Rick Mirza, Founder and CEO of Daulat, a private equity firm.
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While nobody is exactly sure what a post-pandemic real estate market is going to look like, I’m certain that it’s going to be defined by investors and sellers who embrace a nimble and creative approach in the here and now.
We are clearly in the early stages of what may be the most dynamic investment period of our lives. The global economy has gone into lockdown with effects that will reverberate well into 2023 at a minimum. On the housing front, Zillow is now projecting that home sales will fall by as much as 60%, with prices experiencing a 2% to 3% drop through the end of 2020 followed by a slow and potentially uneven recovery throughout 2021. As real estate and mortgages are the backbone of derivatives and secured asset financing, the idea of “business as usual” needs to take a back seat.
By taking advantage of this changing economy, there’s an opportunity to weather the storm now and thrive both now and later. There are a few factors investors on both sides will look at more closely now than ever before. One of those is cash flow.
While in the past a buyer could look to future value, current equity and a variety of other factors, cash flow will now be the most important indicator of a good deal.
Case in point: Shortly after Covid-19 began wreaking havoc nationwide, I received a call from a seller who had developed 10 acres of land in Sacramento.
As a real estate developer who’s seen his fair share of opportunities throughout the last decade and a half, I saw this as a great deal. I love California. It’s the state I’m proud to call home, and I’ve had the good fortune of developing properties there since I purchased my first piece of real estate back in 2005 — two months after graduating high school. Sacramento, in particular, holds a special place in my portfolio, especially because it’s a great location that appeals to buyers frustrated by the high costs of the Bay Area and the influx of companies looking to relocate means a booming hot spot for new jobs.
The seller had spent roughly two years waiting for a prime market opportunity but recognized that the well-worn strategies he’d operated under for years just weren’t going to cut it in the current environment.
The seller asked if we would be willing to take the property now and offered to make it easier for us by offering seller carryback financing, an option wherein the seller agrees to carry a significant portion of the loan for the buyer without having to secure a large down payment or facilitate an all-cash purchase.
Naturally, seller carryback coupled with a low interest rate in tune with the current market standard gives us the ability to have a much better looking capital stack, which in turn makes it far easier to get financing and allows us to come in with less money as a down payment. Considering that the project was approved, titled and almost shovel ready, we were also in a position to implement an accelerated go-to-market strategy.
This seller is adapting by being nimble and less rigid to change. Instead of losing cash flow by sitting on the property and waiting for the market to bottom out and then slowly tick back up, he made a judgment call that allows him to take his $3 to $4 million now and reinvest it into his business or another acquisition, giving him a tenfold return on investment.
But when it comes to the changing economy, a renewed emphasis on cash flow is just the tip of the iceberg.
There are bound to be some interesting changes in multifamily properties in Class A and B categories. With a load of new development coming to market and a good portion of bad debt on major complexes, there will surely be some movement there for those who overpaid over the last few years. Those who were patient and are going to market now will find a more stabilized asset with room to grow. Those looking to upgrade their amenities and make renovations to their assets will also fare well in light of the increased demand in lower rent categories.
All of this highlights the fact that you don’t have to wait for a post-pandemic future to make your next move. While it may be tempting to take the current shelter-in-place mentality and translate it to your investment strategy, that kind of mindset is just setting you up for a round of losses now, followed by even greater uncertainty down the road.
You don’t have to be reckless, but you do have to adapt. And the sooner you do, the better off you’ll be.
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