What do you do with that old, outdated office, church, motel, school, warehouse, or hospital?
Many entrepreneurial investors take these properties and turn them back into living spaces with modern amenities.
But the path to get there is often more complicated than even seasoned investors are prepared for when they set out. Today we’re looking at a case study where a building was redeveloped, and sharing some strategies for success along the way.
Our investor client in this case was a successful entrepreneur. With many apartment units under his belt over the years, he was ready to take the next step with his investments. We’ll call him Michael.
Then came the perfect opportunity: a 175,000-square-foot, 10-acre site of pure promise, a former hospital building. After sitting vacant for years on the market, the owner of this purpose-built property was ready to unload it at auction.
Come auction time, even the highest bidder wasn’t ready to meet the reserve price. The uncertainty of an investment this size kept many investors carefully guarded. At the end of the auction, Michael, in the highest bid position, was awarded the property, even though it fell below the reserve.
Success! Now comes the work.
Stage A: Planning
1. Reduce your carrying cost. Large vacant properties like this often carry taxes based on their prior, unique use — in this case, a hospital. An appeal showing the purchase price and similar comparables helped win a tax appeal, reducing Michael’s carrying costs while he planned.
Cost segregation study: consulting with a cost segregation specialist before the planning phase of a construction project can considerably increase the benefits of the study. Working alongside the construction management team, they can identify assets to isolate and track during construction. It’s also prudent to use this service before the start of an abandonment or redevelopment project, to maximize and document the true value write-offs prior to demolition.
2. Full review of zoning and building codes. While professionals like attorneys, architects, and engineers are vital to every conversion project, there’s no substitute for knowing the parameters and advocating for yourself. Michael did this with zoning, becoming familiar enough with the provisions to refute a limiting clause. Being your own advocate is a task best filled by the active investor who has the most at stake.
A review of code requirements with your architect and contractors can expose things investors don’t initially consider — adding a sprinkler system, making a building ADA accessible, and addressing environmental hazards like mold, asbestos, and lead have all been showstoppers on projects like this one.
3. Take time to plan thoroughly. Many investors make quick judgment calls and miss out on major opportunities or overlook real needs in the market. With a clean slate, it’s the perfect chance for an investor to maximize returns by carefully gauging what their clientele will need.
For Michael, that meant realizing his property sat in a premier school district with very limited apartment competition — so it made sense to plan more three-bedroom units than a typical project, to serve the families likely to be drawn to the location for the schools and nearby park.
Stage B: Construction
1. Hire a contractor with a ‘solution-based’ focus. Many investors are tempted to be their own GC, but without the experience, that can cost far more than it saves. An experienced contractor is a huge resource on unique conversion projects, bringing experience to help solve the problems that inevitably come up — and come up they will.
The more experience you have on your side to solve problems economically, the better off your project will be, and the faster it will get done. Michael started with a plan that was modified and changed multiple times because of the unexpected, but said his team’s ability to adapt grew as they moved further into the project and learned to navigate each problem, with help from his construction team.
2. Budget contingencies. Get ready — the budget will never be what you think it will be. Michael said unexpected costs added up to 30% on top of the original budget, even while working diligently to keep costs under control. Always add a significant contingency, knowing it will be used along the way for the unexpected.
Because of unexpected renovation costs on buildings like this, investors often consider tearing the building down and starting over instead — several prospective purchasers before Michael wanted to do exactly that with this hospital. But adding demolition costs for a building this size, on top of an expensive piece of land plus new construction costs, makes that path a challenge too.
Stage C: Lease-Up
1. Marketing. There’s a delicate dance between marketing and construction — you want beautiful move-in-ready units to show prospective residents, but you don’t want to wait until the property is fully move-in ready to start advertising. A teaser list showing location, pricing, and ‘similar unit’ photos can be the perfect way to get a jump start on leasing before you’re ready to open.
2. Leasing. As you bring tenants in and sign leases, remember to stagger the lease terms so all your renewals don’t hit in the same months. A fast lease-up is great, but if everyone signs one-year leases close together, your future turnover exposure can be too high. Stagger the leases and try to limit endings in the winter months.
We’ve seen many beautiful renovation projects lease up very quickly once complete, only to have all those renewals hit the following summer at the same time — you’ll wish you’d remembered this one.
Conclusion
As Michael puts it: ‘It may look easy from the outside, but there’s a whole lot more to it than what you’d think.’
If you’re considering a redevelopment project as an investor, this can be a great way to build significant equity in a shorter window of time and take your investing to the next level. Move forward with confidence, watching carefully for the items we covered here today as you work toward your next level of success.
Many investors we work with appreciate our knowledge across many facets of investment real estate, helping them grow their wealth quickly while avoiding showstopping mistakes. Call us for a consultation to help build your real estate portfolio.
