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Purpose-built rentals: Issues, strategy from apartment experts

Rising expenses, combined with increasing demand and a lack of supply, are putting the squeeze on...

IMAGE: Starlight CEO Daniel Drimmer said his company has four key investment strategies for the Canadian apartment sector. (Image courtesy Starlight)

Starlight CEO Daniel Drimmer said his company has four key investment strategies for the Canadian apartment sector. (Image courtesy Starlight)

Rising expenses, combined with increasing demand and a lack of supply, are putting the squeeze on Canadian apartment developers, owners and renters.

That was the consensus of five top real estate executives focused on the purpose-built rental market during a panel at the Toronto Real Estate Forum held at the Metro Toronto Convention Centre on Nov. 29.

Wendy Waters, GWL Realty Advisors’ (GWLRA) senior director of research services and strategy, said rental apartment supply per capita has decreased significantly in all major Canadian cities, except Montreal and Halifax, during the past 20 to 30 years. While condominium rentals have absorbed some of the demand, they don’t offer the tenancy security of purpose-built rentals.

Growth among 25- to 39-year-olds

An increase in rental demand in Toronto and Vancouver is being driven in part by sharp growth among 25- to 39-year-olds, 279,000 of whom are living at home with their parents in the Greater Toronto Area (GTA), according to Waters. Eighty per cent of new immigrants to the GTA and Vancouver rent, and the number of immigrants is expected to keep rising.

The increasing cost of ownership in the two markets is also forcing some people to rent for longer periods of time. Stricter mortgage qualification rules further increase rental demand.

“Purpose-built rental is hot, but it’s not keeping up with demand,” said Minto Apartment REIT (MI-UN-T) chief investment officer Jaime McKenna. “The projects that you’re seeing coming out of the ground now, especially in the GTA, would have been purchased four or five years ago when the cost per foot (of land) was under $100.

“The question will be, five years from now, when it’s $250 a foot: What’s our rental supply going to look like at that pace of demand growth?”

“There’s no such thing as a purpose-built rental site,” said Concert Properties president and chief executive officer Brian McCauley. “You’re in competition with every condominium developer that wants to buy a site.”

McCauley said Concert stopped building purpose-built rentals in Vancouver in 2001 and in Toronto in 2009 because it no longer made financial sense as costs were outpacing achievable rents.

“Our strategy changed several years ago to buy larger sites where we could develop multi-phased, master-planned communities and have an opportunity to create purpose-built rental as part of that.”

Centurion Asset Management Inc. president and CEO Greg Romundt said his company can still make the numbers work to build new purpose-built apartments in smaller Canadian markets, but it has yet to find a site where it can build something profitably in Toronto.

Further driving demand for rentals, according to Waters, is a growing preference for the hassle-free lifestyle it offers and the prime locations many older apartments occupy. She said 50,000 Toronto households earning more than $100,000 annually are renting in older buildings.

Affordable housing

McKenna said Minto has had success with an affordable housing program targeting people 59 and older who don’t exceed an income cap. Their rent is set each year at 70 per cent of the Canada Mortgage and Housing Corporation average. However, she thinks governments need to step up with programs and incentives to support more construction of affordable housing.

McCauley said while the federal government has earmarked $40 billion to affordable housing, and British Columbia has earmarked $6.9 billion, it’s difficult to align municipal, provincial and federal programs.

Centurion has between 6,000 and 7,000 purpose-built apartment units under construction across Canada, with close to half of those in Ontario — outside of Toronto.

“If we build product of any kind, it frees up availability further down the line,” said Romundt. “New purpose-built product today is the affordable product of 30 years from now.”

Rent controls

Rent increases in B.C. used to be limited to the inflation rate plus two per cent, but the provincial government announced in late September it would remove the additional two per cent in response to rising rents. A government rental task force is now considering implementing vacancy control, which would prevent landlords from adjusting rents when apartments are vacated by existing tenants.

“We demonstrated to the government that it’s impossible to be a prudent landlord and maintain your product in an escalating operating environment, with property taxes and utility costs rising much faster than typical rent rates have risen,” said McCauley, who added the recently announced rent control exemption for new purpose-built rental apartments in Ontario will help building owners.

“Even in a rent-control environment, it’s fine as long as there’s reality about what annual rent guideline increases are permitted.”

“Lack of rent controls is what builds units,” said Romundt. He noted apartments are being built in Alberta, which doesn’t have rent controls.

Romundt said rents have underperformed compared to housing prices over the past 40 years, but we’ve entered a cycle where rents will outperform housing prices nationally because people have no other choice but to rent because they can’t afford to buy a house.

Starlight’s apartment strategies

Starlight Investments founder and CEO Daniel Drimmer said his company has a core strategy in American Sun Belt areas where it buys “new vintage product directly from merchant developers.” This involves long-term financing and provides yield and rent growth.

Starlight has four strategies in Canada:

* a core strategy with purpose-built product, acquired on a forward-sale basis where it commits to buy a building after construction;
* intensifying existing properties in its portfolio with infill developments, utilizing free land;
* a core-plus strategy with older buildings that have been significantly refurbished;
* and Drimmer’s favourite: buying older apartment buildings in Toronto, Vancouver and bedroom communities within a 45-minute commute of them, and adding value to them.

“We’re buying them at significantly below replacement value,” said Drimmer, adding older units are appealing because they average between 900 and 950 square feet and generally have two or three bedrooms.

Waters said GWLRA has about 10,000 new build apartment units under management, and another 5,000 are either in the preliminary stages or under construction across Canada.

Minto and Concert apartment strategies

Minto Apartment REIT has apartments in Toronto, Ottawa, Calgary and Edmonton. It plans to expand into neighbourhoods in other major Canadian cities with access to public transit and high Walk Scores.

“We want to grow,” said McKenna. “Historically, we’ve grown with (Greenberg) family money, and you’re limited with how much you can do with that.

“We saw an opportunity to go public to provide a little bit of liquidity for the family, which has estate planning needs as the second generation gets into its sixties (in age).”

McKenna said Minto has a substantial management platform and a history of unlocking value through improving older buildings. It also has about $5 million in embedded rent value that can be driven through tenant turnover.

Concert has a build-only strategy and doesn’t acquire existing buildings. It has about 10,000 units in the planning pipeline, primarily in Metro Vancouver and Toronto. About one-third of those are earmarked for purpose-built rental.

Concert has a seniors residence brand called Tapestry with two existing communities in Vancouver and one in Etobicoke. It has one property under construction in Victoria and four more planned for Metro Vancouver.

McCauley said the leading edge of baby boomers will turn 73 next year, and the average age of people in seniors residences is 83.

“We have a 10-year window to plan for the emerging grey wave that will hit seniors housing in the coming decade.”

Conversion projects

Centurion has in the past invested in former office buildings converted to apartments, but won’t do it again. Romundt said unexpected problems, such as mould behind walls, can appear when converting that didn’t show up in initial inspections.

“There’s so much risk converting office product into any kind of housing. It’s so easy to make a mistake and there’s so much less risk for us to put up a brand new building.”

GWLRA isn’t in the market for office conversions, but it’s monitoring them. Waters said renters prioritize natural light, and older office buildings aren’t well-designed for easy conversion to apartments because they often have large floorplates. Thus, units would have to be very large to have enough windows to let in sufficient light. That makes for a difficult financial proposition.

McCauley said Concert has considered office conversions and had success by converting a hotel in Victoria to a rental apartment.

Drimmer said he probably wouldn’t want to locate a rental in an old office space, but he likes converting hotels to apartments because they’re often in good locations and include convention space where added suites can be built.

Minto converted the former Minto Suites Hotel in downtown Ottawa into the One80Five rental apartment.

Student housing

Centurion was very active in the student housing space until recently, when Romundt said opportunities to be involved started to taper off.

GWLRA isn’t directly involved with student housing, but Waters said 52 of the 155 units in its new The Livmore building at Gerrard and Bay Streets in downtown Toronto are occupied by people aged 18 to 24. Waters said the same thing happened in one of the company’s buildings in Halifax a few years ago.

Drimmer said students are already a target demographic for Starlight apartments and the company is looking at selectively getting into student-only product. He thinks Victoria is underserved and would be a good place to invest in student housing.

While Concert isn’t focused on the student market, McCauley said some of its downtown Toronto apartments initially had significant numbers of students — with parental guarantees on rents.

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