How Commercial Value-Add Real Estate Syndications Work

Imagine spotting an old bookshelf sitting out on the curb. You pull over to check it out, and since it’s in good shape, you proceed to lug it home and give it a fresh coat of paint. 

A few years later, you sell the shelf to someone else who claims to have the perfect spot for it.

You took something that had been overlooked, committed some sweat equity, and breathed new life into it. 

Now, maybe refurbishing furniture is not your ideal pastime or the best wealth building strategy. But when scaled up, Tthis is the essence of value-add, and it’s a commonly used strategy in real estate investing. 

Key Takeaways

• Basics

• Multifamily

• Mobile homes

• Self Storage 

The Basics of Value-Add Real Estate

In the case of single-family homes, the process of buying a run-down property, remodeling it, and then selling it for profit, is commonly referred to as fix-and-flip. Your sweat equity and ability to see a diamond in the rough is rewarded monetarily, and the new owner gets an updated, move-in ready home. 

Value-add multifamilycommercial real estate real estate deals follow a similar model, but on a massive scale. Hundreds of units get renovated over years at a time instead of just one single-family home over a few months. 

A great value-add property may have peeling paint, outdated appliances, or or overgrown landscaping, which all affect the curb appeal and the initial impression that a potential renter  or consumer will form. Simple, cosmetic upgrades can attract more qualified renters and increase the income the property produces. 

In value-add properties, improvements have two goals:

1. To improve the unit and the community (positively impact tenants)

2. To increase the bottom line (positively impact the investors)

We’ll take a closer look at three asset classes below, but remember these principles can be applied to nearly every commercial real estate asset class.

Multifamily Assets – Value-Add Examples

Common value-add renovations can include individual unit upgrades, such as:

• Fresh paint

• New cabinets

• New countertops

• New appliances

• New flooring

• Upgraded fixtures

In addition, adding value to exteriors and shared spaces often helps to increase the sense of community:

• Fresh paint on building exteriors

• New signage

• Landscaping

• Dog parks

• Gyms

• Pools

• Clubhouse

• Playgrounds

• Covered parking

• Shared spaces (BBQ pit, picnic area, etc.)

On top of all that, adding value can also take the form of increasing efficiencies:

• Green initiatives to decrease utility costs

• Shared cable and internet

• Reducing expenses

• 
  

Mobile Home Parks – Value-Add Examples

When investing in Mobile Home Parks, a common strategy is to make improvements to increase the Net Operating Income and quality of life for residents. This can include:

1. Raise rents as improvements are made. Increasing rental income is crucial for boosting the value of a mobile home park, as it directly impacts the net operating income (NOI) and overall valuation. Raising rents is a common strategy to achieve this.

2. Start billing back the utilities to the residents. Implementing a utility bill-back system, such as RUBS or submetering, can help improve a park’s value by ensuring tenants are responsible for their utility costs, reducing expenses, and potentially increasing overall revenue.

3. Convert park-owned homes to tenant-owned homes: Although this may seem counterintuitive, converting park-owned homes to tenant-owned homes can streamline operations, reduce maintenance costs, enhance marketability, and improve financing options, ultimately increasing the park’s value.

4. Streamline fixed expenses: Carefully review all fixed expenses, including salaries, maintenance costs, and other operational expenditures, to identify areas where costs can be reduced without compromising park quality.

5. Review and update your amenities. Examine contracts and pricing related to park amenities and utilities to identify potential cost-saving opportunities, such as renegotiating agreements or optimizing utility usage.

6. Clean up the property and the grounds. Encourage residents to maintain their properties, host clean-up events, and address eyesores within the park to enhance its overall appeal and market value.

7. Improve or actually replace the homes. Enhancing the condition of both park-owned and tenant-owned homes can improve the park’s appearance, attract more residents, and increase pride of ownership among existing tenants.

8. Improve community infrastructure. Investing in park infrastructure, such as roads, utilities, and public connections, can significantly boost the park’s value and marketability.

9. Make the park safer for all residents. Enhancing safety measures within the park, such as adding lighting, enforcing pet regulations, and improving management, can increase tenant satisfaction and overall park appeal.

10. Don’t forget to make aesthetic improvements: Enhancing the park’s visual appeal through signage, common area improvements, and general tidiness can create a positive first impression for residents, lenders, and potential buyers, ultimately contributing to the park’s value.

    
    

Self-Storage Investments – Value Add Opportunities

1. Durable Solutions: Replacing vs. Painting. Rather than just painting, invest in durable solutions like replacing doors and hallways for long-term savings and tenant satisfaction.

2. Illuminating Upgrades: Don’t Leave Customers in the Dark. Improve after-hours visibility with LED lighting, enhancing safety and potentially saving on energy costs.

3. Customer-Centric Approach: Know Your Customers. Understanding your target market and their storage needs is essential for optimizing your facility’s value.

4. Safety Enhancement: Prioritize Customer Safety. Focus on safety measures like fixing faulty doors and ensuring ADA compliance to prevent injuries and reduce insurance costs.

5. Visual Transformation: Boosting Curb Appeal. Enhance your facility’s appearance with landscaping, pavement upgrades, and outdoor lighting to attract more customers.

6. Space Optimization: Consider a Remix. Maximize your space by adjusting unit sizes and types to better meet market demand and boost rental rates.

7. Strategic Expansion: Utilize Extra Space. Explore portable storage units to expand without dealing with permits and building codes, potentially eligible for tax deductions.

8. Tech-Driven Efficiency: Take Advantage of Technology. Embrace smart access control systems to streamline operations, enhance security, and improve customer experiences.

9. Tax-Savvy Renovation: Cost Segregation Benefits. Consider cost segregation for tax advantages by writing off various renovation costs, making property improvements financially rewarding.

   
   

The Logistics of a Multifamily Commercial Real Estate Value-Add

The basic fix-and-flip of single-family homes is pretty familiar to most people, but when it comes to hundreds of units at once or a larger property with a single tenant (such as a retail facility), the renovation schedule and logistics aren’t as intuitive. Questions arise around how to renovate property while people are living there and how many units can be improved at a time. 

When renovating a multifamily commercial real estate property, such as a multifamily apartment building or a mobile home park, the vacant units are first. In a 100-unit complex (or 100-home park), a 5% vacancy rate means there are five empty units or homes, which is where renovations will begin. 

Once those five units are complete and as each existing tenant’s lease comes due for renewal, they are offered the opportunity to move into a freshly renovated unit.  Usually, tenants are more than happy with the upgraded space and happy to pay a little extra. 

Once tenants vacate their old units, renovations ensue, and the process continues to repeat until most or all of the units have been updated. 

During this process, some tenants do move away, and it’s important for projects to account for a temporary increase in vacancy rates due to turnover and new leases.

Why We Love Investing in Value-Add Properties

When done well, value-add strategies benefit all parties involved. Through renovations, we provide tenants a more aesthetically pleasing property, with updated appliances facilities and more attractive community space. By doing so, the property becomes more valuable, allowing higher rental rates and increased equity, which makes investors happy too. 

The property-beautification process and the fact that renovated property is more attractive to tenants is probably straightforward. But let’s dive into why value-add investing is a great strategy for investors.

First, Yield Plays

To fully appreciate value-add investments, we must first understand their counterparts, yield plays. In a yield play, investors buy a stabilized asset and hold it for the monthly cash flow and potential future profits. 

Yield play investments are where a currently-cash-flowing-property that’s in decent shape is purchased.  The property provides a recurring stream of income from the rents collected – the yield.  There is obviously a hope to sell it at some later date for a small profit, but there is no business plan to renovate, force appreciation, improve the asset and realize a larger gain at sale. Yield play investors hold property in anticipation of potential market increases, but there’s always the chance of experiencing a flat or down market instead. 

Now, Let’s Get Back to Value-Adds

Value plays and yield plays are different. In a value-add investment, significant work (i.e., renovations) takes place to increase the value of the property and doing such improvements carry a level of risk. 

However, value-add deals also come with a ton of potential upside since the investors hold all the cards. Through physical action steps that improve the property and increase its value, value-add investors don’t just hold the asset hoping for market increases, they force increases through improving the asset, raising rents and lowering expenses. 

Through property improvements, income is increased, thus also increasing the equity in the deal (remember, commercial properties are valued based on how much income they generate, not on comps, like single-family homes), which allows investors much more control over the investment than in a yield play. 

Of course, a hybrid yield + value-add investment is ideal. This is where an asset gets improved, cash on cash yields are high and the market increases simultaneously. Investors have control over the value-add renovation portion and the market growth adds appreciation. 

Now, before you get too giddy about the potential of a hybrid investment, there are risks associated with any value-add deal. 

Examples of Risk in Value-Add Investments

In multifamily commercial real estate value-add investments, common risks include:

• Not being able to achieve target rents

• More tenants moving out than expected

• Renovations running behind schedule

• Renovation costs exceeding initial estimates (which can be a big deal when you’re renovating hundreds of units)

Risk Mitigation

When evaluating deals as potential investments, look for sponsors who have capital preservation of the forefront of the plan and who have a number of risk mitigation strategies in place. These may include: 

• Conservative underwriting

• Proven business model (e.g., some units have already been upgraded and are achieving rent increases)

• Experienced team, particularly the project management team

• Multiple exit strategies

• The budget for renovations and capital expenditures is raised upfront, rather than through cash flow

Value-add investments can be powerful vehicles of wealth, but they also come with serious risks. This is why risk mitigation strategies are important – to protect investor capital at all costs.

Recap and Takeaways

No investment is risk-free. However, when something, despite its risks, provides great benefits to the community AND investors, it becomes quite attractive. 

Properly leveraging investor capital in a value-add investment allows drastic improvements in apartment communities, thereby creating cleaner, safer places to live and making tenants happier. 

Because investors have control over how and when renovations are executed, rather than relying solely on market appreciation, they have more options when it comes to safeguarding capital and maximizing returns. 

Next Steps

Here at Expedition Equity we provide multiple ways to leverage the power of real estate syndications in your investment portfolio so you can take advantage of real estate’s cash flow, equity, appreciation, and tax benefits. 

Get Started Investing Now

If you’re accredited and looking to deploy capital, we invite you to sign up for our Expedition Investor Club to get access to our current or upcoming opportunities.