After careful consideration and the evaluation of many prospective acquisitions, Wren Davis Capital closed on a 17-unit multifamily investment property in the Hampton Roads, Virginia area in August 2020. The process and initial contact with the seller of this particular property began in the last week of February 2020, just two weeks before Virginia entered its stay-at-home order. With extensive research and planning, Wren Davis formulated a strategic way forward, which took the numerous complications of the pandemic into deep consideration. This strategic way forward enabled us to feel comfortable with the risks in pursuit of the greater benefits of acquiring a multifamily investment. In this edition of the WD Chronicle, we will explore the experience of purchasing a multifamily investment property during a global pandemic, detail what difficulties we had to overcome, and even highlight how the pandemic helped us secure this investment for our portfolio.
The Unknowns:
How long will lockdowns last? Will people be able to pay their rent? What will happen to the vacancy rates? How long will eviction moratoriums last? Will we be able to safely tour properties? These, and many others, were questions we were forced to ask ourselves when deciding whether to proceed in this difficult business climate. Ultimately it boiled down to one thing - is now the right time to invest? At Wren Davis Capital we pondered this question for quite a while, and for several months, the answer was no.
As the pandemic continued to spread, restrictions continued to mount, unemployment continued to rise, and the health of the economy remained highly uncertain. While multifamily investments represent one of the most stable and lucrative ways to build wealth, like all investments, they carry inherent risks, and the pandemic added to the unknown unknowns. After taking the time to assess how these effects would impact the economy and real estate market, it became evident that, at least during the early stages of the pandemic, listing prices were not adjusted to balance the added risks stemming from this uncertainty. It was not until confidence began to return to the market that Wren Davis decided to proceed with an acquisition of a new a multifamily property.
When to proceed?
Eventually, after three months of waiting, all the while keeping warm contact with several brokers and sellers, we decided the time had come to move forward with seriously evaluating several properties that had been on our radar. Why did we decide to do so at the end of May? We followed the data. The unemployment rate in our market drastically spiked at the onset of the lockdown orders, on-pace with rest of the country, peaking at 12.1%* in April 2020 (for reference, this remained below the April 2020 national average of 14.4%).
After this spike, however, we saw the unemployment rate drop to 10% in May, and the rate continued to decline in the following months. Ultimately we decided to move forward with seriously evaluating new acquisition prospects after assessing these trends and other key economic indicators, which suggested a burgeoning V-shaped economic recovery. Additionally, our initial pause paid a great dividend because we were able to monitor how different assets under consideration performed during a period of extreme uncertainty.
For example, after having initial discussions and a Letter of Intent (LOI) accepted on a multifamily property that relied largely on the neighboring university for tenancy, we decided it was necessary to put a pause on proceeding with this contract until it became clearer what the future of universities would be for the Summer and Fall semesters. As time passed and the prospect of in-class schooling remained unclear, we decided to pass on that specific opportunity due to our expectation of higher than normal vacancy levels in properties that had a large student base.
Instead, we focused our efforts on stable middle-class properties whose rents were below market value. As we continued our search, we began to identify deals that fit our criteria; Were the tenants paying rent? Yes. Did vacancies go up due to the pandemic? No. Were there discounts on purchase prices in the market with minimal competition from other prospective buyers? Yes. To the latter criteria, Wren Davis felt compelled to act quickly because, as the United States worked to quickly establish a ‘new normal,’ the window of opportunity to take advantage of the unusually low level of competition was sure to be short.
The Good and the Bad
While Wren Davis Capital transitioned back to actively looking to acquire the right properties, the new world of COVID-19 brought with it both challenges and opportunities to add strong assets to our portfolio.
Regarding challenges, after coming under contract, physical due diligence posed several concerns and obstacles. How can we conduct the necessary inspections to ensure a sound investment while also protecting the Wren Davis team and tenants? This ultimately came down to putting in place the necessary precautions to ensure all stakeholders remained comfortable. One of the ways we achieved this was to conduct all of the in-person due diligence in a short period.
On this 17-unit project specifically, it meant having the physical, termite/moisture, bank, appraisal, and other inspections and walkthroughs take place on the same day. This facilitated superior monitoring of safety measures to ensure that each contractor and their team members wore masks, gloves, and shoe guards when entering tenants’ homes.
Another hurdle we faced and overcame was securing financing. Many lenders had similarly hit pause during this period to assess how the pandemic would affect properties and the market. This was particularly evident when the lender we had chosen to work with informed us well into the due diligence period that they would only finance at an additional 5% less loan to value (LTV) than originally quoted, thereby unexpectedly raising our down payment.
While the pandemic brought these and other obstacles, it also presented positive opportunities that Wren Davis Capital was able to seize upon. We had the benefit of working directly with the seller, who had signed a contract with a broker but had yet to list the property on the market. As a result, there was no competition to drive up the purchase price and the seller was comfortable selling the property at a discount in order to to work with a buyer who was willing to take all the necessary COVID precautions and see the deal through to the end. Similarly, while the uncertainty caused banks to decrease the LTV they were loaning at, interest rates continued to drop as the federal reserve brought the target rate down to record levels.
Looking Ahead
As this blog post is being published in September 2020, we are still in the middle of the biggest public health crisis of the century. While there remains a healthy degree of uncertainty, we have structured our projections with a heavy amount of conservative underwriting to hedge against this risk. Even with economic vacancy rates running at five times the average, our investment will still make preferred returns. Similarly, additional capital reserves have been set aside to protect the asset and provide a strong foundation for our future endeavors. While a degree of uncertainty will always be present and especially so during these trying times, our acquisition was made strategically and is set it up for success even in the worst of circumstances while maintaining tremendous upside when the COVID crisis subsides.
We encourage you to check back in as we provide updates on the performance of this asset.
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