Playing for Keeps

While every market has suffered during the recession, perhaps none have taken as great a hit as Las Vegas. With an above-average unemployment rate—13.1 percent compared to the nation’s 9.7 percent, according to the Bureau of Labor Statistics’ most recent numbers—Sin City experienced the largest year-over-year increase from December 2008 to December 2009.

With so much of the economy focused on either gaming or construction, employment won’t return to Las Vegas until the national economy recovers. Since the beginning of the recession, the construction sector has shed 71,600 jobs, with leisure and hospitality losing 44,100 jobs, according to the Nevada Department of Employment, Training and Rehabilitation.

Compounding the jobs problem is the high foreclosure rate across the metro area. Las Vegas-Paradise had the nation’s highest metro area foreclosure rate—12.04 percent of the city’s housing units, according to RealtyTrac. And Nevada had the highest state foreclosure rate—10 percent in 2009—in the nation for the third consecutive year.

The high foreclosure rate, coupled with the high unemployment rate, has created a soft apartment market. While the loss of construction jobs has negatively affected the Class C and D markets, Class A properties have been impacted by the shadow market, as residents can rent out an entire house for the same cost as an apartment, explains David Baird, national director of the multifamily division of Sperry Van Ness, Las Vegas, and regional director of asset recovery.

Buying an asset in the city right now is “a once-in-a-lifetime opportunity,” Baird asserts. “We’ve never seen prices at this level,” he says, noting that he recently closed a deal for $10,000 per unit. “If you have money and patience, there are extremely good deals in this market.” But the key is finding a deal; even with the capital, many investors are discovering that there simply isn’t any product available.

Nickels and dimes

In addition to being considered “the epicenter of foreclosures of homes in the country,” Las Vegas saw a huge condo conversion craze, with 10 percent of the rental supply converted to condominiums, Baird explains. Now many of these properties are back on the market, once again as rentals.

Compounding the problem, 2,400 units are expected to come online this year, according to Colliers International, though this is compared to a more typical 4,000 to 7,000 units, delivered yearly. While there aren’t any projects currently in the pipeline, there are a number of mothballed projects, particularly on the north side of the city, reports Christopher LoBello, vice president of investments, Colliers International-Las Vegas.

As a result of the huge oversupply, the city has seen falling rents and occupancies, as well as increasing concessions. Traditionally, the Las Vegas apartment market enjoys 95 percent occupancy with no concessions, but it is now observing vacancies in the 20-percent range, though Baird notes that many property managers will report vacancies closer to 10 percent, as they “are including pre-leased to occupancy levels.” Meanwhile, the city’s east side is experiencing vacancies as high as 30 percent.

“What’s happening on the east side is those owners that are able to keep residents end up deferring maintenance because they are cutting rents, so they don’t have operational money,” explains LoBello. Thus, he predicts that the number of distressed assets on the market will increase in 2010.

Year-over-year, from January/February 2009 through January/February 2010, in properties of 50 units or more, Class A assets saw a 5.3 percent reduction in market rents, B products saw a 10.4 percent reduction and C properties saw a 9.6 percent decline. In terms of unit mix, one-bedrooms saw a 9.4 percent change in average rent, while two- and three-bedroom units, each with two bathrooms, declined only 5.7 percent, according to market research firm Pierce-Eislen Inc.

And because apartments are competing with single-family homes on such a huge scale, LoBello reports that multifamily communities are cutting asking, as well as effective, rents, making it that much more difficult to eventually increase rents.

Concessions—which are on the upswing—are being used by at least 70 percent of apartment communities throughout the metro area, according to Craig Rooney, CPM, CCIM, executive vice president for Southern California and Las Vegas, Riverstone Residential, which manages about 2,000 units in the Las Vegas metro area.

“Low rent rates and low occupancy rates are [presenting] a lot of operational challenges because the income isn’t there, so [managers] need to adjust their pro forma,” LoBello notes.

As a result, throughout the market, property managers are becoming more of a “cash manager,” that is, they are working with their clients to prioritize the order of bill payments. “Clients that had purchased assets in the last couple of years are having a tough time holding on to them or getting them to cash flow. What everyone is trying to do is break even and hold on,” reports Rooney.

“There’s just no cash surplus,” he adds. “We are nickel and diming every expenditure.” In addition, some management companies are being forced to give back properties, as owners are unable to pay them for their fee management services.

Extend and pretend

“The issue in Las Vegas—and other markets—is if you don’t need to sell, you don’t, and if you do need to sell, you can’t,” Baird notes.

Similar to most markets, the amount of time it takes to close a deal has significantly increased. For example, a condo conversion, the only deal Baird saw last year, took 18 months to close.  But this isn’t from a lack of interest or money; rather, there isn’t much, if any, product available to buy.

“Properties are so far underwater that there’s no equity, there’s no money to be lent and people who do have properties are working with banks and reworking loans,” Baird explains. “In the ‘90s, we had the ‘foreclose and dispose’ mentality; now it’s ‘look the other way.’ ‘Extend and pretend’…is the mantra. Banks don’t want it back.”

Property values have dropped to approximately half or two-thirds of their loan amounts, and cap rates have increased from between 6 and 8.5 percent at its peak in 2007 to about 10 percent. According to LoBello, cap rates will increase another 100 basis points this year.

But, notes Baird, properties aren’t really selling according to cap rates; rather, they are being sold “by the pound”—by the unit or price per square foot—which has declined about 30 percent.

The biggest focus in the market right now is on broken condo deals, which, according to Rooney, when they do come to market, are receiving multiple offers, mostly from out-of-state investors—particularly from California—“looking to get a foothold in the market because they believe, in the future, if they buy this thing right it will probably work.”

Meanwhile, some bank-owned deals have fallen out of escrow, however, because buyers tie up properties and try to give lenders haircuts, so the deals fall apart, explains Rooney. “There’s still volatility in that. You could buy from a replacement cost standpoint, but holding costs are tough to underwrite because the market is too unpredictable.

“It’s a game of poker with the banks,” Rooney adds. “You may get 20 offers on a building but 19 are so low-ball they’re not qualified. Lenders won’t bite. It’s just poker—you’re playing Texas Hold ‘Em, and the river card flies over and won’t take the amount.”

When transaction velocity does begin to pick up, though, “there will be a frenzy” to pick up assets, especially if people feel like they might be “missing out on bottom-of-market acquisitions,” Rooney forecasts.

But, like most other markets, investors need to be prepared to hold assets for the long term. “Property has come from hyper-flipperism—flipping properties once and twice in the same day. Today you’re buying as an investment and you’ll hold for five years,” asserts Baird.

Hitting bottom

Despite all this, Baird isn’t sure whether Sin City has hit bottom just yet. In fact, he believes it may be another year or two until the market begins to turn. “When everyone at the table is willingly there, then the bottom will have been reached and it will be over with,” he says. “Right now the lender and seller aren’t there willingly—only the buyer is.”

Meanwhile, Riverstone’s Rooney believes that the bottom has, in fact, already been hit, but there may be some bumps along the way to a recovery. He expects that 2010 will be similar, if not worse, to the previous year, as lenders become more willing to go into default and take back properties. But, he adds, deals that fell out of escrow in 2009 could close in 2010.

One bright spot for the city, however, notes Baird, is its proximity to California—“when jobs pick up in California, it will affect the economy in Vegas.” In addition, as taxes continue to increase in places like California and New York, for example, businesses will move to Las Vegas and Phoenix, Baird forecasts.

But the latter will likely turn before the former, LoBello predicts, “because it’s not as dependent on tourism and gaming—it’s more varied in economy. It’s not dependent on one source of revenue,” like Las Vegas.

City of Gold

A joint venture between MGM Mirage and Infinity World Development Corp., a subsidiary of Dubai World, CityCenter—Las Vegas’s 67-acre, $8 billion-plus “city within a city”—offers approximately 2,400 residences, divided between three buildings.

The Residences at Mandarin Oriental, designed by Kohn Pedersen Fox Associates, is comprised of 227 luxury condominiums, ranging in size from 1,000 to 4,000 sq. ft., that sit atop a 400-suite boutique hotel. Veer Towers, designed by Helmut Jahn, features two 37-story glass residential towers comprising 670 residences, ranging in size from 500 to 2,000 sq. ft. Vdara Condo Hotel is a 57-story, all-suite condo hotel and spa designed by RV Architecture LLC. It offers 1,543 residences, which, unlike the condominiums, the owner can rent out on a nightly basis—as opposed to an imposed six-month rental period, with no more than two rentals allowed per year.

Approximately 1,300 units had been sold or were under contract at press time, according to Tony Dennis, executive vice president of CityCenter’s residential division.

When sales first began in January 2007, it was a very different market, Dennis acknowledges. Given the changing market conditions, “we surveyed the marketplace to look at all multifamily developers to see what they were doing in response to the changing fortunes,” recalls Dennis. “We had the comfort of reflecting on those before us and learning from the gaps.”

As a result, CityCenter—which has received six LEED Gold certifications—reduced prices by 30 percent on all residential units and has added a seller-financing program to support buyers. In addition, the development is allowing buyers to downsize, providing them the opportunity to move vertically or horizontally across the three product offerings.

“Closings are still two to three times the most direct competition,” Dennis notes. “Had our price been [lower], we would close more rapidly.”

About two-thirds of the original target market was buyers from Nevada and California, notes Dennis. The remaining market comprised the rest of North America, as well as international buyers. However, Dennis points out, about 90 percent of buyers were “procured locally.” The original plan was “to keep it personal,” with most buyers aware of the offerings through word-of-mouth.

Though Dennis admits that the buyer pool needs to expand, he adds, “real estate is a local thing; people buy real estate in a certain marketplace because they are familiar with it—unless it’s a purely economic reason,” but CityCenter is not targeting the speculative buyer.

In the current market, “the investor buyer is less available in the short-term because, if they are looking for pure economic return, cash flow and otherwise, there may be opportunities that are more attractive. In the near term, we’re focused on those looking to live there.”

The first phase of deliveries, which began with Mandarin Oriental, recently commenced, with 10 closings to date and 20 more slated to follow in March. Closings at Vdara are expected to begin this month, followed by deliveries at Veer in April.

To comment, e-mail Erika Schnitzer at [email protected]