Insight #10: Explore a Low-Capital Value-Add Strategy

By Jay Parsons, Greg Willett and Tracy Saffos

For investors looking for a strong return at manageable risk over the last decade, one strategy stood above the rest: Acquire an older apartment property, spend millions more on renovations, then charge higher rents – driving up asset value.

That traditional value-add strategy has worked exceptionally well for investors on thousands of properties since 2010. Many have since been flipped for a strong profit.

In 2021, those deals are harder to come by. Investors are finding that sellers are pricing unrenovated properties at post-renovated prices, squeezing pro formas to less attractive margins. Additionally, construction material costs are skyrocketing – further complicating the math. And yet, surveys show continued investor thirst for apartment investment.

How can investors find acceptable returns in a market where fewer traditional value-adds make sense?

Some investors are already shifting to a new, fast-growing category: the low-capital value-add.

What Is a Low-Capital Value-Add?

A low-capital value-add is what the name implies: a value-add investment without the massive capital outlay for construction. The deals drive up value by attacking common operational inefficiencies that stifle asset performance, focusing on 2 lower-cost investments: service and technology.

Low-capital value-adds bank on proven, NOI-boosting strategies long-adopted by leading institutional investors, forward-thinking owners and publicly traded REITs but still often ignored by some investors prioritizing capital-intensive projects and by long-term holders content with traditional operations.

A low-capital value-add may still involve some capital costs – primarily for deferred maintenance, basic curb appeal and other critical upgrades. But an ideal asset for this approach is one with units requiring minimal immediate spend.

The appeal of the low-capital value-add is that it puts intense focus on operational efficiency and optimizing performance. Neither of these investment pillars require adapting unproven tools.

Pillar #1: Service

In recent years, apartment owners and managers have become laser-focused on reputation management. J Turner Research has led the way with its ORA Score becoming a staple of management vernacular and broker packets.

The idea is simple: We now have ways to objectively measure resident satisfaction, and that data correlates with asset performance. Happier renters are often more likely to renew their leases and more willing to post positive reviews of your community – translating to an increased pool of prospective renters. A more desirable property can charge higher rent and maintain higher occupancy, driving up NOI.

How can you drive up reputation scores? Focus on service with 4 key steps.

1. Consider bringing in an Apartment Life team, which focuses on high-touch resident care and relationship building.
2. Leverage proven tools like Community Rewards that drive resident engagement by incentivizing participation in events, resident portals and online reviews.
3. Challenge your on-site teams to get “back to the basics” while respecting social distancing – connecting with residents virtually, sending them handwritten notes checking in, responding quickly to service requests, and putting renewed focus on curb appeal.
4. Ensure service doesn’t shut down when the leasing office closes for the night. Leverage resident portals and contact centers that provide 24/7 service for filing or checking the status of work orders, paying rent, reserving amenity spaces, signing a renewal, or interacting with other residents.

Pillar #2: Technology

There’s been no shortage of innovation in the multifamily space, yet the apartment business invests less in technology compared to other sectors. The buffet of platforms, apps and widgets has made it difficult for apartment operators to differentiate between tools with proven ROI … and those that are just “cool” but offer minimal real value.

How do you identify proven technologies as part of a low-capital value-add strategy? Here are 4 tips:

1. Aligning with Pillar #1 on service, focus on technologies like Community Rewards or resident portals that are proven to drive up resident satisfaction – which, in turn, drive higher retention, more leads and better NOI.
2. Adopt tools that empower more efficient pricing. Revenue management is proven to drive outperformance in all types of assets, all strategies, all markets and all market conditions. Revenue management is not only about setting rents but about optimizing revenue performance through smart lease expiration management and revenue-neutral matrix pricing – minimizing vacant days between leases and giving renters choice.
3. Invest in technology that is interconnected not just integrated. Integrations send data back and forth. Interconnectivity fuels informed learning and cohesive execution between those tools. For example: Pricing, screening, marketing and leasing are 4 critical levers. But how does one impact another? Drive cohesive strategic execution to optimize pricing, minimize costs per lead, reduce move-out loss and improve lead-to-lease ratios.
4. Consider technologies that drive ancillary revenue. In years past, basics like parking comprised the bulk of the ancillary revenue line on the balance sheet. But leading operators are getting much more sophisticated in finding opportunities to drive revenue beyond the base rent. Investing in IoT and communitywide, centralized Wi-Fi can add appeal and additional revenue. And it pays to leverage revenue management tools that fine-tune amenity pricing to remove the guesswork.

The Value-Add of the Future

While they’re more challenging in 2021, traditional capital-intensive value-adds are not going away completely. Some deals will still make sense – and some are so dated that they simply demand upgrades. Overall value-add activity will climb back at some point as pricing rebalances.

In the meantime, the low-capital value-add approach empowers you to drive up asset performance – and value – in ways that will become a staple of any value-add program in the future.

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