Episode 1 of the Fundamentals of Commercial Real Estate Investing is now available. Listen as Pat Poling, Founder & CEO of Mara Poling, discusses the impact of the election on commercial real estate, the current multifamily climate and where multifamily is headed in 2017.
Mara Poling is a total return real estate investment firm dedicated to helping their Investor Clients Build Lasting Wealth. Headquartered in Dallas, Texas with offices in Northern California, Mara Poling’s principals bring over 60 years of commercial real estate experience to the multi family investment market. Experienced asset managers with a proven track record including acquisition and management of over $1B in assets, $1.5B in annual cash flow, and more than 10,000 acquisitions. Mara Poling has acquired 700+ units $40M in Multi Family assets in the last 15 months.
Adam Hooper – We’re joined here today by Pat Poling, founder and CEO of Mara Poling, where he’s in charge of client relations, legal, finance and accounting. Prior to Mara Poling, Pat was President and CEO of the Lyle Company for over a decade. Pat began his real estate career 35 years ago with AT&T, followed by leadership roles with two startups McCaw Cellular and American Tower. Both companies grew more than tenfold during his tenure. Mara Poling’s principles have over 60 years of commercial real estate experience, acquiring, developing and managing billions of dollars of real estate for their clients. In their collective experience, they’ve managed over a billion dollars in real estate acquisitions, one and a half billion of annual rental cash flow, 60,000 units under management and their recently sponsored multifamily acquisitions in just the past 15 months total more than 700 doors and 40 million worth of value. Thanks again for joining us Pat and we’re looking forward to a great conversation today.
Pat Poling – Great, thanks for having us.
Adam Hooper – Let’s go back to the beginning, how did you start in real estate and when was that that you started in the real estate career?
Pat Poling – Well, it wasn’t my intention that’s for sure. I was a young executive, fresh out of business school, working for what was then the Bell System and happened to spout off one day to my vice president about how terrible our real estate department was. Well, two weeks later, I was in charge of the real estate department, so began my commercial and corporate real estate career. We’ve been at it ever since, as you mentioned through a number of startups and for the last 15 years with our own asset management organization. It’s been an interesting ride for sure. We really love this space though and as I said 15 years ago, we made a decision to get involved in asset management. At that time, we were very focused on our corporate and high end Wall Street clients, a couple of large REITs and some hedge funds, some Fortune 50 companies. As we brought that through the process that you were describing in our introduction there and sold off those portfolios for our clients, we then decided that we really wanted to turn to more of a main street focus and work with high net worth individuals and that’s really been our focus for the last several years and what Mara Poling is all about today.
Adam Hooper – Take me through with Bill and Mara Poling, the transition, it sounds like obviously went from more corporate real estate into actual principle based operations. How did you guys connect and what with markets do you focus in now?
Pat Poling – This is actually our third … Bill and I, this is our third venture together. We’ve worked together for over 20 years. As I said, 15 years ago we started up an operation that was focused on very large institutional clients effectively. Every year they’d give us 50, 100, $200 million to go play with and we would go out and acquire commercial and primarily industrial kinds of assets for their use. That was a very large portfolio, ultimately grew to be about $15 billion by the time we sold it. As we were selling it and beginning to transition out, Bill and I both had made some individual investments in multifamily and we’re really enamored with the opportunity that multi-family presented, not only from the standpoint of its investment growth, but it looked like a place that would really be well-suited to working with individual investors. It was great making billions of dollars for Wall Street and I know that eventually that money went to somebody that was an actual human being, but it’s a lot more fun to be able to work with folks that are people we can deal with on a daily basis and see the kind of impact it has when we help them be successful. Our investors today range from a 75-year-old couple that are making legacy investments for their grandchildren and great-grandchildren to a 25-year-old individual out of Silicon Valley that’s a newly minted millionaire because of some success in the tech world and they’re smart enough to know that they need to have some diversification in their investment portfolio and we’re helping them build that on the real estate side and then everybody in between. It’s really enjoyable having those kind of relationships with each of the investors and getting to actually see the benefit that we can provide and what it does to help them in their lives.
Adam Hooper – Great and then obviously multifamily then being the product focus, geographically what markets are you guys focused in right now?
Pat Poling – We like Texas, now we don’t like Texas because we’re Texans, although Bill lives in Texas and I guess is officially a Texan now. We like Texas and a number of other locations around the country because of growth. Our model is very focused on finding markets where we have not only population growth, but job growth and income growth that are running above the national average, not only historically, say over the last five or 10 years, but that the forecasts reinforce that as well. When you look at that as well as a handful of other factors that we analyze, there’s about 25 markets in the country we think that makes sense to potentially deploy this model in. Half of those are in Texas, so that’s one of the reasons that we’re very focused in places like Dallas and San Antonio, Houston, Waco, College Station, Tyler, a number of other locales. We’re doing a lot of work in Dallas right now simply because there’s a lot of activity going on in Dallas that fits our particular model and that doesn’t mean that we don’t love other places in the country. For example, we think Charlotte and some other markets in the Carolinas are a good opportunity and probably in 2017, we’ll have some deployments there as well.
Adam Hooper – Great, well thank you for the background there. I know our listeners will appreciate learning a little bit more about why they should care what you have to say and obviously you got a lot of experience and we’re looking forward to getting into some meaty questions here. I think the first one that’s up on almost everybody’s mind is this new political environment we’re going to be heading into in early 2017. What are your thoughts around how the upcoming administration might impact the global or I guess macro commercial real estate environment?
Pat Poling – Well one of the things that we’ve been helping investors and potential investors understand for the last year because the question obviously up until the election was what do you think is going to happen after the election. Well, they’ll certainly be some things that will change. We think there’s much more inertia in the business model for commercial real estate that provides stability than there will be change. For example, though there may be some nibbling around the edges on tax code a little bit, but we don’t see any wholesale changes on the horizon that significantly alter the model and obviously taxes are an important part of how our models operate. The other is and this is really the key point is administrations get credit in good times and they get blamed in bad times, when they probably really don’t have actually that much impact on what actually is going on. When you really look at and understand the numbers that drive, in particularly the multifamily space, it’s pretty difficult to imagine anything that’s going to happen or that any administration could do regardless of which flavor they are that could either significantly deter or significantly boost that particular model. Now that doesn’t mean there won’t be some movement and some volatility over short periods of time, but over the long run we think the strength of multifamily will be able to survive just about any administration, whether it’s of a red flavor or a blue flavor or any other kind that might come along. That was the advice really we’ve been sharing with people all year is if you’re really looking at real estate in a long position and that’s the position that we take, don’t get so hung up on those items, focus instead on the fundamentals of selecting good properties in good markets with good growth potentials. If you do that you kind of can let the other things take care of themselves.
Adam Hooper – Great, so some comfort around again the kind of upcoming political environment. That’s good to hear. When you guys look at markets and multi-family acquisitions, what are some of the high-level things that you guys are looking for and some of the drivers that help you kind of guide your decisions as you’re looking at that new acquisitions or new markets?
Pat Poling – We’ve got a recipe that… again, there’s a lot of ways you can play in not just commercial real estate, but certainly inside multifamily. There’s opportunities to make money with short term positions, getting in and fixing and flipping properties, a whole host of things. Our model’s really built focused on mitigating risk, so that we can preserve capital. That’s the number one thing we hear from our investor clients is a desire to have a good, safe, solid, stable place to put their money and then have good healthy returns in that particular environment. As I said, we look for markets that have got solid growth in terms of population, job growth, income growth. We like to see diversity of employment. We don’t want to be in a town that’s a one-trick pony, so that if that particular industry has an issue, suddenly the entire town might dry up and blow away. Then, when we get down to specific properties, there’s nothing terribly glamorous about what our model focuses on. It’s that good old bread and butter, Class B asset, maybe it’s been mismanaged a little bit and so it’s operating a little more like a Class C, something with an opportunity to improve its operational capabilities ideally with a modest amount of capital, but we also like buying assets that are operating. We’re not out there on the hunt for something that’s 50% occupied or that’s fully vacant and where you’ve really got to do a major rehab. You can make money in those investments, absolutely, it’s simply not the model that we employ. We’re looking for properties that are 90, 95% occupied, where I can put 3, 4, $5,000 a unit in and get a nice 10, 15, 20% rent bump out of it. There’s a lot of good solid product out there to be able to do that with if you’re looking in the right markets. When you do that you then can put yourself in a position where you’re not only going to experience good, solid cash flows and equity growth, but more importantly and this is really the thing that our investors have continually tell us is everybody can sleep at night. You don’t need to be up worrying about what Janet Yellen is going to say tomorrow or what’s the new Treasury Secretary going to say or what’s going to happen when this occurs or that occurs because you’ve got a really solid asset that’s built to not only perform in good time, but to perform as we go through the entire business cycle, which is going to happen.
Adam Hooper – Good, now getting back to econ 101 terms, obviously supply and demand is one of the main factors in the multifamily market. How are you guys looking at that now? How do you see current demand versus supply and what does that mean for investors looking at into multifamily investing?
Pat Poling – Well, I mentioned a little while ago that we selected multifamily, not so much because we were looking for a great investment platform to take to the public, Bill and I were personally just looking for good places to put our money in. The more we investigated multifamily, the more we realized that there was a supply/demand imbalance, not only today, but really sort of structurally built into the model for an extended period of time. People often ask, how long do we think multifamily is going to be a good place to put money and our standard answer is usually something like five to 10 years because we don’t want to scare people with the actual answer, which is probably for a generation given what’s going on. If there was any other market out there, whether it was real estate or any other kind of investment opportunity, where you had the significant drivers on the demand side that we have in multifamily and that that was being met with such a stagnant reply from the supply world, everybody in the world would be investing and buying into those particular products. That’s really what our job is. We don’t sell anything to anybody. We simply help everybody understand what’s really going on in the multifamily space. When people understand it, it becomes pretty obvious that this is a good place to put a portion of your investment dollar.
Adam Hooper – Good and now obviously with demand and just kind of generational aspects that we’re looking at that’s something that’s obviously weighs on the mind of a lot of investors out there, what are some of the generational shifts around both the elder generations, the boomers and also millennials coming up and how do you see those generational forces coming into play when you look at that supply demand equation?
Pat Poling – Well that’s certainly a significant amount of the driver of the impacts to multifamily demand. Baby boomers, right, 80 million baby boomers, everybody understands and knows the story of baby boomers because we’ve dealt with them for so many years now. Boomers are beginning to retire and retires do what? They downsize. One of the things you can do when you downsize is rent and boomers are renting in the exact same proportion that their parents did. It’s not that boomers are renting more, it’s just that there’s more of them. When you get 10 to 15% of an 80 million base population as opposed to a 40 million base population, moving into the rental market, you get a lot of extra renters that way, a lot of extra rental households. Think about it, if somebody is 60, 65, 70 years old and they decide to move and rent, they’re probably not ever going to decide that they want to own a home again. They’ve pretty much moved in model a long term. The other thing that drives the demand really from the baby boomer side is they’re living longer. Their parents retired and maybe they chose to rent, but they lived in retirement five years, 10 years, 15 years. Now, boomers are all expecting to live 20 years, 25 years, even 30 years in retirement. We’ve got a larger number of them retiring and moving to the rental marketplace and then living for a longer period of time. Strangely enough, it’s combined with the fact that their children and grandchildren, the echo of that boom are actually on the opposite end of the spectrum. They’re really not so sold on this idea of owning homes. Many of them have seen friends and family lose their homes through the crash in ’08, they’ve got student debt and many other demands. Wages have been fairly flat. It’s a tough place to own a home if you’re 25 or 30 or 35 years old. When I was that age, I had owned a house already. I was on my second home already, but things are very different today. We’ve got two extremely large groups, about half of the population in the country really being much more focused on the rental marketplace as opposed to home ownership. That’s definitely showing up in the numbers we see in terms of demand on the multifamily side.
Adam Hooper – As you said that’s just within kind of the existing current population base, right? Obviously, population growth comes into play as well, how do you guys see that impacting the equation as well?
Pat Poling – Absolutely, so as I said you’ve got about half of the existing population right now in these two groups that are already having a significant impact. Then, when you look at the growth in population that we’ve got forecasted, if you look at the US Census Department, so they’ve told us that we’re going to see something like 50 or maybe as many as 60 million new households over the next 40 to 50 years, so something north of a million new households a year, a certain amount of that coming from growth of our base population, birth rates exceeding death rates and all that good stuff, but there’s also a certain amount of that that comes from immigration. The reason the immigration component is important is the American Dream really is an American phenomena. When you look around the rest of the world and I don’t mean just Central America or South America, but I’m talking about Europe or Asia or pretty much anywhere on the planet, this idea of owning your home is not so prevalent. When you have folks that will immigrate to the United States, whether it’s a couple that’s moved here from France or somebody that’s moved here from a country in Africa or Asia, wherever they come from, they’re significantly more likely to rent than they are to own, about twice as likely as a matter of fact. That stays in place for almost a generation before we see homeownership rates among new immigrant families balancing out with the indigenous population. What that means is if we’ve got 50 million new households coming and we’re seeing a large disproportionate number of those going to be renters, we’re talking about over a 40, 50 year period of time, maybe 25 million new rental households. Well that’s half a million new units we need every year just to keep pace with the growth in the population, let alone what’s going on with the boomers that we just talked about and with the echo boomers. You’ve got a lot of demand in the system today, but it’s structural demand, it’s demand that you can see coming for a long time. The majority of the boomers haven’t retired yet. This population growth is growth to come in the future, so we’re not just talking about a situation today, where there’s more demand than there is supply. It’s really a forecast into the future that says, “This is not going to go away next year or in five years.”
Adam Hooper – Great and so you mentioned that’s obviously a fairly large amount of supply that’s going to be needed to service this growth, how is the supply side of the equation looking right now and where are you guys seeing the supply side of the equation going?
Pat Poling – Well that’s the golden ticket answer because that’s the whole reason we’re in multifamily and the reason why we think every person around needs to be looking at multifamily and that they should have some multifamily in their portfolio, however, it is that they can go about doing it. When you look at all these demand factors, you’ve got boomers and population growth and the immigration component that we just discussed and then you add to that the fact that just in general homeownership in the US is down somewhere in the neighborhood of eight points from our peak and every point, every 1% drop adds another million rental households to the equation. You’ve got all of this demand, well you would think that we would be building units like crazy and we’re not. We have not built more than roughly 300,000 units in any of the last handful years. You’ve got to go back almost 25 years to find us having built more than 400,000 and yet if you add up all these demand components, you can easily see demand that’s 400, 500, 600, 800, almost a million units a year depending upon which of these estimates you want to add in your equation. That had us scratching our heads, well what’s going on, why isn’t there more supply being built? The answer is in the economics of each unit. In the markets that we play in today, as an example, we’ll buy an existing complex, 80s vintage, good shape, an opportunity to make some improvements for it and we’ll pay somewhere in the neighborhood of maybe 60 to $80,000 a door to buy that property. If you want to build new properties in those marketplaces, you’re looking at construction costs in the neighborhood of a 100 to $150,000 a door. You simply can’t build new units to compete with what’s existing already. For that very reason, our units are going up in value. That’s really what’s driving it. Now at some point in time, the existing inventory that’s out there, which is substantial when it starts trading for the same price that you can build new units, well then there’ll be a lot of supply, but right now and it’s not because there aren’t developers, believe me that want to build it, I know lots of folks who want to build it, they can’t get lending. Banks won’t lend on new development when they know that it’s upside down. What have those developers done? They’ve focused on the Class A space. In Dallas, the market that we’re the most active in today, there were 25,000 units built last year and I can tell you two things about those units with complete certainty. Every one of those units has been leased. There’s zero absorption in Dallas, so none of that added any real new supply and every one of those units was a Class A unit. They were all built for between a 100 and $150,000 or more, so they don’t really affect the space that we operate in, which is why we think people really need to be taking a good solid look at multifamily, especially that big soft middle spot of it, the Class B space, where you’ve got opportunities today to invest and there’s effectively no competition. What that’s done and again I’ll use Dallas as an example, if you look over the last several years, the last four or five years in Dallas, Class B rents are up on average 7% every year. That’s crazy. That is amazing that we’re seeing that kind of rent growth. That’s the average across the entire market, so obviously every single unit is not being improved to get that rent growth. You’re seeing baseline rent growth that’s probably in the 5% range. We underwrite it about 3% because we like to be conservative, but the reality is it’s running significantly higher than that and that’s really the engine that’s driving the significant cash returns that people can see as well as the growth in equity that the people realize.
Adam Hooper – Yeah that makes sense, right, you’ve got the high end of the market with a Class A, which you know obviously again those construction costs are so high that it can’t really be attainable on a rental basis by the kind of bulk of the population when we’re talking about those demographics that are growing. Then, you’ve got this Class B product that you can’t build, you can’t replace that kind of middle market multifamily real estate. Again, I think sounds like a great opportunity, like you guys are taking advantage of there. You mentioned earlier, you see this is almost a generational shift in the demand drivers, how long do you expect the growth to continue for this kind of Class B multi-family opportunity, is it indefinite, is it truly a generation or where are you guys looking at the timeline of this growth?
Pat Poling – That’s a great question and I think there’s really two answers to it. The first answer is on the demand side, how long is this demand going to drive, move like this? The youngest boomers were born in 1963. My family is a boomer family. My oldest sibling was born in 1946, mom and dad, dad was in the war, they got married right at the end of the war. My first brother came along in ’46 and my youngest sibling was born in 1963. Demographers agree pretty much that that’s the boom period. Well, if you’re born in 1963, you’re in your mid-50s, you’ve got 10 more years to work and then you’re going to live how long in retirement? 20 years, 25 years, so boomers are going to be affecting this market for 20 to 30 more years. The echo boomers well that’s more of a question as to when the economy rebounds enough that they can actually get into the market in a meaningful way in terms of homeownership, so maybe that’s a little shorter term, maybe that’s a 10-year kind of impact. The population growth numbers we talked about, those are 40 or 50 years in length and homeownership, I don’t know an economist anywhere that’s suggesting that we’re ever going to get back to almost 70% homeownership. I know a large number that actually think we could even get into the high 50s. The demand side really is long-term, we’re talking 20 years plus of drivers on demand. The real question is how long will it take for values to rise high enough that you can begin to build competitive product in that Class B space in terms of new development? I have no idea how long that’s going to take. Obviously, if it happens in a short period of time, let’s say 10 years, then we’ll see some balancing of the market, but that’s also going to mean that anybody that gets in today is going to make an awful lot of money in that next 10 years because those units you’re buying for $60,000 are going to have to suddenly be able to trade for a 100 or 120 or $150,000 and the only way that’s going to happen is those rents have to move up. That’s why you’re seeing 7% kind of rent growth. Our thought right now is the markets we like, we look at them on an annual basis. We think Texas is going to be very strong for the next several years. There may be other markets five years from now that we’ll be looking to deploy in. We think multifamily is a very good place to be looking at over a 10 year horizon and that’s typically our longest hold period for any one particular asset. For the next five years, it’s a great place to put your money, hold those assets and ride them for 10 years or so. Now 15 years from now, 20 years from now could be a slightly different situation, but all that would mean is that now the marketplace is going to behave a little more normally. The returns that are available today are really extraordinary and those are going to continue for an extended period of time.
Adam Hooper – Great, well that’s a lot of good information Pat and we really appreciate it. I think taking a kind of a step back now to more the macro, we’ll get to our final three questions here, as we look at the overall real estate market in the US, what inning are we in?
Pat Poling – That’s a great question, the entire commercial real estate world, I think you’ve got to break it down in pieces because office operates different than industrial and operates different than hospitality and different than multifamily. I would encourage you to engage others for many of those other aspects. When you really look at the multifamily space, we’re probably still somewhere in the bottom of the second, maybe the top of the third inning. We’re still pretty early on. If you were fortunate enough to get into the multifamily space three, four, five years ago, you got in at probably the perfect time to ride this wave because you’ve already had some wonderful experiences in terms of upsides, but as we just said, we’ve got a long way to run. Now that’s not to say that we aren’t going to experience the entirety of the business cycle. We have expansions and then we have contractions. There will be a recession, I just don’t know when it’s going to be. It might be in six months, it might be two years from now. We’ve had seven years of fairly tepid growth economically, but it’s been growth and it’s hard to imagine that that’s going to continue and even accelerate as the new administration would tell you it would, without us at some point in time having a bit of a break and a downturn. Our properties and again if you’re picking the right kinds of assets and the right kind of places, you’re going to be able to ride through those well and actually those present buying opportunities. There’s opportunities ahead for investors when we ride through that part of the business cycle. I mentioned Houston, we’ve got assets in Houston, very happy with how they’re performing. They’ve not missed a beat since Houston’s pulled back a little bit from all the oil issues and that’s because Houston’s a much more diversified town. However, prices in Houston for properties have pulled back a little bit and the reason for that is, the mentality is Houston is very connected to the oil industry. Actually, right now it’s a nice time to be looking at Houston as a market because there’s some good values there and yet, you’ve got properties that are actually still really good performers underneath.
Adam Hooper – Great, number two, what’s your concern going into 2017?
Pat Poling – It really kind of goes back I think to the first question you asked about the results of the election and the administration and all the rest of it is it’s very easy with the environment we have right now to get sort of wrapped around the axle and overthink an awful lot of things and be terribly concerned. My concern is that twofold for us, one that investors that our clients would actually miss out on opportunities because of that uncertainty as to what the future really looks like in terms of the political world that everybody’s just going to leave their money sitting in cash. There’s great opportunities out there and I think that’s a mistake to be doing that. Obviously, the flip side of that is for us as an organization, we thrive on having a steady flow of working capital to play with. While we have some fantastic relationships in the family office space that provide us sort of a foundation, we’re very committed to working in this high net worth individual market and want to see that continue. Like I said, my concern is that people maybe get a little too distracted with all the other stuff that’s going on and aren’t paying enough attention to the fundamentals that have been solid, are solid and as we’ve been discussing throughout this conversation, look to be solid for the foreseeable future.
Adam Hooper – Great, we can’t argue with fundamentals, can you?
Pat Poling – It’s pretty simple stuff, there’s no rocket science to any of this. The one thing I will point out when people ask about the election and all that as I said, whether you’ve voted for the president-elect or whether you didn’t vote for him, take a look at how his money’s invested. You don’t have to be a billionaire to invest like that. Everybody in this country has the ability to be able to invest in real estate, to take advantage of those great tax advantages that are there and to make money not only by getting cash flow out of those kinds of assets, but by having appreciation and growth at the same time. If there’s a lesson you want to take from the election that’s the lesson I would hope that people would learn.
Adam Hooper – Great Pat, we really appreciate your time today and I know our listeners will enjoy it as well. We appreciate your time and look forward to speaking with you here again soon.
Pat Poling – Outstanding, thanks a lot Adam.
Adam Hooper – Thanks Pat.