S.E.C. Real Estate Observer

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Everyone wants to buy a “Value Add” apartment community. As a broker specializing in multifamily sales, I can’t tell you how many buyers want this. Let’s talk about what it means.

There are several ways an investor can add value to an apartment property, especially to a community with some age or one needing attention to deferred maintenance.

Changing Management: Sometimes a property is poorly managed, and one obvious way to add value is to improve the management. Believe it or not, there are still a few managers who don’t use computers at all to help manage their multifamily communities. Simply using management software, or even computerized bookkeeping or a spreadsheet, would vastly improve the information available to help understand the operations so the manager and/or owner can make decisions better and faster.

In other cases, while the management may use a computer to help manage the property, there are still areas in which improvements to the management function can help add value. Sometimes a new owner or manager simply pays attention to the basics, such as turning the units after residents move out, marketing the units for rent, getting folks to apply for units, doing the background checks, signing the leases, collecting the rent, sending out late notices on time, processing evictions, handling maintenance requests, taking care of preventive maintenance, and making sure the residents are happy campers.

I have seen a poorly managed property move from a vacancy rate of 40% to 95% in eight to ten months just because the new manager or owner paid attention to these basics.

Raising Rents: Sometimes the rents are lower than the market indicates they can be. Many folks who own or are looking at buying apartments do a simple market survey to see what the rents and occupancy rates are for the nearest 5 to 10 similar properties. They compare not only what rents are for the 1-, 2-, and 3-bedroom units with differing number of baths, but also the properties’ rent per square foot in each of the unit types. They pay attention to when each property was built and to the amenities, both for the community and for the interior of each unit. And they visit the other site managers to see what is working well for those who are more successful.

If the occupancy in your apartment community is consistently 100%, and the units attract word-of-mouth prospects because they know someone is getting ready to move out, this could be a hint that the rents may be too low.

Unit Improvements: Sometimes the rents in your community are at market compared with the other units all around you. It may be, however, that there are prospective renters who like the area but want a little bit nicer place. Sometimes you can spend an extra $2,000 or $3,000 on a turnover and find that there are residents in the area who will pay an extra $100 or more monthly for the upgraded unit. Often in lower- and moderate-income neighborhoods, the other apartment owners have not imagined that this is possible, and therefore this is not yet a choice that is available to renters. The beauty of this is that you can experiment with it one unit at a time with very little risk. Possible upgrades might include stainless steel appliances, hardwood or laminate floors, ceiling fans, new bathroom lighting, flooring, lavatories and vanities, new kitchen flooring, countertops and cabinets, an in-unit washer and dryer (but make sure to take into account that they may use more water), just to name a few. Let’s think about the economics of this. Spend $3,000 above and beyond the normal turnover cost. Raise the rent $100 per month due to the improvements. Assume expenses do not change as a result. This is $1,200 more income per year. At a cap rate of 8%, you have just increased the value of the unit by $15,000! Not a bad return on a $3,000 investment. The exact numbers will depend upon your situation, and you don’t need to make a major commitment to do the whole property. One unit at a time will work, and you can experiment with different items of improvement until you find the best combination of investment and return. A great byproduct of this approach is that you also attract a higher quality resident, and this may help with collections, evictions, and so on.

Reducing Expenses: Finding ways to reduce expenses in operating apartment communities can also be a great value-add component.  My favorite in this area is reducing consumption and therefore the cost of water and sewer. In my local area of Atlanta, we have very high water and sewer rates. There are things that can be done to reduce water consumption, such as changing out toilets, replacing shower heads with low-flow heads, and adding aerators to faucets, that will reduce this consumption and therefore the cost to the owner. In some cases, depending upon the configuration of the piping and local laws and regulations, it may make sense to submeter the water and let each resident pay the bill for his or her own consumption. Typically, in the beginning, you can afford to actually reduce the rent and still come out ahead. I know one apartment owner whose bill to submeter was about $300 per unit. If his water bill per unit was $50 per month, and he reduced it by 80% (assuming there was still 20% underground leakage he could not find), he would save $40 per month for each unit, or $480 annually. Again, using an 8% cap rate, this increases the value of the unit by $6,000 due to this one act alone!

You should also look at what type of exterior or common area lighting is being used and how you may be able to reduce costs by changing the type of fixtures and/or bulbs. The same may be true of heating and air conditioning in the common areas.

Also keep in mind that anything you can do to reduce the residents’ cost of utilities will tend to keep them in place instead of having them go elsewhere in search of lower utility costs, thus lowering turnover and therefore unit turnover expenses.

Preventive Maintenance and Increasing the Life of HVAC Systems: Better operators make sure that each HVAC unit in the property gets a new filter every two or three months, whether or not anyone thinks it needs one. The filter is replaced by the maintenance personnel as a standard procedure. While they are there, they also check every faucet and every toilet to make sure there are no active drips or running water. If they find a problem, they turn in a work order and then take care of it, thus reducing the water consumption. This also provides management the opportunity to get eyes on every unit every two or three months, allowing a more detailed inspection if warranted by the results of the routine, casual visit by the maintenance personnel.

These are a few ideas that may help you add value to your property or to the next apartment community you buy. Good luck!