Builders Prepare for When Condo Boom Starts to Fade
Multifamily builders and developers at NAHB Multifamily's Pillars of the Industry Conference in Miami last month reported brisk sales and handsome profits in today’s booming condominium market, but they also said they want to be prepared for what happens when that market inevitably starts to fade.
Avoiding the go-go high end of the condo market where prices have been zooming from $500 a square foot and up, up, up in such cities as Miami and population centers along the East and West Coasts is one strategy that some builders believe will shepherd them through the cyclical downturn headed their way.
“We believe that the affordable side is more protected when the current condo market starts to go away,” said Leonard Wood, president of Wood Partners. In the Atlanta market, where Wood’s company is based, affordable means 900- to 1,000-square-foot apartments selling in the $275-$300 per square foot range.
Wood’s building experiences testify to the strength of the shift in today’s multifamily market dynamics away from rentals to the for-sale side. Encountering softness in the rental market, Wood chose to switch from leasing to selling the 500 units in the twin towers of his first high-rise project in mid-town Atlanta. One hundred homes were sold in the first month and the project was sold out after 10 months, which was “amazing for a place that hadn’t been a big condo market,” he said.
“We were getting full price for condos,” Wood said, instead of having to give away free rent and make other concessions to bring in prospective residents. And “we are now embracing pure for-sale because rental economics wouldn’t support the property.”
Wood is now building his fifth major condo tower in Atlanta, and he said he believes that “infill has some real legs to it” because people don’t like traffic, but they do like infill amenities. “There’s some depth to the market for a high-quality, affordable product,” he said, and demand for entry-level housing should hold up.
Wood said that there are virtually no traditional garden apartments being built in Atlanta today because with land prices sky-high it’s just too hard to bring them on line. The story is true just about everywhere, he added, with some major exceptions, such as Houston and Dallas. About 60% of the units currently in the company’s pipeline are headed for the condo market, he said, and everything that is being built or converted is concrete construction.
Bruce Duncan, president and CEO of Equity Residential, said that land prices are headed for a correction in overheated markets. “Land prices will come down,” he said, “and there will be much more volatility.”
Duncan advised builders that they should be cautious at the high end of the market, but more confident about moderately priced product.
Panelists at the NAHB conference weren’t too concerned about the 10% investor share of buyers that typifies today’s condo market nationwide, but they did express wariness of places — such as South Florida and Washington, D.C. — where rough estimates of the investor share range from 20% on up.
“The minute that the flippers can’t flip,” Duncan said, “it changes the psychology” of the marketplace.
Those who view today’s high land prices as a benchmark are probably mistaken, said Tom Baum, president of Bozzuto Development Company in the Bozzuto Group. He said that “current prices are unsustainable” in the Washington, D.C. market, where contractors have also been boosting their prices, by about 30% in just the last year. “That’s got to be worked out,” he said.
Baum also said that municipalities in the area are making the situation even worse. Prince Georges County, Md., just east of Washington, has been piling on fees at an appalling rate: $12,000 per unit for schools, $8,000 for fire and police protection and $8,000 for tap fees.
Baum noted that his company has been “through the ups and downs of good times and bad,” so it hasn’t “dived head-first” into the current condo frenzy. Bozzuto most recently has been focusing on suburban four-story elevator buildings targeted to empty nesters, which he described as “a strong niche” on the edge of the explosive high-rise boom.
Baum’s company has built rental properties, but “trying to find apartment deals that make sense is becoming more difficult.”
To prepare for the less vibrant future, Duncan said builders should be looking at their price points. “Look at rent vs. buy,” he said. At $160,000-$175,000, “you’re not out of kilter at that level.” As you go up the price scale, however, and the cost of owning becomes increasingly higher than the cost of renting, the viability of that product becomes increasingly untenable when times turn down.
On an issue that has been a top concern for condominium developers — lawsuits for construction defects — panelists reported that things are going fairly smoothly, largely because they are acutely aware of the potential for litigation and have been doing whatever they can to prevent it.
“People in business today are taking a pro-active approach,” said Steve Patterson, CEO of ZOM, Inc. in Orlando, Fla. “They are going out and fixing things they really may not be responsible for fixing.”
Wood said that his company has yet to be hit with any lawsuits from angry home buyers. “The quality of the product has been great,” he said. “We try to deliver a defect-free unit, and we won’t close until the buyer signs-off that there are no defects.”
“We have been doing a good job of capitalizing the home owners association, so they don’t have to make an assessment the first time a problem arises,” Wood added. “Time will tell if they use the money to turn against us.”
To ensure that he stays in the good graces of his customers, Wood said he sets monthly assessments realistically so they carry the property and don’t have to be increased. He lets his residents know that he wants to sit down and talk with them about a problem before anybody calls a lawyer. And he follows a philosophy that emphasizes selling out a property more than moving up prices aggressively, “giving the buyer more appreciation for gains.”
Baum said that Bozzuto has had only one customer lawsuit over the last 20 years because it has focused on customer service. “We service, service, service, and that is what you have to do,” he said, and that is what some condo converters are not doing a good job of providing. They could pay the consequences when owners turn sour as the market settles down.
Baum added that today’s condo builders and converters are able to cover up their mistakes, such as underestimating their costs, because of the good market. “But when the pricing cushion goes away, will you still be disciplined enough to bring that product to market?” he asked.
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