6 minute read
Why All the Hype Over the Manufactured Housing Asset Class?
Manufactured Housing Community Cap Rates Explained
by James Cook
AAs an 18-year-old, newly licensed real estate agent, I stumbled across the manufactured housing asset class. Like most agents, I started in residential but quickly realized that it wasn’t nearly as rational or logical as I wished. On the other hand, I was very attracted to income-producing real estate investments and analyzing returns.
When I started prospecting commercial real estate owners, I came across an owner with a small portfolio of single-family rentals and a mobile home park. At the time, he was considering selling the park and moving out of Florida, so I started analyzing his property. My broker at the time, who had influenced me to get into real estate, was handling mostly local deals, but also had experience as a developer. As soon as he saw the mobile home park designation, he immediately started trying to run change of use scenarios to multi-family. The curiosity in me forced me to »
ask the owner “how did the property perform when the economy wasn’t as strong?” to which he responded, “it was full.” It was at that moment that I discovered what I would later learn was “Asymmetrical Investing”. In other words, in a good economy he was full and there was a potential for even a higher and better use, but in a bad economy the investment was still performing well.
As I have stated many times, I was young and naive with no real perspective, but the older I get, institutions. As I touched on in a former article, when I started you could count on your hands, maybe even one, the number of true institutional players in the industry. We had the REITs, GE Capital, and a couple smart pension funds and private equity shops. But to most folks in the mainstream investment world, “mobile home park” was a “four-letter-word”, and those of us in the industry were somewhat embarrassed to admit we were in it. Now, it is almost every week my firm
the more the world changes, the economy evolves, and the black swan events continue to happen, the smarter I look.
I worked with my first MHC transaction in 2005 and was focused full-time on the asset class by 2007. Since the economy crashed in the second half of 2008, we have consistently seen a confluence of trends and constantly attacking of the four main food groups of commercial real estate. Through it all, the MH asset class has continued to perform making it more relevant and driving higher demand from even bigger is contacted by a new billion-dollar, or even trillion-dollar, money manager looking for an entry point into the industry.
Meeting the investment demand has been tough, but there continues to be a stream of families reaching the tipping point and concluding that their next generation is better off going their own way than trying to split this asset 2, 3 or 6 more ways. Inherently, one family member is asked to run the business for the benefit of them all but only receives 5-10% of the upside, which they determine isn’t worth the additional effort and work they are putting in. So, the trend of seeing the founding families, who built these great communities, sell and more and more institutions acquiring them has continued. Today, there are more than 60 billion/ trillion-dollar family offices, money managers, sovereign wealth funds, PE firms, REITs, etc. all actively trying to grow their footprint or portfolios in the industry. With this trend, and newfound love, we have seen the asset class as a whole essentially get a “credit upgrade.” We have gone from being in most funds’ “opportunistic” bucket to essentially a “core” investment bucket.
When I entered the industry, there were still individual investors calling me to buy their first park because they had heard it was a “cash cow”. Today, those investors don’t even waste their time trying to buy the larger communities because they have gotten so competitive, and the juice has been mostly squeezed out. To be more technical, we have seen cap rates go from 6-7% in primary markets fifteen years ago to, in some cases, below 3%. I am involved in multiple deals in the 2% and 3% cap rate range today. I used to say the game was how close to a 4% cap rate a quality, institutional asset could sell and today it seems it is how far below a 4% cap it can go depending on the upside. Realistically, there is no one “best buyer” either. We find that every time we run a process, even for similar assets, a different group justifies paying more than the one that won the last deal. There are so many motivations, from 1031s to freshly raised capital, to economies of scale with another property in the market, to just seeing the potential
or value where the last group doesn’t. So, we have learned the only way to know the true value is to do a proper call for offers, and we are often surprised at how aggressive the bidding gets.
There are many challenges facing operators of all sizes – primarily, the continuous threat of increased government regulation. Sadly, I believe that if the current trend of “big government” solutions continues, we will eventually have rent control in almost every market in almost every state. You realize quickly in this business that government is the biggest driver of costs, which creates the very environment for rising rents they will eventually use as the excuse to regulate the industry. Between the overregulation on home construction and home setup, as well as the discrimination against any new MH community development, it is becoming more difficult for our industry to operate efficiently. As the old Governor of Florida, Rick Scott, once told me, government is your biggest threat and competition as a private business owner.
The second area where operators face challenges is in the labor market. Since the pandemic started, people have been disincentivized from re-entering the workforce by the increased amount and availability of unemployment benefits. I have heard of plenty of cases where a former employee is being paid $40-50k on an annualized basis in state and federal benefits by remaining unemployed. I remember not long ago that was a good living. This means in order to find the staff to build our homes or manage and maintain our communities, we are having to compete with the government and unemployment. These challenges combined with threats of increasing capital gains tax rate to nearly half of all you have worked for, in many cases a generation or two of effort, and threats of eliminating 1031 exchanges have created a difficult environment to navigate. It seems from every angle, Rick was right; the government is our biggest competitor. Somewhere along the way if interest rates finally rise, and do so precipitously, many of the deals being done today could be deeply underwater. For example, the effect of going from a 4% cap to a 5% cap on $1,000,000 in NOI is a reduction in value from $25,000,000 to $20,000,000. For now, as long as interest rates stay low, wages keep rising, and state and local governments continue to be anti-MH, communities will continue to be more and more valuable. MHV
James Cook is the national director of brokerage for Yale Realty and Capital Advisors. He entered the manufactured housing and RV property asset class in 2005 as a licensed agent listing homes for a local investor. In 2012, he founded the fully integrated finance and brokerage shop and has accumulated transaction exceeding $1 billion in value. He offers perspective at a national level, providing insight into the niche industry.
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