It’s a tough time for mission-oriented owners of affordable housing! Owners are faced with enormous operating challenges at both the portfolio and organizational levels.
Should they raise rents? Cut resident services? Evict nonpayers? Self-insure? Draw down reserves? All of these choices are unpalatable. At the same time, demand in many markets is driving up the sales value of properties, and additional funds could help shore up an organization or resource services. Thus it is now, more than ever, crucial to properly value your properties and carefully evaluate your options
Watch our panel of experts discuss the techniques and parameters used to evaluate these imminent choices. Hear first-hand reports from organizations that chose to sell or restructure assets, discover what they negotiated, understand how they did it, and learn how to apply it.
CRE Market Dynamics: Recalibration
Over the last 10-12 years, commercial real estate (CRE) sponsors were met with low interest rates, a lot of capital, and asset appreciation. Now, the industry is in the midst of high interest rates and discrepancies between buyer and seller expectations.
In comparison to 2021 and 2022, the 2023 changes in capital markets have resulted in significantly reduced transactional volume. As highlighted in the chart below, when you look back several years ago, you’ll see that the projected sales volume for 2024 and 2025 were in line with historical averages. This indicates that there is still a market for affordable housing properties despite some general softening in the market.
A couple of market factors support the anticipated growth of transactional volume within the affordable housing industry and align with historical averages:
1) Debt
Despite rising interest rates, the debt markets historically love affordable housing. Affordable housing is in such short supply that there is a persistent demand for it. When the economy is doing well, the need for affordable housing remains substantial thanks to soaring market rate rents. Similarly, in times of economic uncertainty, such as the current market slowdown and recalibration we are facing, the demand for affordable housing remains strong, as household incomes face strain.
2) Equity
There are billions of dollars in the marketplace right now that are earmarked for investment in affordable housing. This funding is made up of traditional capital raised by private or public funds, CRA dollars, or LIHTC equity, which will continue to support the affordable housing industry.
Overall, affordable housing is a scarce resource right now. There are fewer quality affordable housing properties available on the market than needed to satisfy the appetite of the marketplace.
CRE Cashflow Concerns
Today, cashflow management often points to your operations. In the past, we’ve enjoyed almost guaranteed revenue growth. Unfortunately, that revenue growth no longer persists. Over the past three years, expenses have grown faster than revenue. As we move into an inflationary environment, it is no longer safe to assume a constant percentage concerning expense growth. Neither is it safe to assume that revenues will be greater than expenses. As expenses continue to outgrow revenue, effective operations and expense management is critical for cashflow management.
Affordable organizations are never looking to increase their income or profits because, in a lot of cases, they don’t have the ability to use that lever. It is mandated that they can’t increase more than a certain percentage, typically 2-5%. Instead, they have to manage costs.
Today, asset managers cannot hide from expense inflation. Thirty Capital’s CEO & Founder, Rob Finlay shared that within his own portfolio, he is seeing 6-15% increase in expense growth. This expense growth runs across insurance, utilities, payroll, marketing, and everything in between. As a result, he is being forced to look at thin NOI margins. In regards to operations, he and his team must now get more granular in order to find operational efficiencies.
Impacts to Affordable Housing
Although the market is slowing down due to inflation, significant operating challenges have created a pressure to sell. This creates a potential situation where owners are considering selling their properties so that they no longer have to deal with not being able to preserve or maintain the buildings or to protect their organization.
Some of these properties are neighborhoods that were weak prior to affordable housing stepping in. Thus, the possibility of cashing in here is significant. But, we are having to do so in the face of pricing that is not as advantageous as it once was.
The panelists highlighted four actions that must be completed or that can be performed better as we navigate these impacts:
- Assess your property valuation and the financial realities of your operations, debt, and equity
- Understand your options as you evaluate your properties and portfolio performance
- Create discipline for regular reviews and assessments – don’t hide from bad news
- Implement tools and leverage industry advisors to help you navigate these changes with your team
Now, more than ever, it is crucial to properly value your properties and consider your options. As you evaluate your options as to whether or not to preserve, partner, refinance, or sell, it’s important to consider your goals, look at the data, and determine what makes the most sense for your firm.
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