The Real Estate Espresso Podcast

On today’s show we’re taking a closer look at supply chains in today’s environment. I’m now hearing daily reports of empty shelves at building supply stores. I’m seeing posts on social media of contractors who have placed orders for construction lumber with some of the big box lumber stores two weeks ago and still do not have their orders fulfilled. I experienced the same thing last year when purchasing cedar for a small project. The supplier took my order for material that was in stock. By the time the staff went to pick the inventory and fulfill the order, someone else had purchased the material. I found another source and I asked for a refund. A month later, I received a phone call that my order was ready and I could come and pick it up. Needless to say they were surprised to hear that I had cancelled the order and already received a refund. The higher cost of lumber is adding between $25,000-$30,000 to the cost of a new home, if you can find the material. Earlier this year, one of my general contractors submitted a change order asking if he could replace some roof decking with a superior plywood product, since the builder grade chipboard was out of stock. The price difference was nearly zero because the more commonly used product was in such short supply that it was actually more expensive than plywood. Naturally I said yes. The recent quotes I received for materials made me redevelop all of my budgeting spreadsheets. Some construction projects have been cancelled due to the high cost of construction. In my home market, a new $100M police station tender was withdrawn. The police station is needed and the budget is in place. But the high cost of construction seems to be extending beyond the cost of lumber. So the question is why have lumber prices gone up so much, especially at the retail level? Madison’s Lumber reporter has been publishing weekly since 1952. They’re one of the foremost authorities on the lumber industry. Canadian lumber is a significant contributor to the US construction industry. The pandemic lockdowns of 2020 closed saw mill plants for 6 weeks in Canada, and then when they re-opened they were cautious on ramping up production. Meanwhile, demand did not fall throughout the year. The retailers experienced a spike in price coming from the sawmills. The retailers had no time to react. They had no time to hedge with futures contracts. They were selling framing studs at $3.50 and then turning around and buying the replacement inventory from the sawmills at a higher price. They had never experienced that before. A sheet of plywood that used to sell for $35 is now $100. For the sawmills, the year 2020 was ideal. They want to close the year with the log yard full of new timber to cut and the yard with finished inventory empty. That’s exactly what happened. But the demand is so far in excess of supply, that sawmills are resorting to transporting finished product by truck instead of by rail. The transportation cost by truck is triple compared with rail. So the rail transport is going unused, and there are a shortage of truckers, which further pushes up the price for transportation of finished goods. The major builders are definitely taking steps to ensure security of supply. There is no question in my mind that builders are hoarding materials in order to secure supply. I’ve spoken with several major builders who have purchased the lumber for about 2,000 residential units at a time. That inventory will be consumed this year, but not next week. This shadow inventory follows classical economic cycles. At some point, production will expand to meet demand and the stockpiling behaviour will end. At that time, companies will stop placing excessive orders to protect their security of supply. They will consume their in-house inventory and demand for materials will drop despite continued construction activity.

On today’s show we’re talking about one of the hottest new trends in rental product. The single family home is part of the American dream. People want a place they can call home. But home ownership isn’t necessarily a perfect fit for everyone. Home prices for single family homes have risen to the point where owning is 40% more expensive on a monthly basis compared with renting. In the late 1990’s, the premium for ownership was only 20% compared with renting. Regardless of affordability, single family homes in a neighborhood are more desirable for young families compared with a multi-family apartment complex. An apartment complex can be a better fit for some people who prefer the lifestyle and amenities that only a rental complex can provide. If your apartment complex has a half million dollar swimming pool, recreation center and fitness room, you’re going to have a hard time replicating that experience in a single family home. Multi-family apartments are ideal from an investment standpoint. Property management is easily accomplished. Single family homes are designed to be unique, to express the individuality of the owner. Since no two homes are alike in an ideal world, the cost of maintaining single family homes will inherently be higher than apartments that can be standardized. None of the interior finishes are likely to be the same. The flooring will be different, paint colors, room sizes, appliances. So much will be different. But if you designed a community of single family homes or townhouses for rent, you might be able to marry the best of both worlds. You might deliver the end user experience of a single family home, combined with the management efficiency of the apartment complex. Not surprisingly, as investors have discovered the benefits of this product. Rental homes are more expensive to rent than apartments. As a result, you tend to attract a higher quality of tenant that can afford a more expensive product. A single family home will rent for several hundred dollars more per month than an apartment. When it comes to quality of rental product, you are also selecting the quality of your tenant. The poorest quality of tenant tends not to rent a more expensive product. The purpose built rental community has become a much more desirable investment for both investors and lenders. There are a number of new loan products that are aimed specifically at the single family home rental community. The tenants for these homes are typically young families with stable employment. Institutional investors are snapping up stabilized portfolios of single family home communities at relatively high prices. It’s no surprise then that we have started to design more of these communities as part of our own portfolio of assets.

On today’s show we’re going to do a deep dive on a technology tactic that has been very effective for us. If you are new to a market, you have a hard time developing the relationships and getting a deep local knowledge of what is happening in a market. You have a hard time getting to know the city councillors, the key people in the planning department, and the mayor. You might be developing your zoning application, but with next to zero knowledge of where various members of city council stand on specific issues. These meetings are usually recorded video conferences. They’re slow moving formal meetings with lots of procedures. There will be a roll call at the start of each meeting. The first several minutes of each meeting will be a review of the agenda, an introduction of the attendees, and a series of guidelines for how the meeting is to be conducted. These meetings can last anywhere from one hour to eight hours. There is a wealth of information contained in these meetings. Imagine if you had been in attendance at all of the city council meetings over the past year, or if you had been in attendance at all of the planning and zoning meetings over the past year. You would be much better equipped to submit your zoning application if you were armed with the experience of attending all of those meetings. You would know which city councillors are likely to object. You would learn what the effective arguments and counter arguments would be. You would also learn which arguments are likely to fail or be outright ignored. But unless you take the time and listen to those days of meetings, you would be at a distinct disadvantage to know the issues and opinions of the various committee members. Let’s say that you’re looking for relief on the height of your building. The zoning might limit your project to 40 feet and you need 45 feet to build your project. How do you know when and where the city has dealt with issues relating to height over the past two years? Do you really want to take the time to listen to two years of city council meetings in order to become an expert on heights? You could hire a consultant who speaks regularly with people in the planning office and who is a paid lobbyist to influence city council members on behalf of developers on various projects. These high priced consultants have assembled knowledge based on extensive involvement in the planning process over a multitude of projects. What if you, or someone in your own team could accelerate their level of knowledge in a fraction of the time? What if you could zero in on any time the topic of height restriction was uttered in a city council meeting. Even the most highly paid consultant could not effectively amass this level of knowledge. In our business we have married one of the technologies out of the world of podcasting to accelerate our access to the details of all of the city council meetings. We developed an internal system to effectively accelerate the capture of salient information from these hours and hours of meetings. If you apply transcription technology to a city council meeting instead of a podcast, you can produce a transcript that is fully searchable. So now you have a word document complete with time stamps. Let’s say that you’re interested in the height restrictions. You can search an entire 3 hour city council meeting for the word height. Changes are good, that if the word height is being used in a city council meeting, it is with reference to the height of a building. You can go back and see any time the word height was uttered in a city council meeting or a planning meeting in the past several years. In a matter of minutes you’re able to zero in and extract the relevant information by searching every single word that was uttered during that time. If you're interest in learning more about this technology, send me an email at info@victorjm.com

In the mid 1800’s the Steam locomotive opened up the Western part of the United States and Canada for that matter. This new technology made migration possible on a large scale. It became possible to move people and materials. Not surprisingly, communities opened up within a very short distance of these railway lines. It was a technology breakthrough that enabled migration. The year was 1902, American inventor Willis Carrier built what is considered the first modern electrical air conditioning unit. He installed it in a printing plant in Brooklyn to help maintain the printing equipment in better alignment with more consistent temperature and humidity. The migration of people from the cooler Northern latitudes to the Sunbelt of the US was largely made possible by the invention of the air conditioner. Think about it. Phoenix Arizona would not exist without two technical innovations. The air conditioner The redirection of the Colorado River into central Phoenix with the Central Arizona Project. Las Vegas Nevada would not exist without the air conditioner. Back in 1900, Miami Made County had a population of under 5,000 people. In fact Miami didn’t become a major city until after the second world war. By the 1960’s, Miami was adding 120 people a day. Without the air conditioner, Miami would not exist in the way that it does today. When you look at the urbanization trend over the past 30 years, we have seen more and more people move into the highest density cities. These moves have been largely driven by employment. New York City is one of the best examples. The question is, what is the next technology innovation that will change the way migration patterns happen? Will it be global internet coverage? Will it be the combination of internet and video conferencing technology like zoom? For the past several decades, proximity to the office has been the driving factor in choosing where to live. Location of employment has driven housing demand more than any other single factor. But what if the narrative has changed? What if you can live where you want to live and work where you want to work? You truly can have it all. Your manager can be sitting in an office in Manhattan and you can live on some acreage overlooking the mountains. That’s possible today, but somewhat unthinkable a few decades ago. The bigger question is what will happen to migration patterns. How will companies train staff for positions that can be virtual? Will it be important for new hires to start in the physical office environment in order to become indoctrinated in the company’s culture, before being allowed to work remote? Will the human contact of the traditional office become a competitive advantage? Or will the more agile virtual organizations be more competitive? Will the higher perceived quality of life that comes from working at home be perceived as an employment benefit? Will the time recovered from commuting to the office be seen as a life improvement? Will people work longer hours when they work from home because there are fewer boundaries between work life and home life? All of these remain open questions. But these are questions worth examining as you make investment decisions where the outcome is heavily influenced by the answer to these questions.

On today’s show we’re talking about how to negotiate with a seller who has no idea what is permitted on their property. There are numerous examples of properties that exist for historical reasons, but don’t comply with new zoning regulations. For example, new zoning regulations may have a minimum lot size, or perhaps new setback requirements. As long as you keep the existing structure within the existing envelope, you’re entitled to maintain the existing improvements. But as soon as you demolish the existing structure and attempt to build something new, then the new rules apply. In that case, you could be destroying significant value and ultimately render a parcel of land useless. I was speaking with the owner of a property this week and he didn’t know the zoning of his property. His property was below the minimum lot size and the existing house did not meet the minimum setbacks to the back property line, or the side property line. The property has no municipal services and would be too small to have both a water well and a septic system. A septic system requires about a 49 foot spacing between a water well and a septic system. It also requires the septic system be located 10 feet from the property line. Put all of this together and you have constraints that can no longer be met on the existing property. If his septic system needs to be replaced, the new permit will require compliance with the existing code. But if you don’t have enough land to comply, you have a problem. There is a paradox that cannot be satisfied on the existing property. You will need to somehow expand the property, or find a way to connect to municipal services. The property just became unusable and its value dropped like a stone. All too often, the existing home owner doesn’t understand these risks. They often don’t even know the zoning attached to their property. After all, why would they? The property has been in their family for generations. Their grandparents lived there. Their parents lived there. They spent summers there as a child. Nobody ever discussed zoning rules. There would be no reason to. Over the years, the zoning code was updated and the owners would have not even have been notified. Unless there was an act of condemnation, the seller of the property would have no idea what the current zoning restrictions would mean for their own property. In the old days, homes were built very close to the road. This was for practical reasons. Cars didn’t exist. Snow would have been a problem in the winter months, so a large setback from the road would have been reserved for only the wealthiest of property owners with an estate. As roads were built to accommodate cars, they were widened to deal with increased traffic levels and the setback to the front door of the house would have shrunk as more and more cars dominated daily life. These older homes built on stone foundations would never have contemplated what the future would bring. I’m currently in discussion with the seller of another property. They believe that a significant subdivision can be built on that land. If the zoning can be changed, then that’s true. But the final number of units will be limited by the the access to the major arterial road immediately in from t of the property. The seller can’t be an expert on what will be permitted. It’s not their field of expertise, and they have not attempted to get the kind of zoning density that a developer would want in a parcel of that size. Nevertheless, the seller and their agent speak with tremendous confidence about what can be built on the property. The agent aims to convince the buyer that they have the knowledge and that’s all the buyer should need. No need to worry. Zoning changes are done all the time and they’re completely routine, right?

Spencer Gray hails from Indianapolis, Indiana where he heads up Gray Capital. Through partnerships over the past six years, he now owns a share in over 9,000 apartments. On today's show we are talking about how to scale the organization. To learn more or to connect with Spencer, visit graycapitalllc.com

Mike Zlotnik (Big Mike) lives in NYC where he has been specializing in hotel to residential conversion projects nationwide. This is an interesting segment that predates the pandemic and has risen in importance since the amount of distress in the hospitality industry. To connect with Mike and to learn more, visit bigmikefund.com.

On today’s show we’re talking about the many items that could prevent a development project from being realized. Some of these will be obvious, and then others simply defy rational explanation. Think of today’s show as a 5 minute Master-class on land development. Whenever you are contemplating a development project, there are dozens of constraints that are being placed on the development of a property. Often, the city will say no to a project for reasons that are surprising. I’ve seen projects denied for lots of reasons. On today’s show we’re going to look at the top 10 reasons why projects are denied. Zoning Zoning is all about land use. We’re talking primary use and secondary uses. The city decides in its official plan where they want to locate certain types of development. Generally speaking you want to co-locate similar types of land use. You want your industrial lands clustered together, your commercial retail grouped together. If your proposed project doesn’t fit with the plan, it is probably going to be denied. 2. Density The infrastructure of the city is designed to accommodate a certain density in a given area. Density relates to numbers of people in a given area, as well as land coverage. 3. Traffic Impact Many times you will be asked to perform a traffic impact study for your new proposed project. The impact of your new development on the existing traffic patterns in the area is something that the municipality will take into account. 4. Lack of utility capacity Cities develop their plan for utilities based on density. Your concept for that new apartment complex may meet the zoning requirements. But if the city doesn’t have the sewer capacity for another 200 toilets and showers and washing machines, it doesn’t matter. It could take years before the city digs up the streets and installs a larger diameter pipe to carry the additional load of higher density. 5. Neighborhood opposition If your project could impact the neighbours, you may be asked to hold a neighborhood consultation. If enough of the neighbours object to your project, that might be enough to kill it. Politicians often ask a couple of questions. How much increase in tax revenue will result from the approval of the proposed project? Secondly, how many votes could we lose if we say yes to a proposed project. 6. Drainage If you take a parcel of raw land and start covering it with buildings and paved surfaces, you eliminate the ability for that land to absorb water. The water needs to go somewhere. If constructing your project will result in flooding your neighbours, then your project is dead. 7. Lack of School capacity If you’re going to build that new subdivision with 200 houses, a percentage of those homes will have school aged children. If the existing schools in the area are at capacity, adding homes will only make the problem worse. Schools take longer to plan and build than individual houses. So you may experience the refusal for your proposed project, simply because the schools don’t have the capacity. 8. Neighborhood Impact Separate from your neighbours opposing your project, your project might create problems for neighbours that they’re simply unaware of. I’ll give you a couple of examples. If your proposal is to build a tall building, your building might cast a shadow on residential properties nearby. Imagine if that sunny southern exposure window in a neighbour’s house never saw the sun again because there’s now a building in the way. 9. Architectural Guidelines Sometimes the community has designated an areas to maintain a certain architectural character. 10. Parking This is probably the biggest constraint on development projects. Parking takes up a lot of land. In fact, it takes often as much area as the living space.

On today’s show we are talking about the top three mistakes that I see people make in an initial meeting when they are meeting with a potential business prospect. Confusing introduction It’s a bit of a cliche, but you don’t get a second chance to make a first impression. That has to do with the way you look, the energy level you bring to the interaction, and the way you introduce yourself. Some people who are real estate investors also have other things going on in their lives. If you are here to talk real estate, then talk about real estate. Don’t lead with the fact that you sell life insurance. People have a tendency to put you in a box. Understand that this process is at play. They will make a decision in the first few minutes. They will either want to get to know you better, or they will be wondering how long before they can politely talk to someone else. You don’t want to lie or mislead. If you are a doctor, then start with the fact that you invest in real estate. You can then casually mention that you also see patients in the afternoons. If you are are socially insecure, then this is something to work on. Becoming confident in social situations can be an acquired skill, developed with training and mastered with practice.  If you confuse the other party, the chances of them doing business with you drop dramatically. A confused mind doesn’t buy. 2) Talking too much If you spend more than 30% of the time talking, you are probably talking too much. If you are answering a question, offer an answer that is a conversation starter. Let’s say that you are tempted to talk about one of your projects. You might be building a small group of houses. Rather than talking just about the houses you are building, you can frame your answer in a context. That leaves an opening to talk further about the building project, or the context. So you might say something like, We’ve observed the huge reduction in inventory for sale, combined with the fall in affordability for single family homes. So we made the decision to reduce the size of the homes to reduce material cost, at the same time that prices are rising. That means that we have the potential to increase the profit margin, but more importantly reduce the risk to the downside if market conditions change quickly in the next 12 months as they always could. So then the other side would almost be compelled to ask where you made decisions to reduce cost. Maybe they take the conversation in the direction of the economy. Maybe they talk about decisions they have made in response to the current market conditions. You have the possibility of establishing a real connection with the person you just met. But if you just talk about yourself, they will lose interest quickly. If you launch into a speech about how you designed the homes, you will probably lose their interest very quickly. There is a natural cadence to conversation that is a little like a game of tennis. You want to pass the ball back and forth over the net and keep the rally going. If you run off with the ball and keep it on your side of the net, then it ceases to be a rally. It ceases to be a conversation. Some people talk too much when they get nervous. It’s time to truly listen.  3) Don’t ask questions If you are not being curious, how can you possibly have a chance to demonstrate that you are interested in the other party. But most important, you don’t get to dig down a few layers and develop a relationship. There is an art to asking questions. Some people ask questions in the way a prosecutor would cross examine a witness. You may know people who do that. We are not talking about that kind of questioning. We’re talking about establishing rapport. Finding out what you have in common, what you can both relate to. Questions that are too specific can sound like an inquisition too early in a relationship.

On today’s show we are talking about how market cycles form and the effect it can have on the economy and a business. How do you know when you are in a bubble and how do you protect against catastrophe when you are surrounded by insane market conditions? Market cycles are often driven by an irrational fear. We saw it last year during the early weeks of the pandemic. Grocery store shelves were emptied of paper products, of hand sanitizer, of cleaning supplies. Last night I went to the grocery store and the shelves were full of toilet paper. Not only that, toilet paper had taken over the seasonal shelf that last week had been full of Easter candy. Like many, we had a three month supply of toilet paper. Are we using more toilet paper than last year? Clearly the answer is no. So it stands to reason that if toilet paper sales in 2020 were $2B above 2019, then at some point toilet paper sales will fall to $2B below the average. That represents a fall of $4B from the peak sales in 2020. You’re probably thinking ok that’s toilet paper. What does that have to do with my business? What does that have to do with real estate? The market conditions a decade ago are a distant memory. Back then you could go to auctions on the court house steps and pick up half a dozen distressed properties over your lunch hour. You could buy properties for 60% less than construction cost. The population had not changed. People still needed a place to live. How did the demand evaporate and create these strange market conditions? The question is, with new supply coming into the market at the rate of about 1.2-1.5 million homes a year in the United States, and roughly 1/4 million housing starts in Canada, will there be enough demand to absorb the new supply in the locations where that supply is being added? This is the classic question of assessing the headwinds and tailwinds in a market segment. Unlike toilet paper, which can easily be shipped to meet the demand, houses are firmly planted in the ground. You could have a housing boom in Fort Lauderdale at the same time that you experience a housing recession in Detroit. That has more to do with migration trends than it does population growth. The lack of supply could be real, or perhaps artificial. Was there really a lack of toilet paper last year? Not really. People were hoarding toilet paper. They were buying toilet paper to hold. They were not selling it, and they were not using it any faster than normal. The question is, are people buying more real estate than they need and just holding it. How many people from the NE USA are buying second homes in Florida or the Carolinas? Those condos near the beach sit empty for most of the year. Perhaps they compete with hotels in the short term rental market. That does not constitute new household formation, but it does absorb inventory. How many young adults under age 30 are still living at home with their parents? This is a shocking statistic. In February of 2020, 47% of young adults between 18-29 were living with at least one parent. By July of 2020, that number had grown to 52% of young adults between 18-29 were living with their parents. Those are numbers that have not been seen since the Great Depression in the 1930’s . So what household formation trends can we expect? We know that the median age of first marriage has grown by two years in the past decade. The median age for men is 30 and 28 for women. So when we go from a shortage of toilet paper to a surplus, could you have predicted those market conditions? When real estate markets will go from low inventory to a surplus, what forces will drive that shift? Could you have seen those forces in hindsight?