The investment sales market is active and vital, and pent-up equity and a new cast of buyers should ensure it will stay that way throughout the year.
While most of the commercial real estate market has suffered during the economic downturn, there is a bright spot amongst the doom and gloom. Often overlooked by investors and developers, the student housing market is somewhat insulated from the pitfalls of the economy at large. That is not to say that student housing has not suffered losses and had its struggles, but overall it remains a solid investment that is expected to only grow stronger.
“Student housing remains a fundamentally excellent business with stable properties producing excellent positive cash flow, appreciation in value and the ability to obtain excellent low-rate, long-term financing,” says Michael Zaransky, chief executive officer with Prime Property Investments in Northbrook, Illinois.
Student housing is an appealing sector for a number of reasons. It is a sound investment class that is relatively recession-proof. Strong demographics and continued enrollment at colleges and universities across the United States also indicate excellent future potential. “Student housing remains an asset class which has long-term solid fundamentals,” says Dorothy Jackman, vice president of investments with Marcus & Millichap in Tampa, Florida. “More students will be attending college over the next several years and the industry didn’t have the severe drop in values when all other asset classes were struggling through 2009. Frankly, I think the industry leaders have demonstrated that, with proper management of these specialized assets, returns can be very favorable.”
THE VALUE OF THE STUDENT HOUSING INVESTMENT
“Student housing has performed extremely well throughout the economic downturn relative to other investment sectors,” says Brian Kelly, managing director with HFF in Indianapolis. “Equipped with evidence of strong performance, money managers have been empowered to sell the concept of student housing to risk-adverse investors that previously have not participated in the sector as the number of other viable investment options has contracted.”
In the current economy, especially as other areas of the real estate market have become overinvested or overpriced, student housing offers new opportunities. “Student housing is an overlooked asset class with less than one percent of the beds owned publically,” says Doug Sherman, chief executive officer with Innovative Student Housing in Austin, Texas. “Debt is relatively easy to assume, and returns can be north of 15 percent with double-digit yields and a relatively low risk, if you buy in the right markets and follow good discipline in property selection.”
RETURNING TO NORMAL
Though the student housing sector has fared better than other investment classes, it did face challenges in 2008 and 2009. Last year was considered by many to be a rebuilding year as the student housing market adjusted to the economic situation. The coming year is expected to build more forward momentum.
“In 2010 there were 47 properties sold, totaling $1.1 billion in assets,” says Tom Trubiana, executive vice president and chief investment officer with Memphis, Tennessee-based Education Realty Trust. “That is substantially more than 2008 and 2009, but is still only a third of what was seen in prior years.”
Adds Carlton Dean, managing director with Sperry Van Ness in Tallahassee, Florida, “From all indications thus far, it appears that the student housing investment sales market is continuing to improve with sales volumes outpacing 2010 stats. The student housing market will see approximate volume in the $400 million to $500 million range for first quarter 2011. This is nearly half of what transacted in all of 2010.”
Many of the sales of 2009 and 2010 were distressed properties, without much high-quality product in the mix.
“There was certainly a period where it felt as if the only assets that were being marketed were distressed situations, and, where more often than not, you were looking at an asset that probably should not have been built,” says Mark Schundler, associate vice president of investments with Campus Apartments in Philadelphia. “Now, the quality of assets has improved and we expect the trend toward higher quality to continue through 2011.”
As debt and equity capital are increasingly available to qualified investors, transaction volume will only increase. “Property level fundamentals are improving as most communities in our clients’ portfolios are achieving rent growth of one to three percent for fall 2011 and are monitoring preleasing activity that is three to five percent higher than one year ago,” says Kelly.
The second half of 2010 saw enough of a solid gain to support forecasts of sustained recovery in the coming year. “So far, 2011 seems to be a continuation of the second half of 2010, when deal velocity returned to normal levels,” says Al Rabil, managing partner with Kayne Anderson Real Estate Advisors. He expects to see $2 billion to $3 billion sector-wide in acquisitions this year.
“The student housing market is on solid footing today,” says Pat Jones, principal with Apartment Realty Advisors in Austin, Texas. “Last year was a roller coaster ride with very few properties on the market early in the year and $2 billion of product on the market in the latter part of the year. This year is exhibiting a good balance between buyers and sellers and deals are actually getting closed. The investment market is returning to normal after the capital markets debacle in 2009.”
The second half of 2010 and early months of 2011 have seen the re-entry of core, Class A product into the market, resulting in a return of diverse buyers. “There is a wide spectrum of investors currently pursuing student housing,” says Kelly. “We are also observing a tremendous amount of interest from institutional buyers in new, Class A student housing communities that provide stable cash flows.”
BUYERS ARE BACK
Schundler has also seen the return of varied buyers looking for a range of property types. “As such, buyers have different appetites,” he says. “Some are seeking outsized near-term returns through distressed situations and value-added opportunities, while others are in search of stable, long-term returns through core asset investing,” he says. “Fortunately, we are now at a point in the cycle where there are opportunities that cater to both.”
Adds Rabil, “There is a spectrum of buyers in the market right now. Generally more institutional buyers are looking for high-quality products and markets with high barriers to entry.” He cites examples such as ING Clarion Partners’ acquisition of The Warehouse in Chapel Hill, North Carolina, for $19.9 million and Pierce Education Properties’ joint venture with Harrison Street to purchase the former Sterling University Palms in Riverside, California. “These types of properties are being sold at very aggressive cap rates,” says Rabil. “On the other hand, there are other, more value-oriented buyers who are looking to buy at higher cap rates and improve the product.”
As enrollments increase and more exacting students look for modern housing projects in a good location, the demand for properties in top-tier markets is growing. “The appetite for core, Class A properties that are close to campus and located in tier-one markets remains the most attractive to investors,” says Jackman.
Class A properties with high barriers to entry that are in prime locations are a strong investment. “Buyers love close proximity to campus and the newer properties are more attractive due to the position in the marketplace,” says Dean. “The college student is one of the most savvy, connected consumers on the planet and they are more demanding and discerning than ever before. The properties that can meet these student requirements seem to be the most attractive to investors.”
The increased activity in buying and selling, coupled with increasing enrollments and high demand, will continue to boost the student housing market. Public private partnerships (PPPs) are expected to continue in greater numbers, bringing new investors and new product to the market.
ON THE SELLER SIDE
Both institutional and private sellers are currently listing product. As the sector is recovering, sellers that had been holding on to properties are now bringing them to market. Sellers include merchant developers, REITs, private owners and some banks.
“The seller profile we are observing today is extremely diverse with REITs, high net-worth investors, investment funds and special servicers electing to place properties on the market,” says Kelly. “The past two years have produced limited transactions as market uncertainty caused investor yield requirements to climb sharply. Unless pressured by unique circumstances, most owners held their position throughout the economic downturn. The amount of product currently for sale is a testament to overall market perception of a recovering economy. With debt and equity capital available to qualified investors, many owners feel it is the right time for dispositions that were slated for the near-term.”
While diverse in type, Sherman sees the same sellers that have been in the market for years. “I think there the usual suspects,” he says. “There are the unrealistic sellers hoping to find someone naïve enough and hungry enough to pay an exorbitant price. Then there are those whose life situation suggests this is a good time to sell and they are looking for a slightly above-market price for their property but willing to take something close to market pricing. Some are selling because their property is in trouble due to overbuilding or market shifts in student preference for location or amenities. What they see on the horizon scares them so they are selling in a defensive posture. Finally, there are those just testing the water to see what they might get.”
At the moment, merchant builders are responsible for a number of the larger sales. “While there are some distressed deals on the market, the desirable stable deals are being offered by merchant builders or experienced operators looking for a capital event and the ability to turn built-up equity into liquidity,” says Zaransky. “In addition, some sellers are looking to reposition their portfolios and are selling assets that do not fit a new direction in asset quality or location.”
Dean has seen primarily private, individual owners that might only own a property or two. “As demand for student properties continues to increase, the cap rates are coming down, so some sellers are taking advantage of the current pricing in the marketplace,” he says. “Additionally, we see older, less technical owners making the move to take their properties to the marketplace. Student housing management and marketing has become so intense with social media that many owners are out of the loop and this is fueling some owners’ decisions to sell.”
THE ROAD TO RECOVERY
“Development is picking up, but we are still a few years from prior levels,” says Trubiana. “There will always be demand, due to increased enrollment and more graduate programs, but the issue is on the supply side. People need to do more due diligence because it hurts everyone in the market. In addition, there will be more and more PPPs, particularly where capital is used to provide housing.”
Adds Jackman, “I think the student housing market will continue to attract equity and investors from both national and foreign entities, there will be more public REITs formed in the space, and deal velocity will increase significantly due to additional permanent debt financing options and low interest rates. I think that the formation of PPPs will increase as universities continue to have challenges with budget restraints.”
Jones believes that properties located at universities in urban environments, such as the University of Texas at Austin and the University of California at Los Angeles, will see the most rapid improvement in the next few years. “Student housing fundamentals will improve as new multifamily construction is constrained by a lack of bank financing,” he says. “Due to apartment development being at an all-time low nationally, schools in urban locations will be surrounded by a conventional market that is experiencing increasing rents and occupancy. The high cost of conventional apartments will push students back into purpose built and/or student-focused properties.”
With demand outpacing supply by a ratio of 20 to one, according to Sherman, the sector has great possibility.
“The industry has strong structural fundamentals,” he says. “From 2005 to 2010 there were approximately 1 million new students enrolled in college but only 54,000 new beds came on line. The disparity between supply and demand will not be corrected anytime soon as construction financing is difficult to source.”
Because of this high demand, and the lack of funding and land at many universities, student housing will continue to draw attention.
“With anticipated inflation at some point in the future, the student housing asset class provides an opportunity to lock in favorable financing today at low interest rates for long periods, while owning an asset class that re-prices its rent structure annually with the market,” says Dean. “Added to the fact that universities cannot keep up with the demand for student housing, continued opportunities will be created for student housing owners and developers.”
Adds Kelly, “I am extremely optimistic about the short-term prospects for student housing and believe the sector will continue to draw interest from all investor classes. I am excited to see how student housing evolves as it continues to become more institutionally accepted. What was once a very fragmented sector with a few local companies controlling each college market has now become a national playing field.”
— Laura Fuller