Energy Efficiency and Impact On Portland Area Apartment Values

Mark D. Barry
Energy Trust of Oregon

I Introduction and Overview – Topics to Cover

Ӣ Overview of the economy
Ӣ Overview of current apartment market conditions РYTD 2009 summary
Ӣ Inventory of residential housing
Ӣ How energy efficiency fit into the overall scheme
Ӣ Impact on value Рlandlord perspective
Ӣ Impact on value Рtenants perspective
Ӣ Due diligence and verification of costs
Ӣ Case studies
Ӣ Conclusion

II Overview of the Economy

Ӣ 9.4% national unemployment
Ӣ 12.1% Portland unemployment
Ӣ Loss of 44,000 jobs in Portland area in the last year

III Overview of Current Apartment Market Conditions – YTD 2009 Summary

Ӣ Slow sales activity and a lack of buyers
Ӣ Shift to a buyers market
Ӣ Some decline in values
Ӣ Increasing apartment vacancies due to the economy; concessions prevalent in many markets
Ӣ YTD 2009 income showing a decline in about half of the properties I have seen over the last 60 days

IV Inventory of Residential Housing

Ӣ 875,000 housing units in Portland Metro area
Ӣ 260,000 apartments, or 30% of our housing inventory
Ӣ Major eras of apartment construction: 1912-1915, 1924-1930, 1946-1949, 1963-1980, 1985-1990, 1995-2000, 2003-2006
Ӣ Apartment construction of the different eras show social mores, transportastion systems, type of construction, use of different materials, availability of different heat sources, the strength of the economy, and attitudes on land use planning
Ӣ Modern Garden Apartment

• Started in 1963-1964; transition from Post WW II units to modern garden apartment
• 30% of the Portland area apartment inventory built from 1963 to 1980, or 75,000 to 80,000 apartments
• Local S & L’s and local banks were the predominant lenders
• Era of Bob Randall, Don Pollock, Stan Culver, Bing Harris, Ernie Pilluso, etc.
• 1972: permits for 10,000 apartment units, a record year for apartment permits

Ӣ Units Built from 1963 to 1980

• Before more stringent insulation and energy efficiency codes
• Many boom years
• Inexpensive construction with T-111 siding, aluminum single pane windows, mass produced cabinets, and energy inefficiency

Ӣ Units Built from 1985-1991

• Apartment construction took off after the recession
• Beginning of insulated windows being used; metal aluminum sliders
• Better weather striping
• Washer/dryer hookups, fireplaces, two baths

”¢ Units Built from since mid 1990’s:

• Better insulation, vinyl windows

V How Energy Efficiency Fits Into The Overall Scheme

Ӣ Not as simple as in single family; Money magazine article on payback for single family improvements:

• Kitchen remodel: 80% payback
• Extra bath: 70% payback
• New deck: 90% payback

Ӣ Not always a question of simple cost benefit analysis, but a question of keeping your property competitive

• Roof: an old roof at the end of it’s life looks bad, can cause leaks; this is a question of replacing an old worn out components, and not cost benefit analysis
• Exterior Paint: When a property needs paint it looks bad, detracts from the appeal, and can impact rents and vacancies
• Asphalt: old asphalt with cracks, settlement, potholes detracts from the appeal
• Old carpet and old appliances: improvements and replacements are needed to stay even and remain competitive in the market

Ӣ Windows/Insulation/Energy Upgrades: also not always a question of simple cost benefit analysis, but a question of keeping your property competitive, and avoiding higher vacancies and lower rents

VI Impact on Value – Landlords Perspective

Ӣ Typical Landlord Utility Costs: water, sewer, garbage, common area electric: these expenses will typically run from $40 to $120 per unit per month

• $40 Per unit Per Month: many one bedroom units, modest unit sizes, fewer persons per unit, mostly single person households, efficiently run, energy/utility conservation, limited landscaping, lack of a swimming pool, low cost municipality
• $120 Per Unit Per Month: large two and three bedroom units, maybe some four bedroom units, lots of families, many persons per units, washer dryer in unit, possibly a swimming pool, high cost municipality

Ӣ Water and Sewer: biggest expense Р$28 to $75 per unit per month
Ӣ Garbage: $8 to $30 per unit per month; not too much you can do; much of the cost is based on the municipality; compactors can save 30% to 50%, but high labor costs, need a certain project size, and the site must be able to accommodate a retrofit
Ӣ Electric: $4 to $15 per unit per month for common area electric
Ӣ Utility Bill Back

• Lots of properties going to this
• Way of recovering some costs
• Some success in a good market
• Many formulas

1. Flat fee per unit per month
2. Based on number of toilets
3. Based on number of occupants per unit
4. Based on unit size
5. Based on number of bedrooms

• Problems with utility bill back

1. A form of rent increase
2. Takes a long time to fully implement based on leases
3. High administrative costs
4. Big “slippage” of income

VII Impact on Value – Tenants Perspective

Ӣ Even a bigger issue than landlords cost
Ӣ Tenants only have so big a budget for housing costs, including rent and utilities
Ӣ Higher rent can offset lower utilities; higher utilities can offset lower rents

VIII Due Diligence and Verification of Costs

Ӣ Verify every possible expense; the operating statements may not reflect actual costs

• Property taxes: get from county; go over any new bond measures and other items that will increase expenses
• Insurance: get copy of binder with actual expense; get bids
• Off site management: verify with management company and operating statements
• Administration: verify with management company and operating statements; don’t underestimate this cost
• On site management: verify with management company and operating statements; included benefits, payroll related costs, and rent credit
• Utilities:

1. Electric: work up a spread sheet on historical expenses; know typical ratios; ask questions if this expense has gone up or down, or is outside the range; get actual bills
2. Water and Sewer: work up a spread sheet on historical expenses; know typical ratios; ask questions if this expense has gone up or down, or is outside the range; get actual bills
3. Garbage: work up a spread sheet on historical expenses; know typical ratios; ask questions if this expense has gone up or down, or is outside the range; get actual bills; consider a different capacity dumpster and fewer or more pickups

Ӣ Energy Efficiency: A knowledgeable buyer, knowledgeable broker, a good appraiser, and a good bank underwriter will know the range where these expense ratios should be, and recognize value if lower expenses can be verified

IX Case Studies

Case Study #1

Ӣ Subject property: 84 unit Washington County garden apartment built in 1972
Ӣ 8 sales used which showed the high end and low end

• High end: well kept, many replacements, stable income, sold at $63,500 per unit, $86 per Sq. Ft, and a 5.7% cap rate
• Low end: marginal upkeep, more limited replacements and capital improvements, not performing; sold at $57,500 per unit, $78 per Sq. Ft, and a 6.6% cap rate

Ӣ $6,500 per unit difference in value can go a long way to improving the property with marginal upkeep

Case Study #2

Ӣ Subject property: 9 unit, centrally heated single level WW II era apartment built in 1943, and located by the N. Interstate light rail
Ӣ Some improvement in the neighborhood, and many off site improvements by the city in the area
Ӣ Utility costs for water, sewer, garbage, heat, hot water, and common area electric:

• 2006: $11,391
• 2007: $9,298
• 2008: $7,178
• Appraisal forecast: $7,500

Ӣ Improvements completed:

• New high efficiency central heating and hot water system, with a cost of $12,600
• All new low flush toilets at an approximate cost of $375 each, or $3,375; 1.6 gallons per flush, while older models can use 3.5 – 7.0 gallons.
• Low flow shower heads
• Lighting efficiency improvements

Ӣ Impact on value:

• $3,900 annual savings on utility costs divided by a 6.0% cap rate = $65,000 vs. estimated costs of around $20,000

Case Study #3

Ӣ Subject property: 11 unit, 1 & 2 story outer Southeast Portland area apartment built in 1963
Ӣ Landlord has badly let the property slip, with poor maintenance, a rough parking lot, the landscape let go, lack of any basic weather-stripping or weatherization efforts
Ӣ Tenants reported their electric bill was from $140 to $200 per month in the winter
Ӣ Property had the lowest rents in the area; typical rents were $515 for a one bedroom vs. an average of $545 for the rental comps; and $600 for a two bedroom vs. $640 for the rental comps
Ӣ Loss of Income: About $4,800 per year. Assuming a multiplier of 7.50 times the gross annual income, the property is worth about $36,000 less than what it would be worth with a more attention to detail, or around $3,300 per unit.

Case Study #4

Ӣ Subject property: 21 unit, three story, 1930 built masonry walkup apartment; centrally heated and located in the urban Southeast Portland area.
Ӣ The natural gas costs for heat and hot water prior to the conversion was about $15,000. After the conversion, the natural gas costs for central hot water and heat in vacant units was around $4,000. The rent was dropped by around $15 per unit to partially compensate for the added expense of the heat being paid by the tenant.
Ӣ The total impact of the heat conversion was higher net income of around $7,000 per year. Cap rates at the time for comparable properties were around 5.00%, or a gain of $140,000 in value. The cost of the heat conversion was $108,988.

X Conclusions

Ӣ Utilities have been going up at double digit rates
Ӣ Landlords need to deal with these issues starting with low cost and no cost measures
Ӣ Two types of investors:

• Cash flow investor who is reluctant to make capital improvements, but whose property might be slipping in being competitive; this will eventually catch up with the investor
• Investor who enhance the long term value of the asset: they pay the price in the short run, and pay for it with reduced cash flow, but enhance the long term value of the asset.

Ӣ While there are energy saving methods out there, it is really a question of incorporating this as part of your overall management program
Ӣ Most owners of managers who are closely watching their utility costs are also paying close attention to the landscape, asphalt, exterior appearance, roof, interior replacements, and other costs
Ӣ An owner who is not watching the utility costs and practicing utility conservation is probably not watching other costs as well
Ӣ Some energy upgrades will make economic sense, while others may not

Mark D. Barry is a real estate appraiser specializing in apartment appraisal work in the Portland-Vancouver metropolitan area. He has completed over 5,000 apartment appraisals since starting as a fee appraiser in 1983. He has a BA from University of California at Berkeley, and an MBA in Real Estate from American University in Washington, D.C.

The post Energy Efficiency and Impact On Portland Area Apartment Values appeared first on Bluestone & Hockley | Portland Property Management.