of their job status and financial situation is accurate,” says Ryan Harden, President of RightQuest, a development firm based in metro Dallas that specializes in suburban Class A projects.
Harden adds that delinquency related issues are likely more prevalent at Class B and C properties with a resident profile that has been more directly impacted by the pandemic financially, as well as within urban locations where units command significantly higher rents than in the suburbs. And while it’s not really a matter of revising financial criteria — for example, requiring an income of four times the monthly rent instead of our standard 3X multiplier — it’s critical to verify the creditworthiness of the resident,
Yet as Lynd points out, therein lies another conundrum — credit scores don’t tell the full story of a renter’s financial solvency.
“When the dust settles, there are going to be renters who have terrible credit because COVID-19 hit their business exceptionally hard,” he says. “But as landlords, we have to be willing to overlook that in some cases, especially if the renter has a new job, and recognize that a person’s credit isn’t always reflective of his or her future ability to pay rent.”
As it pertains to multifamily development, perhaps the biggest uncertainty in terms of how the pandemic will shape future trends involves working from home and the extent to which companies will continue along this track. The work-from-home trend has major implications on two key development fronts: site selection and
“My expectation is that the return to work is going to be considerably changed on some level, and there will be a new demand for flexibility in terms of how people work, whether it’s part-time or primarily from home,” says Kevin Batchelor, senior managing director of development for Hines Multifamily’s Southwest region. “And that will bring about a shift in how office properties respond to that change.”
Regarding site selection, should a large number of companies opt to forego their office spaces and implement full-time remote-work programs, sources agree that renter demand could continue to shift away from downtown areas to inner-ring suburbs. It’s fair to say this has already happened in a number of major cities; the question is whether or not it will stick.
Ari Rastegar, CEO of Rastegar Property Co., an Austin-based investment firm focused on vintage and value-add projects, has thus far seen mixed reactions in terms of suburban flight. More important to renters in the state capital, he says, is occupying a spacious unit at an affordable price that still offers proximity to clusters of other real estate uses.
“We call it the $5 Uber ride rule, and it’s become a critical part of our site selection strategy over the last few years,” says Rastegar. “The rule basically means that if tenants can get to all the great amenities — bars, restaurants, nightclubs — for five bucks in an Uber, then that’s a location that allows us to offer our end users some really great value. This will be even more important when the pandemic subsides and people resume their regular work and nighttime activities.”
To be fair, even before COVID-19, some developers naturally favored more dense, urban locations with mid- and high-rise projects. Others organically drifted toward suburban settings with more sprawling communities. The challenge for both parties was and continues to be accurately judging the extent to which the current work and entertainment trends, which favor spending more time at home, will hold, and if a strategic pivot is in order.
“Even before COVID-19, we were trending toward more suburban development, and the pandemic has only accelerated that,” says Mayes of JPI. “We use a data-driven approach to choose the best development opportunities. Proximity to employment clusters and transportation infrastructure are important factors, and in a market like Dallas-Fort Worth, residents can be in the suburbs and enjoy a quality product at an attractive rent.”
JPI is underway on construction of Jefferson at The Grove, a 424-unit community in Frisco, where Fortune 500 companies like FedEx, Hewlett-Packard, PepsiCo and Bank of America have large offices nearby. The company also broke ground in December 2019 on Jefferson Rockhill in McKinney, where locally based developer KDC recently completed the new corporate campuses of SRS Distribution (100,000 square feet) and Independent Bank (165,000 square feet for Phase I and 198,000 square feet for Phase II in 2022).
RightQuest recently broke ground on Siena Round Rock, a 198-unit community in the northern Austin suburb of Round Rock. While located outside the urban core, the property still features proximity to major employment hubs, including Dell’s U.S. headquarters and the Texas A&M Health Science Center, as well as a full suite of Class A amenities.
“We definitely feel like the suburbs are the place to be right now,” says Harden of RightQuest. “Our suburban Class A properties have benefitted from people working from home. Renters who pay premiums to live downtown and be close to their places of business can get the same amenities in suburban Class A communities that they get in an urban environment. They’re not within proximity of their live-work-play environment, but COVID-19 has made those settings more risky.”
Once again, opinions vary as to how much long-term staying power these trends have. But some sources say that on some level, a flight to the suburbs has already arrived, if perhaps only for the short term.
“We’ve already seen the trend toward urban infill that defined the last decade shift to suburban locations due to the access to more open space and the amenities that come with that,” says Batchelor. “We expect this trend to continue in the near term.”
While land is generally less expensive and more available in suburban areas, that is not the biggest cost driver that multifamily developers currently face, Batchelor says. The suburbs can present unique development challenges not normally encountered in urban settings.
“In some ways, suburban projects can be more difficult to develop, because in urban settings you can often tear something down and build more vertically,” he says. “In the suburbs, zoning restrictions, NIMBYism and local jurisdictional barriers to entry come into play to a greater degree than in urban areas.”
In terms of design, some developers that were in the early stages of a project when the pandemic hit were able to pivot and adjust their plans to include built-in desks and purpose-built workspaces within units to accommodate an overnight surge in residents working from home. The same applies to private workspaces within communal business centers and other amenity areas. And some developers were already trending in those directions prior to February 2020.
With health and wellness topping the priority list for residents who are spending more time within their units, developers are upping their design games to cater to these needs.
For example, StreetLights Residential has introduced Smart Cooktop kitchen islands in certain units at The Margo, the Dallas-based developer’s 358-unit community in Frisco that recently opened. This furnishing features a seamless glass island with four induction safety cooking stations, two warming stations and integrated phone chargers, all on an antimicrobial glass surface that is cool to the touch.
Lynd says that one of the first pieces of conventional wisdom about apartment living during the pandemic that he saw dispelled involved interior design. While some developers halted their value-add projects when
COVID-19 hit, thinking that renters would want to conserve income by not springing for more upscale units, Lynd says that his company discovered the opposite to be true.
“You’d think that heading into a period of recessionary uncertainty, most people would elect for a low-cost finish package for lower rent to save money,” he says. “But we found that with people not spending as much of their discretionary incomes on food, drink or entertainment, they wanted luxury finishes. They wanted the best four walls they could afford, because they were now spending the majority of their time inside their homes.”
The experience was a testament to the importance in commercial real estate of understanding human psychology and behavior, Lynd adds. While this has always been a critical piece of the puzzle, its importance is only elevated during times like these.
— This article originally appeared in the February issue of Texas Real Estate Business magazine