Multi-Family Real Estate Investing Strategies

The perfect investment. And I did write this book, but I avoided multifamily investing for years, like I already said. But we discovered two game changers that for us make multifamily much more palatable. In fact, we think it's a great time to invest in multifamily. The first one is investing in tax abated properties. Now I'm going to show you one in Texas that we invested in. This one has 10 year interest only Fannie Mae debt. And the equity on this $80 million deal at closing was $26 million. But the next day the appraisal came in at not 80 million the purchase price, but $113 million. So there was a $33 million increase in equity at closing. And the reason is it had 100% property tax abatement for 99 years. The rents were 27% below the comparable units at closing. And basically this asset, what we love about it, Jim, is not only the future exit at a potentially high margin, but the margin of safety this creates. And then if rents don't go up as much as planned, or if insurance costs skyrocket, as they have in lots of multifamily, this property has more than enough margin of safety to absorb that. So this is one of the two properties in this two pack in League City, Texas. This is the other one. Now, I mentioned two ways that we love to invest in multifamily. The first I mentioned was tax abated like this one. The second is related to Mr. Warren Buffett. Now, Buffett acquired $5 billion of Goldman Sachs stock when most people wouldn't touch Goldman Sachs with a 39.5 foot pole. But Buffett didn't take the same risk other investors took. Instead, he dramatically lowered his risk by buying shares of preferred equity. And in the fall of 2008. And we really believe that investors should try to access preferred equity if they can. Right now this is a picture of preferred equity. Imagine senior debt in the bottom. Imagine this is a $10 million deal. So imagine $6 million of senior debt and then you would expect $4 million of common equity. But at this point there's only $2.5 million, which is leaving a $1.5 million gap. Preferred equity or mezzanine debt would fill a gap like this. So we're pursuing preferred equity investments that provide cash flow of 8 or 9 to 10% and total returns of 15 or 16 up to 19%. Now these are also providing lower risk because they've got that buffer of common equity on top of which means that if that common equity, if the value of the property is lower at the exit, then the common equity will be the first one to take a hit. In fact, in this example, if the property dropped in value of, let's say, 20%, that would take 80% of the common equity out, but it wouldn't touch the preferred equity at all. So we love investing in preferred equity because it's got some of the advantages of debt and some of equity. We think it's got a better risk to reward ratio. Right now we feel like it has limited upside, it's very hard to source, and there is a limited time period. And it's especially profitable for small check sizes. And when I say small, I mean one or two to five million dollars. Now, a lot of people, when they hear preferred preferred equity, they tune out because they think we're talking about rescue capital. But we don't do that at all. There's four types of preferred equity right now that we've been able to identify. One is for acquisitions, and we do that. Secondly for recapitalization of an existing property, and we do that as well. Third is ground up development. We think that's a great idea, but it's not in our risk profile. That's riskier than we want to be. And fourth, for rescue capital, which we have no intention of ever doing, though there certainly is a place for it. This is an example of an investment we made in the current fund in Atlanta. It was about $4 million. We have 30 million, excuse me, 30% common equity and first loss position shielding us. This one has 9% current pay cash flow, 8% accruing upside. About 3 of the $4 million is still in our accounts, earning 5% along the way. So this one is projecting a total IRR of 19.4%, which is pretty good, considering it's contractual. Doesn't mean it'll happen that way. Things could go wrong. But it's contractual and it's. The operator plans to take us out in about three years. And if they do, we will likely reallocate the proceeds into other assets and pay some of it out as profit. Now, the terms on this are pretty nice. Our current pay, our full return of capital and the compounded upside are all senior to the common equity. We get for sale rights. We get the power of the purse. We get depreciation, just like common equity, which we pass through to our investors. And this is only accessible through our current Wellings real estate income fund. This is the asset in Atlanta. We actually got some news about this that sounded pretty negative. Last week, our operating partner told us that within the first quarter of ownership, they found that the tenants were a lot worse than they thought they were. In fact, 28 of the tenants out of 96 were evicted quickly, which means that these units were upgraded not a year or two down the road, but in the first quarter. And they plan to get $200 rent bumps from these upgraded units. But based on supply and demand in the Atlanta area, they're actually getting $450 rent bumps, which puts them way ahead of schedule, which is great for us. And it's especially good for the common equity investors who are in first loss position.

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