The Joys of Development

Real estate development is one of the most challenging entrepreneurial endeavors I can imagine and certainly that I have experienced. The idea of spending bombastic amounts of money with no assurance of a return is unnerving, though of course with real estate you always have the land so maybe it’s not as bad as some nebulous start up. Though, every new project is a start up, even if you’re replicating a proven model. On paper things always work, or can be made to work, but the devil is in the details. Also, most everyone on the “team” is not taking risk more than their next invoice so you’re alone, really. Having worked with large development companies with deep pockets this on the edge feeling is less evident but still real, after all money is money and losing it doesn’t feel good no matter who you are. However, bootstrapping real estate development is really hard. All the stars have to align: costs, demand, design, capitalization, and timing. If one of these items is out of whack you get your head handed to you, less the design fees. That said, not having the right team who can help you design, plan, and finance your project is a greater risk and can lead to greater loss of money and time, I know I have lived this…more to come.

Beware of the control period...

On the interesting news front the WSJ had an article today about the Portofino condo project in Tampa where the developer (Providence Management Corp. based in Chicago) plans to terminate the condo association and convert the project back into a rental community forcing, as provided in the termination language, owners who don’t want to sell to have to sell at the fair market value of their unit, a price today which is less than their original purchase price. Talk about being rolled (by the way the developer only owns 30 units in the 396
unit complex but must still be in his control period as he controls 92% of the association votes).

(http://online.wsj.com/article/SB121132415516908607-email.html note this link will die after 7 days)

The Condo Market

In economic bubbles signs that a collapse is coming can generally be identified well before the music stops. For me I was at a golf tournament in North Carolina when I overheard two very elderly ladies discussing their strategies for securing multiple condo units in a pre sale auction process. Two ladies, two different projects and apparently they had bought previously in other projects. Now this is not a sexist or ageist comment but on appearances their speculative activities did seem to be out of the norm. Similarly during the tech bubble the WSJ had regular articles discussing what stock the barber was buying and who didn’t have a friend that gave up his day job to take up day trading…We are now dealing with the aftermath of the speculative bubble in real estate. When I was underwriting condo financing in Florida in the nineties we insured that:

1. 100-120% of the loan amount was covered by pre sales and…

2. We limited the speculative investors in the project by limiting multiple purchases to a single buyer and restricting investor units (as opposed to primary or secondary home buyers).
These disciplines fell away in the heat of the market after 2001 but are sure to return as the market heals. Sometimes these types of restrictions are good not only for the lender but also serve to place a governor on an overly ambitious developer which benefits both parties when the “buyers” disappear.

The time may soon be at hand...

It's a tough time to be in real estate. Financing is difficult to secure with a CMBS market that has locked up, cherry picking life companies, and increasingly risk adverse commercial banks as a result of increased regulatory scrutiny. The drone of the mainstream press is continually negative. What to do? It may soon be a great time to be investing in real estate. Prices have moderated with increasing cap rates, many industry participants expect to see price declines of 5 to 10% in 2008. So far it appears that sellers are holding the line and this has caused a marked slowdown in sales activity, but at some point soon the new realities may make sellers more willing to negotiate then they have been in many years. We all know one should buy low and sell high but investor psyche often dictates the opposite, they buy high and end up selling low in a panic or being forced due to deal economics. For those with access to capital (and despite the increased challenge securing financing it is still available), now may be the time to be hunting deals.

As way of background...

After spending 17 years in real estate finance with Wachovia Bank and Bank of America I decided to launch my own firm with the goal of helping real estate investors and developers make their efforts more profitable. Over my years in banking I saw many investors and developers who had amazing vision and drive but who failed to fully count the cost, that is, identify, underwrite, and manage the risks inherent in their investments.