Multifamily Building Business Fundamentally Solid

Click here to download the 2007 Builder 100 Top 50 Multifamily builders list. (PDF)

Go ahead. Call it a recession, a correction, a bottoming out, or maybe a dry spell. Just don’t call it universal. As the for-sale market of single-family homes and condominiums continues to struggle, builders of multifamily apartment communities are finally getting access to land, would-be home buyers are staying put, and legions of the foreclosed are returning to the rental pool. Residential construction in the tank, you say? Not on the for-rent side of the fence.

While last year’s 309,200 multifamily starts reported by the NAHB doesn’t match the record years of the ’80s, multifamily builders still see strong underlying market fundamentals and positive demographics powering the rental side of the industry for at least the next five years. Rents are up, vacancies are down, and property managers are beginning to experience the first wave of Gen-Y renters and see effects of the fast-pace growth in the ­immigrant renter demographic. Stringent credit underwriting is worrisome, as is the conversion of single-family and condo stock to competitive rentals, but for well-established and well-­positioned players on the 2007 top 50 multifamily rental builders, times are undeniably good.

High-End Markets

“The multifamily business is probably fundamentally as solid as I have seen it in the 35 years I’ve been in the business,” attests Dean Henry, president of Foster City, Calif.–based Legacy Partners Residential, No. 24 on the list. “Across the industry, our rents are rising, and by and large we are not overbuilding the markets.” Legacy, which reported 2007 starts of 1,743, had just under $600 million involved in development last year, Henry says. The company will look to pull the trigger on 884 units this year in key markets that include most major metros in California and Texas as well as in Seattle, which Henry says could be “the best apartment market in the country right now.”

He’ll get no argument from AvalonBay’s senior vice president of West Coast development, Steve Wilson, who reports record performance in 2007 with well over $1 billion worth of AvalonBay (No. 11) product under construction in his markets. “Los Angeles was solid, the Bay Area was solid, and then you hit Seattle, which has got to be the No. 1 market in the country,” Wilson says. “It all came together in 2007. It was our highest production year ever.”

Multifamily builders continue to find success with higher-end luxury and Class-A product, a trend that is expected to continue as investors push for urban infill development of mixed-use and transit-oriented communities that offer renters a live/work/play environment. “Investors have been pushing us to infill for the past five years,” says Ron Terwilliger, CEO of Atlanta-based Trammell Crow Residential. “Those [coastal and infill sites] cost a lot more, but they will continue to be a favorite, and there are still plenty of people willing to pay $250,000 to $400,000 per unit for that type of product.” While Trammell Crow continues to lead the industry in construction activity (ranked No. 1), outpacing its closest multifamily-centric rival builder by several thousand units, Terwilliger maintains that today’s successful multifamily builders need to be profit-focused rather than volume driven.

Lower-End Costs

To that end, Trammell Crow continues to push for wood-framed podium-and-wrap construction where feasible in an attempt to take advantage of recent mitigation—and, in certain markets, deflation—of both labor and materials costs as general contractors scramble for work and lumber sellers look for new markets. “Like most people, as long as wood frame enjoys the competitive advantage, we’ll do it even to five stories where code allows,” Terwilliger says.

At Greenbelt, Md.–based The Bozzuto Group (No. 15), president Tom Bozzuto credits the softening of construction costs as the second-best market trend affecting multifamily ­construction in 2007, just behind the sudden availability of land with condo builders no longer at the bidding table. Bozzuto also thinks that capital availability throughout the first half of 2007 contributed greatly to construction activity, but sees lasting affects of the credit crunch for some time. “There still seems to be plenty of money, but investors are being particularly cautious,” Bozzuto says. “That will clearly work to the advantage of those who have established capital relationships. The entire market is going to be much more selective in terms of established track records before making investment decisions.”

Prime Positions

That puts multifamily builders with brand name sponsorship or pre-secured development capital in a great place while the credit markets unwind. “Fortunately, what we are going to do in ’08, we financed in ’07 prior to the debt crisis,” explains Henry. “My worry, if I have one, is the availability of construction financing in 2009 and 2010, but the business is still fundamentally very good.”

While construction capital may be harder to come by, mortgage availability for home buyers looks to be equally challenging. As the broader residential markets eat up inventory overhang, the shadow market of single-family and condo conversions to rental is also likely to fade away, buoying apartment market fundamentals and prospects for growth.

“The market has transitioned,” says Terwilliger, who expects fewer multifamily starts this year compared to 2007 as absorption increases but sees upward trajectory in construction activity from there. “We don’t think the condo business will be back until sometime in 2010, and in the meantime we are very bullish about renter ­demographics. It is a bright outlook for the multifamily rental industry starting this year and well into 2012.”