CREJ

Page 4 — Multifamily Properties Quarterly — May 2018 www.crej.com PROPERTY MANAGEMENT ∙ OWNER REPRESENTATION ∙ DEVELOPMENT ∙ CONSTRUCTION MANAGEMENT Building relationships and enhancing the value of real estate in Colorado for over 30 years. CorumRealEstate.com 303.796.2000 Market Update I s this equilibrium? This question has different meanings to all of us in the apartment industry; whether you are a buyer or seller, land- lord or tenant, developer, borrower or lender. But, regardless of your perspective, it seems the current circumstances and market condi- tions will yield an answer of yes. As the owner of apartment properties in Colorado and Florida, all of these perspectives are relevant and impor- tant, so let’s quickly review. • Supply/demand. For over five years, we have been looking over our shoulder at the ominous shadow of the construction pipe- line, worried that new deliveries were going to cast our vacancy percentages past the tipping point and inflict weakness that we don’t want to remember or experience again. However, year after year the demand side has responded with the strength and endurance of an Olympic athlete with record absorp- tion that continues to surprise. Fortunately, the supply pipeline project announcements and permit applications, which forecast 18,000- 20,000 units of delivery, have not materialized. Many reasons contrib- ute to this, which includes (but not limited to): 1. Capital discipline: Exercised by senior-level equity and debt sources that remember prior cycles, requir- ing stricter underwriting and more substantive sponsor resumes and balance sheets; 2. Delayed starts: Influenced by political, social, environmental and neighborhood approvals (be grateful we don’t get all the government we pay for); and 3. Prolonged completions: A consequence of the strength of our economy, the shortage of skilled trades has under- staffed construc- tion crews and delayed grand openings. All said, true new unit deliveries are perhaps in the 10,000 unit per year range. On the demand side, our econ- omy is rated in the top five to 10 across the country and has held that position for years. Each major cycle its seems Denver recovers with more depth and diversity and less reliance on singular sec- tors. The attributes that always made Colorado attractive (weather, recreation, mountains) obviously have not changed, but the trans- portation infrastructure of Denver International Airport as an inter- national hub, our investment in the commuter/light-rail system and the evolution of our urban core has launched our recognition and acceptance on a global scale. The mere size of our population now qualifies Denver for many employers and investors who had disqualified it previously. The talent reputation of our people attracts new employers, which conversely attracts people. Job growth is the key driver, which begets population growth, which begets household formation growth, which equals absorption – 6,000 units, 8,000 units and now 10,000 units of record- breaking absorption. If population growth continues at 50,000 people a year, which is not extraordinary given our overall population, then normal house- hold formation ratios and declining homeownership percentages may make these absorption records the new norm: 10,000 units of supply vs. 10,000 units of absorption equals equilibrium (at the moment). • Buy/sell. Buy vs. sell vs. hold reflect more signs of equilibrium. As an owner investor, we constantly address these decisions. On the buy side, there still are strong argu- ments to continue to acquire multi- family assets. Just like inside a cor- porate environment where various departments compete for capital allocation, real estate competes for capital allocation in the investment market. Capital seeks risk-adjusted yields, and real estate still competes favorably compared to alternative capital markets like domestic equi- ty, international equity, emerging market equity, debt markets, etc. Acquisition underwriting param- eters still can work whether you rely on cap rates, cash-on-cash returns, return on cost, absolute profits or internal rate of return. However, none of these are with- out some pressure points. Revenue growth continues, although muted compared to the tail winds of the past five years. In our typical asset class, raw increases are limited as potential residents have choices and constraints of affordability, as resident income growth has lagged, which is creating collars on what can be paid toward rent. Revenue growth is more associated with loss to lease burn off, which implies res- ident retention and renewals have greater importance. Operating expenses have pres- sures as well. Labor is extremely tight, and talent is hard to find, causing material increases to pay- roll costs. It seems we just worked our way through a real estate tax reassessment year, and now another one is seven months away, with more increases coming. The insurance markets are volatile, with carriers reassessing risk profiles and reinsurers passing on the cost of major hurricane and hailstorm catastrophes. Hard to earn revenue growth is eroded by increasing expenses, limiting our bottom line net-operating income growth. NOI supports our debt service, which is its own topic, but the upward pres- sure on interest rates squeezes all the metrics on the buy side. Buyer experience, ability, credibility and access to capital are critically para- mount. The sell vs. hold decision is more difficult than a buy decision. Dur- ing the ownership cycle we gain knowledge and confidence in an asset’s performance, its durability and resiliency to market challenges. Cap rates still are a very compel- ling reason to monetize and capture value and profit gains earned and achieved by execution of a reposi- tioning plan. However, it is hard to sell and forego known performance, known qualities for uncertain per- Almost all signs point to momentary equilibrium Bill Evans Managing partner, Madison Realty Investors