Conversation with the Real Estate Guys on Fourplexes & Build-to-RentAug 10, 2021
Excerpts from the Real Estate Guys Radio Show: Watch Full Episode Here
Build-to-Rent During the Pandemic
Our guest today knows a fair bit about fourplexes. His company is called the Fourplex Investment Group. Welcome back to the Real Estate Guys Radio Show, Steve Olson.
I guess the first thing to find out from you, Steve... in the pandemic, certain real estate has done well, certain real estate has not. Certain businesses are thriving, certain businesses are in the doldrums. What's new with you guys? And how has it been going?
Oh, wow. We're all looking at the pandemic. I don't want to say we're looking back on it, it's still going on. A lot of the massive panic that hit it first is past. We kind of know a little bit more of what we're dealing with here.
We had multiple projects out there [in the market] in various phases of acquisition, development, construction, lease-up. I did not know what was going to happen at the time.
Now looking back on it. I know more. I don't know it all yet. Never will. But I know more than I did.
One thing that really emerged from it [the pandemic]?
Land is more expensive. That was already a trend, but people want property, they want real estate. Builders and developers are aggressively competing for land.
Materials cost more. There was already an upward trend in the cost of materials, but supply pinches and all that nonsense that was going on is really exacerbated. Lumber is astronomically expensive right now, even compared to the late fall of 2020. We're having to take that into account and everything we do. That affects everybody across the board. So it's all relative.
I'm looking at our vertical budgets to build a fourplex and it's just more. You cannot buy the same set of sticks and bricks for what you used to be able to buy it for.
One interesting topic to discuss is leasing. A lot of doors were coming onto the market for our clients--brand new construction. Clients are excited, they've been waiting for this to deliver. Now let's lease it... but there are stay-at-home orders and there's mass confusion. What do you really do there? That kind issue of was geographically specific from what I found.
We operate in three markets and are going on to a fourth now.
In the Utah, Salt Lake City metropolitan area, the leasing went down during the height of the pandemic, but it kind of plotted along. We tried the self-showings and the technology and everything.
Then when they lifted the stay-at-home order...it wasn't really an order in Utah...when that began to lift the leasing clicked in pretty good, no problems. We were able to move through product. People wanted out of high-density apartments and into the more townhouse-styles that we're known for.
Idaho was really interesting. It was deader than a doornail during the stay-at-home order up there, we could not get anything. In fact, a funny story was told by one of our leasing agents who got pulled over by the police on her way to work. She had to show a card proving that she was an essential worker.
Once that [order] was lifted, it went completely bonkers. We're talking 60-70 showings a week and applications almost a match that crazy.
The [market] that struggled the most during the pandemic were our Houston projects. It just got really sluggish. Just a couple of leases a week, which, when you've got hundreds of doors to move through that's hard! So you're turning the dials trying to figure that out.
What we've been really pleased with, though, just over the last probably two months is that demand is coming home to roost. Now we're up more in the 7-10 range in that market and it's really starting to do well.
The bottom line on leasing, much of the demand that all of our business planning was done based on, didn't go away. It is just postponed in some cases. That what we're really seeing.
Yeah. We've seen that in areas. I think the other side of it that's been fascinating to watch is the investor demand. It's clear that there are still eviction moratoriums, that people who aren't landlords yet could have reason to be a little hesitant.
At the same time, we've seen a lot of folks who are providers of these types of real estate be inundated. How about that side for you guys?
We're [having this conversation] at an interesting time. I don't have any inventory. Back in April in May, It was a whole lot of "Well, we'll see."
In fact, we even had a rash of investors call us and want to cancel their transactions. Everybody was battening down the hatches, right. That switch flipped about June 1. And I've never seen it like this. There's tremendous, tremendous demand.
Most of the investors are citing their concerns about monetary policy, low-interest rates. The pack kind of separating and seeing through the COVID pandemic, what kind of real estate does well, and what kind of real estate does not do well.
We were blessed to be in the multifamily sector, which just about everybody agrees has come out of this... I wouldn't even say very scathed. It depends on your sub-market and what kind of property you deal in.
We did get some delinquent tenants, it happens. And there's the new protocol we have to go through. Thankfully, we operate in business-friendly states. You can't play that card forever if it's not really impacting you. Eventually, the judge will relent in favor of the landlord. But like I said, it hasn't been near the problem that we expected it to be.
The vision of the Fourplex Investment Group
Well, Steve, we talked at the beginning of the show, Russell Gray and I, about why would like fourplexes. Whether you're a beginning investor, or just adding to your portfolio. [There are] a lot of reasons, the financing side, obviously, economies of scale.
This is the area that [the Fourplex Investment Group] has been working in for some time. And you layer on another facet, which is they're brand new.
FIG builds brand new fourplexes in communities that feel more like apartment buildings. In case folks haven't heard about you guys before, tell us that vision.
When you think about a fourplex, there's a stereotype. There's no denying it. It's that boxy, two up two down, completely value-engineered building, where somebody said, "I'm going to get the most rent per square foot that I possibly can." That's your typical fourplex. For whatever reason, they were big-time popular in the 70s and 80s. They got built then and now you've got these little hodgepodge fourplex neighborhoods all across America in every Metro. But they can have a reputation many times.
Some of them are still doing really well if they ended up being in any gentrified area or next to a university. That's okay, but others you go, "Hey, I don't I don't want to buy in there. I can't count on the investor across the street from me maintaining his property and plummeting my rents because he's got a tarp on his roof and a Thunderbird parked on the lawn right."
So what the Fourplex Investment Group is doing is a master-planned community with an HOA. That way you know, your building is always insured. The lawn is mowed, everything is taken care of, and that person across the street is subject to the same CCR's, that you are.
That really takes care of a lot of it. You drive into a FIG development as a prospective tenant or even as a lender. What do you see? A bunch of townhomes or some apartments. But it's really all in the platting.
When we go to subdivide a project and record a new plat, we'll take four townhomes in a row, slap one tax ID on it, and that's a fourplex. That's how your lender views it, that's how the builder views it. But a tenant is renting a townhouse.
When we do it that way combined with an HOA, it's able to generate more of a positive experience because what we're looking for in the fourplex, is that multiple streams of income.
That's been a big benefit to people who did get that tenant during COVID who couldn't or wouldn't pay. Some of these tenants have gone underground and said, "evict me i dare you."
Well, if you've got three other tenants paying, even though that hurts on that one, you're okay. You're making it. You can service your debt, you can deal with your taxes and your fixed expenses. That that especially becomes true when we get them in those manage communities and we'll put some amenities in there too.
It's not Class A, 2,200 square foot, quartz countertops, and a dog groomer, that's not us. Take it down a little bit. FIG fourplex communities have a clubhouse, a workout facility, a pool playground, and it's oftentimes gated. It's better than average, but it's not meant to be the Ritz either. We're really trying to shoot that down the middle to provide a (we don't like to say affordable housing because people think section eight), we like to say attainable. It's attainable for both the investor and the tenant. That's the goal.
Build-to-Rent Performance During the Pandemic
There's another cool thing about [FIG's business model], which is that when you have a newer product, and it's engineered in such a way that feels like a larger apartment complex (there are amenities). Not only does that attract more people, but they also tend to stay longer.
Do you find that everybody's willing to sign a year-long lease or is that negotiable? Talk about the kind of durability of the rent?
It's been durable. Typically everybody is signing a year-long lease. I think that the nature of the communities themselves lends it to that. We've got one community that's right next to a college, that thing's turning over all the time. Then we have others where they might sign a year, but they're staying two, or possibly three years. You're always going to have that segment that's temporary. They're trying to figure out where they land, they just move to the area, or maybe they're building a house.
But you do have those people that are going to stay for quite a while. So it's been durable and I think we've kind of benefit as well from the market. In the markets, we operate and there's not enough housing. So I hate to say it like this, but a lot of people don't have a choice, they're staying. Because there's nowhere else to go.
Going into a New Real Estate Market
You mentioned landlord-friendly, and that's certainly important as folks are thinking about buying investment properties anywhere. You started in Salt Lake and the Greater Salt Lake. And that's been a robust market. And of course, Houston. Texas, one of the recipients of a lot of jobs and a lot of net in-migration. Boise, Idaho has been hot for sure.
Let's talk about the newest market you're in which is in the Greater Phoenix area. That's also a very strong market. In fact, the number one net in-migration market in 2020.
I've been on the Real Estate Guys Radio Show a few times talking about FIG's plans in Phoenix. It's a long runway there, there's a lot of work to do. There's more regulation than you would think, but it's okay and we manage through it. We've got construction happening on two sites. They're mostly working the west side of the valley in the Surprise area.
We have land under contract in multiple projects in that market. It's precisely what you said, people are moving in. It's business-friendly, viewed as affordable, it's a market that's grown up a lot. People sometimes associate the Phoenix Metro as one of the ground zeroes of the foreclosure crisis, which it was. But since then, the job market is a lot more diverse.
There are all kinds of stable-paying jobs in the Phoenix metro. And people are coming out of California every day to move to Phoenix. The Fourplex Investment Group is benefiting from that. We're seeing good rent increases as we dig into new projects and new proformas.
It's an interesting balance when you look at going into a second market. So you're in your first market, and you're doing well and you got a lot of units to come out of the ground. And you've got a team. You've got the folks who are gonna do all the surveying, land acquisition, building, developing, HOA, and all of that.
Now you look at going in another market, and you've got to replicate. There are some folks that can probably skip over [to the new market] because they've got the background and market A and they can go into market B. But you need some people that are already in market B. Every time you add a new market, it becomes an order of magnitude to do that.
Yet from the investor side, if I like what you're doing, and obviously we do, these are beautiful units nicer than folks are imagining right now, I'll tell you. You've got great positioning within the tenant base. You're not at the bottom, but you're not at the high end where people fall off. It's a real sweet spot in that regard.
Now an investor can diversify by market, and look across, in this case, now four markets. They know the product, they understand the durability of the rents and the economies of scale in fourplexes. That's a big change.
The first time we sat and talked, you were just in Salt Lake, a great market (no reason not to look at that). This idea is that the same product can be in multiple places. I think that bodes well, not just for you guys, but for the investor.
We have quite a bit of clients that now own multifamily across all of our markets. When we go into a new market, we usually would go to the long-time tried and true clients and say, "Hey, we're going over here. If you'd like to join us, come along. But we don't know everything yet." There's a lot that you can figure out in advance, but some of it, it just kind of happens as you go. That's the development business: being able to put up with those curveballs that pop up along the way.
Product and staff in some ways translates from market to market. In other ways, it doesn't. You've got to hire people permanently on the ground. Texas is a great example of that, that place used to be its own country, and they'll remind you. They've got a different set of rules and we've had to learn a lot about how to operate in Texas.
Arizona is that way a little bit too while Utah and Idaho are pretty similar. We can play those off of each other more than than the other two markets. It's definitely a learning process, but that's where the value is. If it was easy, everybody would do it.
Learning From Investor Mistakes
Hey, Steve, you've seen investors who have approached your product and done well. The people you talked about that have maybe followed you from Market to Market.
Are there any lessons we can learn from the other side? Any mistakes you've seen people make that you wish they knew something before they went down that path? Any of that kind of wisdom you can pass on?
I would say two things.
Whenever we roll out a new project, we go deep into the property management in the competition on the leasing front in that sub-market. We can generally recommend a finish level on the interior of your fourplex that will make you most competitive.
There are other owners in this subdivision. But there are also surrounding communities that are not FIG communities. If you do the right upgrades and finishes on the inside, you can get that good balance between optimizing a low vacancy rate and your turnover cost.
In some communities, you need granite and stainless in your units. Others that's a complete waste of money. Right? So I would follow guidance there. Because what happens is then a year later, when you're listed for rent, and it's a little slower, you're $50 lower than the next guy. You're asking us why? And we'll remind you.
I don't pretend that we're 100% right all the time. But we're giving the best recommendations we can. Keep in mind, many of the team over here is also holding a fourplex or two in that same project. We eat our own cooking.
The other one is to be patient. Investors are tempted to hit a firm and the date and say, to this date, this is what's happened. This is bad, right? Or this is really good. But there's a lot that's still gonna happen here. Sometimes I've had a couple of investors get impatient and want to sell. You know, it's been three months and I've got two tenants.
The market and all the macros are there. Frankly, if if somebody calls me and says, "Is this, okay?" Hang on. We have that same conversation in three or four more months. And it's almost like they forgot about that trouble. Everything is wrapping up and they've got good tenants. So you have to be patient.
You can't look at real estate in little snapshots in time, and then render an entire verdict based on that. Patience is just really, really important. If you invest in the right markets, that macro trend has a tendency to take care of you. Sometimes a little bit of up and down, but it'll level out for you nicely.
Thought's on Fourplexes
There are so many ways to invest in real estate, but today we're going to talk about a sweet spot that exists in residential property. Everything kind of comes together in this one product type and it is the "fourplex".
If you like single-family houses, then fourplexes are 4x as good. We're going to talk about the fabulous fourplex and why it really is a sweet spot when it comes to investing in real estate.
When I started investing, my first investment was a duplex. I lived in one half and rented out the other half. Then when I moved and bought another house, I kept it and discovered how having two sources of income was better than one.
A fourplex takes that to the next level and there are lots of reasons why we like fourplexes. It's not the only thing to invest in. Obviously, there are downsides, which we'll talk about. But a fourplex investment has a lot of things going for it.
I come at this from the mortgage side, because that's kind of where I started. What I learned is that you have financing for residential property kind of broken into two categories: Residential 1-4 units, and then 5 units and above.
Residential 1-4 units is really subsidized by the government (Fannie/Freddie), and you get better rates, you get better terms, and the money is more readily available because it supports affordable housing. It's a very important government initiative that has existed for decades upon decades.
As a real estate investor, you're out there really accumulating debt and streams of income. Real estate ism is a vehicle to do that with. Residential [multifamily] is a great place to be...
There's a huge financial difference between buying a four-unit building and a five-unit building. Years ago, we took a listing on a five-unit building and I'm like, "really, why would you even build five units?" because now you're in commercial financing, it's more expensive, harder to qualify. Sometimes [it's] based on debt coverage ratio, especially in small units.
The other side of financing that's also interesting is this: As a real estate investor, you're going to be knocking up against your maximum qualification. We call it being Freddie or Fannied out. When you have all the single-family 1-4 [unit] loans that you can get.
When you buy a fourplex you get a lot of doors for one loan. So imagine I have nine single-family loans and I only have one left in terms of my eligibility. I could buy a $60,000 single-family house that rents for $800 a month and that sounds really good on paper and could be an excellent investment. But if I buy a fourplex, I add four doors and still only use that one eligibility, if you will.
So there's a lot of reasons there.
When you buy a fourplex, there are companies that specialize in this type of property. And there are other property managers that can take it on quite easily. But at the same time, if you chose to, you could manage your property like this yourself. Now, we're not big fans of doing that long-term. But when you're starting out in real estate, if you'll spend the first year managing your own fourplex, you will learn everything you need to know about property management, and about why it makes sense to hand that ball to somebody else.
...I think maybe the big thing on fourplexes is back to income distribution. A single-family house is either 100% occupied, or 100% vacant. A fourplex is rarely 100% vacant. If I have a vacancy, it might take me a month or two to get a tenant. But I have three other paying tenants and in a terrible situation, I might have two vacancies. Or a vacancy and someone not paying their rent for whatever reason. But I still have income from the other two, which means that I have better durability of income than I would in a single-family house.
When you're talking about any type of stability in a portfolio, when you have multiple streams of income, or you don't have single point failure (one tenant, one job), you're going to be more stable.
There's a couple of components, a typical fourplex is going to be more expensive. This means that for the same loan, you get more debt, and you get more income. So if your mission is to accumulate both debt and income and tax deductions, depreciation schedules, the bigger, more expensive properties can be a great way to do that as well.
The biggest downside to fourplex investing is when I buy a single-family house, I have multiple exit strategies. I might sell it to another investor with a tenant in place or I might sell it to an investor that is looking to renovate it and move a new tenant in, but they're buying it for investment purposes.
I also might sell a single-family home to my tenant, or to an owner-occupant who might pay a premium for it. Rarely do you have an owner-occupant, buy a fourplex. I say rarely because it does happen and you actually can buy a fourplex in most places owner-occupied if you were planning to live in one unit and rent out the others.
...The point is you could get a loan as an owner occupant on a fourplex but you don't have that exit strategy, typically, of an owner-occupant wanting to buy it from you. It is going to be sold to another investor.
Thoughts on Phoenix, AZ and Weber County, UT
We'll be launching some new projects in Phoenix. One's in an opportunity zone. We can talk about how that's advantageous for people that do have a capital gain. We don't know what's going to happen with the new administration, that's a whole new topic. Then we've got another county in the Salt Lake City metro's Weber County that we have not built in before.
Previously, the rents were not high enough to justify the cost per square foot. But things have changed as the population and the growth has exploded in Salt Lake and Utah counties... it's spilling over into the other areas and pushed rents up and now we're in the game.
Give us some of the high points here. What's attractive about Weber County?
Weber County is home to Hill Air Force Base, a big air force base here in Utah. I think Weber County, at the risk of making a bad comparison--you look at Los Angeles and Orange County. You don't really know when you crossover. The population is continuous. They are all in the same Metro drawing from the same jobs. It's just that Weber is more affordable. You have a lot of logistical businesses, a lot of medical, and government jobs all up in that county.
Boy, do they need housing up there. So we're excited about that one. They needed it previously. It's just that now with the increase in the pressure from the surrounding areas, it's a hotspot, we like it.
We've got the new projects coming up in Phoenix on the south side that's in an opportunity zone. Phoenix is crazy. This is an infill project. We're not pushing out in the suburbs, we're into an already developed neighborhood. Anybody can verify if they'd like to what's been happening to rents in Phoenix, and what the concern is about attainable housing in that market.
We've always loved greater Phoenix and have been part of that market for a long, long time. But again, the key is you've got to pick markets that work financially--so the rents have to get to that point. But there's another nuance, which is for you to deliver a product that is built in a great community with the amenities you talked about, you need a chunk of land. You can't do it on half an acre, you need to have a chunk of land. And that just takes some time.
So there is the part that the investor doesn't even see, the part you guys are doing for months and years before--trying to get your feelers out and figure out where there's land, and then back into that, and the fact that the market does change. So it's important people understand the markets... Spend some time because market first. Figure out the market. If the market makes sense. If you understand the drivers, you can see why there will be more people willing to move there while jobs are created, why rents are tending to go up.
Apartment-wise, we've seen cap rates compressed, meaning more money has been chasing apartments. It's one of the things about fourplexes. All those big apartment gurus really aren't interested in fourplexes and yet fourplexes do give you some of those economies of scale, especially when they're putting neighborhoods that have that tenant attraction because of everything that's going on.
What's it like in the Build-to-Rent Space?
Steve Olson, you were part of our YouTube series on build-to-rent, which is also kind of a hot thing. Developers are looking not to build to end-users to buy but to build with the investor in mind. Steve, that's exactly what you've been doing since the beginning, maybe even before people threw that terminology [of build-to-rent] around.
This whole build-to-rent idea brings in a couple of nuances. One, if I'm an owner-occupant, and I want to buy a house, I'm really concerned about when it's delivered. Because I'm moving because of my job, or I want to be between school years. With an investor, they don't necessarily need to have it right away. That can be a big benefit to them and you.
How much lead time do you need? When is it time for an investor to get in a conversation? How much before they expect to actually be able to have a unit?
It takes a while. They need to get in touch with us because build-to-rent units take some time to roll out.
On average, when we release a new set of fourplexes, we'll reach out to people that have already engaged with us. Investors who already understand the pre-construction process.
That's a big part of it. That's a big reason why we can sell these at the price we do. Why we can make a cap rate in the Intermountain West. Otherwise, the land is too expensive. It's not going to pencil out that great.
People still buy them after the fact, but you can save a good amount of capital if you go the pre-construction route. You have to understand how a construction loan comes into play, how to calculate your returns based on that.
You've got a year of time during the build, but you've got your ramp-up. You reserve a unit and then it's going to be a number of months before construction even begins and then that takes 10-12 months. So your best-case scenario is a 12-month process. That's if something falls out of contract, and we call you with an available unit. Otherwise, you could be closer to 18 months.
The build-to-rent residential multifamily process is something that requires some planning, especially if you've got a 1031-exchange in process. A 1031 is something that we can usually accommodate if we talk to you before you've got that exchange in the oven. Because then we can kind of pair it up with a property on the horizon and that gives you some timing guidance on when to sell your relinquished property.
So that's about how the timing goes and the cherry on top is you're getting a better price per square foot than you would if you're trying to buy something completed in those markets.
We love to peel it back a little bit for the investors. That's a great benefit for them to be able to plan on when the acquisition is going to take place and get involved early. It's also great for you guys because then you have the known quantity and that's how you can sharpen your pencil on the pre-construction deals. If you had to just build everything on spec, and then hope that the market would jump on board. Well, that's just more risk. It's more unknown, and therefore the price has to be higher.
[In the case of the Fourplex Investment Group], rarely does it happen that you end up with a property that hasn't been sold months before it's coming out of the ground. It's as though the investor is part of the development team in that way, right. It's that they've got the resources necessary to make sure that those four units are going to get built and the earlier the better for everyone involved.
That's correct. I think what's attractive to many investors is that the purchase agreement with the builder team is a fixed-bid contract. In this era of increasing material costs, you're typically in this thing for less than it costs a build. You build a new property, and it's all done. Look at that and say, "if I'm gonna bid this thing out, now, it's just gonna cost more, period". There's only so much lumber and labor to go around these days. That's something that's really attractive to the investors.
As you said, we have to sharpen the pencil, because you're taking on that risk. You say, here is the fixed-bid. If lumber increases by 15%, that's my problem, not the buyer's problem.
That's happening all around and continues to. And of course, you guys are bigger buyers of those [build-to-rent fourplex developments] than say, the little boutique developer that decides to build one of these.
I have several fourplexes that are just kind of on their own. I only have one that's not near any other fourplexes. There's typically eight, or there's 12 and there are no common area amenities. It's just one of those areas you kind of described earlier. I think that as you open your eyes to the whole build-to-rent thing, you start to get your mind around this. It is something I want to bring up because people get all enamored, they're all excited. They're like, "yeah, I want to buy something right away". And then they call and get disappointed because it is going to be a year from now.
The bottom line is, a year from now, it will be a year from now, no matter what you do. So if you don't get in line to get [a build-to-rent fourplex], then it's gonna be even a year beyond that. It's just one of the realities of build-to-rent. And it actually works best for everybody.
If you guys know you have demand, and this case we're talking about, you have no inventory at this moment. You're about to, but there are some steps in between. It's not like, "Hey, we just want to sell fourplexes". They do need to get in touch and learn the process, understand what it means...the financing is a little different and unique.
We say here at the Real Estate Guys, you start with your personal investment philosophy, who you are as an investor. Once you've figured that out, now you find a market or market that can deliver the kind of results you're looking for. Once you've got a market, then you've got to find team members. Once you find team members, well, then you've got to find the property.
In this case, once folks figure out what they want, their personal investment philosophy, you guys kind of handle all the rest, right?
FIG has got four markets, the team, including leasing, and a variety of properties for people to choose from?
Absolutely. We've got the system in place. It's designed to give somebody who doesn't have the time, know-how, or desire, to be a build-to-rent developer and the chance to get some of the upsides that come from that. Because you're participating along the way, hence, the long runway. I think that's what most people like about it.
We like to crank out these reports for you guys because all of the reports have information and sources that are independently verifiable. When you do build to rent, you're betting on that sub-market. Because things can change from when you start construction and approve a project to when you deliver units that are for lease. Things can change a little bit.
That's why you're betting on the market. You're saying you like the population growth, the neighborhood, the trends, feel confident enough in the product that, yes, things may change, but I'm going to be just fine because of where that market is headed.
That's what's designed to be in the reports. To show you what is happening.